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The accompanying unaudited Consolidated Financial Statements of Sabine Pass LNG, L.P. have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial information and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. As used in these Notes to Consolidated Financial Statements, the terms “Sabine Pass LNG,”“the Company,”“we”, “us” and “our” refer to Sabine Pass LNG, L.P. and its wholly-owned subsidiaries, unless otherwise stated or indicated by context.
Results of operations for the three and six-month periods ended June 30, 2010 are not necessarily indicative of the results of operations that will be realized for the year ended December 31, 2010.
We are not a taxable entity for federal income tax purposes. As such, we do not directly pay federal income tax. Our taxable income or loss, which may vary substantially from the net income or loss reported in the Consolidated Statements of Operations, is includable in the federal income tax returns of each partner. The aggregate difference in the basis of our net assets for financial and income tax purposes cannot be readily determined as we do not have access to the information about each partner’s tax attributes related to us.
Certain reclassifications have been made to prior period information to conform to the current presentation. The reclassifications had no effect on our overall consolidated financial position, results of operations or cash flows.
For further information, refer to the consolidated financial statements and accompanying notes included in our annual report on Form 10-K for the year ended December 31, 2009.
NOTE 2—LNG Inventory and Advances to Affiliate—LNG Inventory
Liquified natural gas (“LNG”) inventory and advances to affiliate—LNG inventory are recorded at cost and are subject to lower of cost or market (“LCM”) adjustments at the end of each period. Inventory cost is determined using the average cost method. Recoveries of losses resulting from interim period LCM adjustments are made due to market price recoveries on the same inventory in the same fiscal year and are recognized as gains in later interim periods with such gains not exceeding previously recognized losses. At June 30, 2010 and December 31, 2009, we had $0.5 million and $1.5 million, respectively, of LNG inventory on our Consolidated Balance Sheets. At June 30, 2010 and December 31, 2009, we had zero and $1.3
million, respectively, of advances to affiliate—LNG inventory on our Consolidated Balance Sheets.
NOTE 3—Restricted Cash and Cash Equivalents
Restricted cash and cash equivalents consist of cash and cash equivalents that are contractually restricted as to usage or withdrawal, as follows:
We have issued an aggregate principal amount of $2,215.5 million of Senior Notes (See Note 6—“Long-Term Debt (including related party)”). Under the indenture governing the Senior Notes, except for permitted tax distributions, we may not make distributions until certain conditions are satisfied: there must be on deposit in an interest payment account an amount equal to one-sixth of the semi-annual interest payment multiplied by the number of elapsed months since the last semi-annual interest payment and there must be on deposit in a permanent debt service reserve fund an amount equal to one semi-annual interest payment of $82.4 million. Distributions are permitted only after satisfying the foregoing funding requirements, a fixed charge coverage ratio test of 2:1 and other conditions specified in the Sabine Pass Indenture.
As of June 30, 2010 and December 31, 2009, we classified $13.7 million as current restricted cash and cash equivalents for the payment of interest due within twelve months. As of June 30, 2010 and December 31, 2009, we classified the permanent debt service reserve fund of $82.4 million as non-current restricted cash and cash equivalents. These cash accounts are controlled by a collateral trustee, and therefore, are shown as restricted cash and cash equivalents on our Consolidated Balance Sheets.
We began depreciating equipment and facilities associated with our LNG receiving terminal when costs were ready for use. Depreciation expense related to our LNG receiving terminal totaled $20.8 million and $13.6 million for the six-month periods ended June 30, 2010 and 2009, respectively.
In November 2006, we issued an aggregate principal amount of $2,032.0 million of Senior Notes, consisting of $550.0 million of 7¼% Senior Secured Notes due 2013 (the “2013 Notes”) and $1,482.0 million of 7½% Senior Secured Notes due 2016 (the “2016 Notes” and collectively with the 2013 Notes, the “Senior Notes”). In September 2008, we issued an additional $183.5 million, before discount, of 2016 Notes whose terms were identical to the previously outstanding 2016 Notes. The net proceeds received from the additional issuance of 2016 Notes were $145.0 million. The additional issuance and the previously outstanding 2016 Notes are treated as a single series of notes under the indenture governing the Senior Notes (“Sabine Pass Indenture”).
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
(unaudited)
Interest on the Senior Notes is payable semi-annually in arrears on May 30 and November 30 of each year. The Senior Notes are secured on a first-priority basis by a security interest in all of our equity interests and substantially all of our operating assets. Under the Sabine Pass Indenture, except for permitted tax distributions, we may not make distributions until certain conditions are satisfied: there must be on deposit in an interest payment account an amount equal to one-sixth of the semi-annual interest payment multiplied by the number of elapsed months since the last semi-annual interest payment, and there must be on deposit in a permanent debt service reserve fund an amount equal to one semi-annual interest payment of $82.4 million. Distributions are permitted only after satisfying the foregoing funding requirements, a fixed
charge coverage ratio test of 2:1 and other conditions specified in the Sabine Pass Indenture. During the three and six-month periods ended June 30, 2010, we made distributions of $105.1 million and $211.8 million, respectively, to our owners after satisfying all of the applicable conditions in the Sabine Pass Indenture. During the three and six-month periods ended June 30, 2009, we made distributions of $73.0 million and $149.3 million, respectively, to our owners after satisfying all of the applicable conditions in the Sabine Pass Indenture.
NOTE 7—Financial Instruments
Derivative Instruments
On our behalf, Cheniere Marketing, LLC (“Cheniere Marketing”) has entered into financial derivatives to hedge the exposure to variability in expected future cash flows attributable to the future sale of LNG inventory. Changes in the fair value of our derivatives are reported in earnings because they do not meet the criteria to be designated as a hedging instrument that is required to qualify for cash flow hedge accounting. The estimated fair value of financial instruments is the amount at which the instrument could be exchanged currently between willing parties. We had no open financial derivative instruments at June 30, 2010.
Other Financial Instruments
The estimated fair value of financial instruments, including those financial instruments for which the fair value option was not elected are set forth in the table below. The carrying amounts reported on our Consolidated Balance Sheets for restricted cash and cash equivalents, accounts receivable, interest receivables and accounts payable approximate fair value due to their short-term nature.
The fair value of the Senior Notes, net of discount, was based on quotations obtained from broker-dealers who made markets in these and similar instruments as of June 30, 2010 and December 31, 2009, as applicable.
NOTE 8—Related Party Transactions
As of June 30, 2010 and December 31, 2009, we had $0.9 million and $5.4 million of advances to affiliates, respectively. In addition, we have entered into the following related party transactions:
Terminal Use Agreement
In November 2006, Cheniere Marketing reserved approximately 2.0 billion cubic feet per day (“Bcf/d”) of regasification capacity under a firm commitment terminal use agreement (“TUA”) with us and was required to make capacity reservation fee payments aggregating approximately $250 million per year for the period from January 1, 2009, through at least September 30, 2028. Cheniere Energy, Inc. (“Cheniere”) guaranteed Cheniere Marketing’s obligations under its TUA.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
(unaudited)
In June 2010, Cheniere Marketing assigned its existing TUA with us to Cheniere Energy Investments, LLC (“Investments”), a wholly owned subsidiary of Cheniere Energy Partners, L.P. (“Cheniere Partners”), including all of its rights, titles, interests, obligations and liabilities in and under the TUA. In connection with the assignment, Cheniere’s guarantee of Cheniere Marketing’s obligations under the TUA was terminated. Investments is required to make capacity payments under the TUA aggregating approximately $250 million per year through at least September 30, 2028. Cheniere Partners has guaranteed Investments’ obligations under its TUA.
LNG Lease Agreement
In September 2008, we entered into an agreement in the form of a lease with Cheniere Marketing that enabled us to hedge the exposure to variability in expected future cash flows of its commissioning cargoes. The agreement permitted Cheniere Marketing to deliver LNG to our receiving terminal and to receive regasified LNG for redelivery as natural gas in exchange for the use of the properties of the LNG to cool down our LNG receiving terminal. Under the terms of the agreement, we paid Cheniere Marketing a fixed fee based on the delivered quantity of LNG in each LNG cargo. We assumed full price risk of the purchase and sale of the LNG and also financed all activities relating to the LNG. Cheniere Marketing held title to the LNG at all times and sold all redelivered LNG and remitted the net proceeds from such sales back to us.
Advances to affiliate—LNG inventory is recorded at cost and is subject to lower of cost or market (“LCM”) adjustments at the end of each period. Inventory cost is determined using the average cost method. Recoveries of losses resulting from interim period LCM adjustments are made due to market price recoveries on the same inventory in the same fiscal year and are recognized as gains in later interim periods with such gains not exceeding previously recognized losses. At June 30, 2010 and December 31, 2009, we had zero and $1.3 million, respectively, advances to affiliate—LNG inventory on our Consolidated Balance Sheets.
During the three and six-month periods ended June 30, 2010 and 2009, we incurred fixed fees from Cheniere Marketing of zero and $0.3 million, respectively.
Service Agreements
In February 2005, we entered into a 20-year operation and maintenance agreement with a wholly-owned subsidiary of Cheniere pursuant to which we receive all necessary services required to construct, operate and maintain our LNG receiving terminal. We are required to pay a fixed monthly fee of $130,000 (indexed for inflation) under the agreement, and the counterparty is entitled to a bonus equal to 50% of the salary component of labor costs in certain circumstances to be agreed upon between us and the counterparty at the beginning of each operating year. In addition, we are required to reimburse the counterparty for its operating expenses, which consist primarily of labor expenses.
In February 2005, we entered into a 20-year management services agreement with our general partner, which is a wholly-owned subsidiary of Cheniere Partners, pursuant to which our general partner was appointed to manage the construction and operation of our LNG receiving terminal, excluding those matters provided for under the operation and maintenance agreement described in the paragraph above. In August 2008, our general partner assigned all of its rights and obligations under the management services agreement to Cheniere LNG Terminals, Inc. (“Cheniere Terminals”), a wholly-owned subsidiary of Cheniere. We are required to pay Cheniere Terminals a monthly fixed fee of $520,000 (indexed for inflation).
During the three-month periods ended June 30, 2010 and 2009, we paid an aggregate of $2.0 million and $1.8 million, respectively, under the foregoing service agreements. During the six-month periods ended June 30, 2010 and 2009, we paid an aggregate of $4.0 million and $4.2 million, respectively.
Agreement to Fund Our Cooperative Endeavor Agreements
In July 2007, we executed Cooperative Endeavor Agreements (“CEAs”) with various Cameron Parish, Louisiana taxing authorities that allow them to collect certain annual property tax payments from us in 2007 through 2016. This ten-year initiative represents an aggregate $25.0 million commitment and will make resources available to the Cameron Parish taxing authorities on an accelerated basis in order to aid in their reconstruction efforts following Hurricane Rita. In exchange for our payments of annual ad valorem taxes, Cameron Parish will grant us a dollar for dollar credit against future ad valorem taxes to be levied against our LNG receiving terminal starting in 2019. In September 2007, we modified our TUA with Cheniere Marketing, pursuant to which Cheniere Marketing will pay us additional TUA revenues equal to any and all
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-Continued
(unaudited)
amounts payable under the CEAs in exchange for a similar amount of credits against future TUA payments it would owe us under its TUA starting in 2019. In June 2010, Cheniere Marketing assigned its existing TUA with Investments and concurrently entered into a Variable Capacity Rights Agreement (“VCRA”), allowing Cheniere Marketing to continue to monetize Investments’ capacity under the TUA after the assignment. The VCRA provides that Cheniere Marketing will continue to fund the CEAs during the term of the VCRA and in exchange Cheniere Marketing will receive any future credits.
On a consolidated basis, these TUA payments were recorded to other assets, and payments from Cheniere Marketing that we utilized to make the ad valorem tax payments were recorded as deferred revenue. As of June 30, 2010 and December 31, 2009, we had $9.8 million and $7.4 million of other assets and deferred revenue resulting from our ad valorem tax payments and the advance TUA payments received from Cheniere Marketing, respectively.
In 2007, we entered into a number of related party agreements for the purchase and sale of natural gas with Cheniere Marketing. During the three and six-month periods ended June 30, 2010 and 2009, we sold or purchased natural gas for fuel under an agreement with Cheniere Marketing. Under this agreement, we purchase natural gas from Cheniere Marketing to use as fuel at our LNG receiving terminal at a sales price equal to the actual purchase cost paid by Cheniere Marketing to suppliers of the natural gas less any third-party costs incurred by Cheniere Marketing in respect of the receipt, purchase, and delivery of the natural gas to our LNG receiving terminal and less an administrative fee paid to Cheniere Marketing. We purchased $0.8 million of natural gas from Cheniere Marketing under this contract
for the three and six-month periods ended June 30, 2010. We did not purchase any natural gas from Cheniere Marketing under this contract for the three and six-month periods ended June 30, 2009.
NOTE 9—Supplemental Cash Flow Information and Disclosures of Non-Cash Transactions
The following table provides supplemental disclosure of cash flow information (in thousands):
Cash paid for interest, net of amounts capitalized
$
82,364
$
62,014
Construction in process and debt issuance additions funded with accrued liabilities
—
25,217
9
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INFORMATION REGARDING FORWARD-LOOKING STATEMENTS
This quarterly report contains certain statements that are, or may be deemed to be, “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). All statements, other than statements of historical fact, included herein or incorporated herein by reference are “forward-looking statements.” Included among “forward-looking statements” are, among other things:
•
statements regarding future levels of domestic natural gas production, supply or consumption; future levels of liquefied natural gas (“LNG”) imports into North America; sales of natural gas in North America; and the transportation, other infrastructure or prices related to natural gas, LNG or other energy sources;
•
statements regarding any financing transactions or arrangements, or ability to enter into such transactions or arrangements;
•
statements regarding any terminal use agreement (“TUA”) or other agreements to be entered into or performed substantially in the future, including any cash distributions and revenues anticipated to be received and the anticipated timing thereof, and statements regarding the amounts of total LNG regasification or storage capacity that are, or may become, subject to TUAs or other contracts;
•
statements regarding counterparties to our TUAs, construction contracts and other contracts;
•
statements regarding any business strategy, any business plans or any other plans, forecasts, projections or objectives, any or all of which are subject to change;
•
statements regarding legislative, governmental, regulatory, administrative or other public body actions, requirements, permits, investigations, proceedings or decisions; and
•
any other statements that relate to non-historical or future information.
These forward-looking statements are often identified by the use of terms such as “achieve,”“anticipate,”“believe,”“estimate,”“expect,”“forecast,”“intend,”“plan,”“potential,”“project,”“propose,”“strategy” and similar terms. Although we believe that the expectations reflected in these forward-looking statements are reasonable, they involve assumptions, risks and uncertainties, and these expectations may prove to be incorrect. You should not place undue reliance on these forward-looking statements, which speak only as of the date of this quarterly report.
Our actual results could differ materially from those anticipated in these forward-looking statements as a result of a variety of factors, including those discussed under “Risk Factors” in our current report on Form 8-K dated as of the date of this quarterly report. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by these risk factors. Other than as required under the securities laws, we assume no obligation to update or revise these forward-looking statements or provide reasons why actual results may differ.
10
Introduction
The following discussion and analysis presents management’s view of our business, financial condition and overall performance and should be read in conjunction with our consolidated financial statements and the accompanying notes in Item 1. “Consolidated Financial Statements.” This information is intended to provide investors with an understanding of our past performance, current financial condition and outlook for the future.
Our discussion and analysis includes the following subjects:
• Overview of Business
• Liquidity and Capital Resources
• Results of Operations
• Off-Balance Sheet Arrangements
• Summary of Critical Accounting Policies and Estimates
• Recent Accounting Standards
Overview of Business
In 2003, we were formed by Cheniere Energy, Inc. (“Cheniere”) to own, develop and operate the Sabine Pass LNG receiving terminal. We are a Houston-based partnership formed with one general partner, Sabine Pass LNG-GP, LLC (“Sabine Pass GP”), formerly Sabine Pass LNG-GP, Inc., an indirect subsidiary of Cheniere, and one limited partner, Sabine Pass LNG-LP, LLC (“Sabine Pass LNG-LP”), an indirect subsidiary of Cheniere. Cheniere has a 90.6% ownership interest in Cheniere Energy Partners, L.P. (“Cheniere Partners”), which is the 100% parent of Sabine Pass GP and Sabine Pass LNG-LP and, indirectly, us.
Following the achievement of commercial operability of our LNG receiving terminal in September 2008, we began receiving capacity reservation fee payments from Cheniere Marketing, LLC (“Cheniere Marketing”), a wholly-owned subsidiary of Cheniere, under its TUA. In December 2008, Cheniere Marketing began paying us its monthly capacity reservation fee payment on a quarterly basis. We also began receiving monthly capacity reservation fee payments from Total Gas and Power North America, Inc. (formerly known as Total LNG USA, Inc.) (“Total”) and Chevron U.S.A., Inc. (“Chevron”) under their TUAs in March 2009 and June 2009, respectively.
In June 2010, Cheniere Marketing assigned its existing TUA with us to Cheniere Energy Investments, LLC (“Investments”), a wholly owned subsidiary of Cheniere Partners, including all of its rights, titles, interests, obligations and liabilities in and under the TUA, as amended, between Cheniere Marketing and us. In connection with the assignment, Cheniere’s guarantee of Cheniere Marketing’s obligations under the TUA was terminated. Investments is required to make capacity payments aggregating approximately $250 million per year through at least September 30, 2028. Cheniere Partners has guaranteed Investments’ obligations under its TUA.
Our Business
Our LNG receiving terminal has regasification capacity of approximately 4.0 billion cubic feet per day (“Bcf/d”) and five LNG storage tanks with an aggregate LNG storage capacity of approximately 16.9 Bcf along with two unloading docks capable of handling the largest LNG carriers currently being operated or built. Construction of our LNG receiving terminal commenced in March 2005. We achieved full operability with total sendout capacity of approximately 4.0 Bcf/d and storage capacity of approximately 16.9 Bcf during the third quarter of 2009.
11
Liquidity and Capital Resources
Cash and Cash Equivalents
As of June 30, 2010, we had $17.0 million in cash and cash equivalents and $96.1 million in restricted cash and cash equivalents, which is restricted to pay interest on the Senior Notes described below.
The foregoing funds are anticipated to be sufficient to fund operating expenditures and interest requirements. Regardless whether we receive revenues from Investments (or Cheniere Partners, as guarantor), we expect to have sufficient cash flow from payments made under our Total and Chevron TUAs to allow us to meet our future operating expenditures and interest payment requirements until maturity of the 2013 Notes. However, we must satisfy certain restrictions under the Sabine Pass Indenture governing the Senior Notes before being able to make distributions to our limited partner, which will require that Investments make a substantial portion of its TUA payments to us. Investments has a limited operating history, limited capital and no credit rating. If we are unable to make cash distributions to our limited
partner, then Investments will likely be unable to meet its ongoing TUA payments and Cheniere Partners would not be able to satisfy its guarantee obligations to us.
TUA Revenues
The entire approximately 4.0 Bcf/d of regasification capacity at our LNG receiving terminal has been fully reserved under two 20-year, firm commitment TUAs with unaffiliated third parties, and a third TUA with Investments. Each of the three customers at our LNG receiving terminal must make the full contracted amount of capacity reservation fee payments under its TUA whether or not it uses any of its reserved capacity. Capacity reservation fee TUA payments are made by our third-party customers as follows:
•
Total has reserved approximately 1.0 Bcf/d of regasification capacity and has agreed to make monthly capacity payments to us aggregating approximately $125 million per year for 20 years that commenced on April 1, 2009. Total, S.A. has guaranteed Total’s obligations under its TUA up to $2.5 billion, subject to certain exceptions; and
•
Chevron has reserved approximately 1.0 Bcf/d of regasification capacity and has agreed to make monthly capacity payments to us aggregating approximately $125 million per year for 20 years that commenced on July 1, 2009. Chevron Corporation has guaranteed Chevron’s obligations under its TUA up to 80% of the fees payable by Chevron.
In June 2010, we entered into amendments of the TUAs with Total and Chevron for the purpose of clarifying various operational rights and obligations of the parties. In connection with these amendments, Total and Chevron have agreed to minimum pro rata inventory obligations as necessary to ensure cryogenic readiness of our LNG receiving terminal and to mitigate the effects of inventory weathering. In addition, Total and Chevron have each agreed to daily boil-off gas re-delivery obligations, service fees related to the compression services associated with minimization of their respective daily boil-off gas re-delivery obligations and pro-rata obligations for the incremental fuel associated with these compression services. Additional items clarified in these amendments include the recognition of inventory transfers between parties and procedural obligations related to daily and monthly informational postings, gas re-delivery
and vessel nominations and delivery point flexibility.
Each of Total and Chevron previously paid us $20.0 million in nonrefundable advance capacity reservation fees, which are being amortized over a 10-year period as a reduction of each customer’s regasification capacity reservation fees payable under its respective TUA.
In addition, pursuant to the assignment agreement with Cheniere Marketing as discussed above, Investments has reserved the remaining 2.0 Bcf/d of regasification capacity and 6.9 Bcfe of storage capacity at our LNG receiving terminal. Investments is required to make capacity payments aggregating approximately $250 million per year through at least September 30, 2028. Cheniere Partners has guaranteed Investments’ obligations under its TUA.
Under each of these TUAs, we are entitled to retain 2% of the LNG delivered for the customer’s account, which we will use primarily as fuel for revaporization and self-generated power at our LNG receiving terminal.
12
Sources and Uses of Cash
The following table summarizes the sources and uses of our cash and cash equivalents for the six-month periods ended June 30, 2010 and 2009 (in thousands). The table presents capital expenditures on a cash basis; therefore, these amounts differ from the amounts of capital expenditures, including accruals, that are referred to elsewhere in this report. Additional discussion of these items follows the table.
Advances to affiliate—LNG held for commissioning, net of transfers to LNG receiving terminal construction-in-process
—
(14,184
)
Other
(58
)
(168
)
Total uses of cash and cash equivalents
(213,369
)
(227,356
)
NET DECREASE IN CASH AND CASH EQUIVALENTS
(100,450
)
(66,097
)
CASH AND CASH EQUIVALENTS—beginning of period
117,411
194,827
CASH AND CASH EQUIVALENTS—end of period
$
16,961
$
128,730
Operating cash flow
Operating cash flow increased $22.7 million for the six-month period ended June 30, 2010 compared to the same period in 2009. The increase in operating cash flow was a result of obtaining full TUA reservation fee payments from Total and Chevron in the first six months of 2010 compared to receiving four payments from Total and one payment from Chevron in the first six months of 2009, which resulted in $73.9 million of increased operating cash flow. This increase was offset by a decrease in TUA payments that we received from affiliates. In 2009, Cheniere Marketing began making its TUA payments, on a voluntary basis, quarterly; however, in June 2010, after the assignment of the TUA from Cheniere Marketing to Investments, Investments began making its TUA payment on a monthly basis. This change in the timing of affiliate TUA payments resulted in a $41.9 million decrease in operating
cash flow for the six-month period ended June 30, 2010 compared to the same period in 2009. The remaining changes in operating cash flow resulted primarily from timing in operating and maintenance payments.
Use of restricted cash and cash equivalents
For the six-month period ended June 30, 2009, $71.1 million of restricted cash and cash equivalents was used to make scheduled interest payments and to pay construction activities at our LNG receiving terminal.
The decreased use of restricted cash and cash equivalents during the six-month period ended June 30, 2010 primarily resulted from substantial completion of our LNG receiving terminal’s construction activities during the third quarter of 2009.
Distributions to owners
During the six-month periods ended June 30, 2010 and 2009, we made $211.8 million and $149.3 million, respectively, in distributions to our owners after satisfying conditions in the Sabine Pass Indenture discussed below.
LNG receiving terminal construction-in-process, net
LNG receiving terminal construction-in-process, net (“CIP”) decreased $62.2 million for the six-month period ended June 30, 2010 compared to the same period in 2009. The decrease in CIP resulted from substantial completion of our LNG receiving terminal’s construction activities during the third quarter of 2009.
13
Advances to affiliate—LNG held for commissioning, net of amounts transferred to LNG receiving terminal construction-in-process
During the six-month periods ended June 30, 2010 and 2009, we advanced zero and $14.2 million, respectively, for LNG commissioning cargoes, net of amounts transferred to CIP.
Debt Agreements
Senior Notes
We have issued an aggregate principal amount of $2,215.5 million of Senior Notes consisting of $550.0 million of 7¼% Senior Secured Notes due 2013 and $1,665.5 million of 7½% Senior Secured Notes due 2016. Interest on the Senior Notes is payable semi-annually in arrears on May 30 and November 30 of each year. The Senior Notes are secured on a first-priority basis by a security interest in all of our equity interests and substantially all of our operating assets. Under the Sabine Pass Indenture governing the Senior Notes, except for permitted tax distributions, we may not make distributions until certain conditions are satisfied: there must be on deposit in an interest payment account an amount equal to one-sixth of the semi-annual interest payment multiplied by the number of elapsed months since the last semi-annual interest payment,
and there must be on deposit in a permanent debt service reserve fund an amount equal to one semi-annual interest payment of $82.4 million. Distributions are permitted only after satisfying the foregoing funding requirements, a fixed charge coverage ratio test of 2:1 and other conditions specified in the Sabine Pass Indenture. During the three and six-month periods ended June 30, 2010, we made distributions of $105.1 million and $211.8 million, respectively, to our owners after satisfying all of the applicable conditions in the Sabine Pass Indenture. During the three and six-month periods ended June 30, 2009, we made distributions of $73.0 million and $149.3 million, respectively, to our owners
after satisfying all of the applicable conditions in the Sabine Pass Indenture.
Services Agreements
In February 2005, we entered into a 20-year operation and maintenance agreement with a wholly-owned subsidiary of Cheniere pursuant to which we receive all necessary services required to construct, operate and maintain our LNG receiving terminal. We are required to pay a fixed monthly fee of $130,000 (indexed for inflation) under the agreement, and the counterparty is entitled to a bonus equal to 50% of the salary component of labor costs in certain circumstances to be agreed upon between us and the counterparty at the beginning of each operating year. In addition, we are required to reimburse the counterparty for its operating expenses, which consist primarily of labor expenses.
In February 2005, we entered into a 20-year management services agreement with our general partner, which is a wholly-owned subsidiary of Cheniere Partners, pursuant to which our general partner was appointed to manage the construction and operation of our LNG receiving terminal, excluding those matters provided for under the operation and maintenance agreement described in the paragraph above. In August 2008, our general partner assigned all of its rights and obligations under the management services agreement to Cheniere LNG Terminals, Inc. (“Cheniere Terminals”), a wholly-owned subsidiary of Cheniere. We are required to pay Cheniere Terminals a monthly fixed fee of $520,000 (indexed for inflation).
During the three-month periods ended June 30, 2010 and, 2009, we paid an aggregate of $2.0 million and $1.8 million respectively, under the foregoing service agreements from restricted cash and cash equivalents. During the six-month periods ended June 30, 2010 and 2009, we paid an aggregate of $4.0 million and $4.2 million, respectively, under the foregoing service agreements from restricted cash and cash equivalents.
State Tax Sharing Agreement
In November 2006, we entered into a state tax sharing agreement with Cheniere effective for tax returns first due on or after January 1, 2008. Under this agreement, Cheniere has agreed to prepare and file all Texas franchise tax returns which it and we are required to file on a combined basis and to timely pay the combined tax liability. If Cheniere, in its sole discretion, demands payment, we will pay to Cheniere an amount equal to the Texas franchise tax that we would be required to pay if our Texas franchise tax liability were computed on a separate company basis. This agreement contains similar provisions for other state and local taxes that we and Cheniere are required to file on a combined, consolidated or unitary basis.
Our consolidated net income increased $18.5 million, from $44.9 million in the three-month period ended June 30, 2009 to $63.4 million in the three-month period ended June 30, 2010. This increase in net income primarily resulted from the commencement of services under our Chevron TUA beginning on July 1, 2009. This increase was partially offset by increases in operating expenses, depreciation expense and interest expense resulting from completing construction and placing our LNG receiving terminal into operation during 2009.
Revenues
Revenues increased $34.1 million, from $95.7 million in the three-month period ended June 30, 2009 to $129.8 million in the three-month period ended June 30, 2010. This increase primarily resulted from the commencement of services under our Chevron TUA beginning on July 1, 2009.
Operating and Maintenance Expense (including Affiliate Expense)
Operating and maintenance expense (including affiliate expense) increased $0.6 million, from $8.7 million in the three-month period ended June 30, 2009 to $9.3 million in the three-month period ended June 30, 2010. This increase primarily resulted from the achievement of full operability of our LNG receiving terminal with approximately 4.0 Bcf/d of total sendout capacity and five LNG storage tanks with approximately 16.9 Bcf of aggregate storage capacity in the third quarter of 2009.
Depreciation Expense
Depreciation expense increased $3.4 million, from $7.2 million in the three-month period ended June 30, 2009 to $10.6 million in the three-month period ended June 30, 2010. This increase resulted from beginning to depreciate the costs associated with the achievement of full operability of our LNG receiving terminal in the third quarter of 2009.
Interest Expense, net
Interest expense, net of amounts capitalized, increased $10.2 million, from $33.4 million in the three-month period ended June 30, 2009 to $43.6 million in the three-month period ended June 30, 2010. This increase resulted from the achievement of full operability of our LNG receiving terminal in the third quarter of 2009, which reduced the amount of interest expense that was capitalized.
Our consolidated net income increased $64.5 million, from $61.4 million in the six-month period ended June 30, 2009 to $125.9 million in the six-month period ended June 30, 2010. This increase in net income primarily resulted from the commencement of services under our Total TUA beginning on April 1, 2009 and our Chevron TUA beginning on July 1, 2009. This increase was partially offset by increases in operating expenses, depreciation expense and interest expense resulting from completing construction and placing our LNG receiving terminal into operation during 2009.
Revenues
Revenues increased $102.3 million, from $158.2 million in the six-month period ended June 30, 2009 to $260.5 million in the six-month period ended June 30, 2010. This increase primarily resulted from the commencement of services under our Total TUA beginning on April 1, 2009 and our Chevron TUA beginning on July 1, 2009.
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Operating and Maintenance Expense (including Affiliate Expense)
Operating and maintenance expense (including affiliate expense) increased $5.1 million, from $15.3 million in the six-month period ended June 30, 2009 to $20.4 million in the six-month period ended June 30, 2010. This increase primarily resulted from the achievement of full operability of our LNG receiving terminal with approximately 4.0 Bcf/d of total sendout capacity and five LNG storage tanks with approximately 16.9 Bcf of aggregate storage capacity in the third quarter of 2009.
Depreciation Expense
Depreciation expense increased $7.3 million, from $13.8 million in the six-month period ended June 30, 2009 to $21.1 million in the six-month period ended June 30, 2010. This increase resulted from beginning to depreciate the costs associated with the achievement of full operability of our LNG receiving terminal in the third quarter of 2009.
Interest Expense, net
Interest expense, net of amounts capitalized, increased $20.8 million, from $66.3 million in the six-month period ended June 30, 2009 to $87.1 million in the six-month period ended June 30, 2010. This increase resulted from the achievement of full operability of our LNG receiving terminal in the third quarter of 2009, which reduced the amount of interest expense that was capitalized.
Off-Balance Sheet Arrangements
As of June 30, 2010, we had no “off-balance sheet arrangements” that may have a current or future material affect on our consolidated financial position or results of operations.
Summary of Critical Accounting Policies and Estimates
The selection and application of accounting policies is an important process that has developed as our business activities have evolved and as the accounting rules have developed. Accounting rules generally do not involve a selection among alternatives but involve an implementation and interpretation of existing rules, and the use of judgment, to apply the accounting rules to the specific set of circumstances existing in our business. In preparing our consolidated financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”), we endeavor to comply properly with all applicable rules on or before their adoption, and we believe that the proper implementation and consistent application of the accounting rules are critical. However, not all situations are specifically addressed in the accounting literature. In these cases, we must use our best judgment to adopt a policy for accounting for
these situations. We accomplish this by analogizing to similar situations and the accounting guidance governing them.
Accounting for LNG Activities
Generally, expenditures for direct construction activities, major renewals and betterments are capitalized, while expenditures for maintenance and repairs and general and administrative activities are charged to expense as incurred.
We capitalized interest and other related debt costs during the construction period of our LNG receiving terminal. Upon commencement of operations, capitalized interest, as a component of the total cost, has been amortized over the estimated useful life of the asset.
Revenue Recognition
LNG regasification capacity reservation fees are recognized as revenue over the term of the respective TUAs. Advance capacity reservation fees are initially deferred and amortized over a 10-year period as a reduction of a customer’s regasification capacity reservation fees payable under its TUA. The retained 2% of LNG delivered for each customer’s account at our LNG receiving terminal is recognized as revenues as we perform the services set forth in each customer’s TUA.
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Use of Estimates
The preparation of consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions that affect the amounts reported in the consolidated financial statements and the accompanying notes. Actual results could differ from our estimates and assumptions used.
Items subject to estimates and assumptions include, but are not limited to, the carrying amount of property, plant and equipment. Actual results could differ significantly from our estimates.
Recent Accounting Standards
In January 2010, the Financial Accounting Standards Board (“FASB”) issued authoritative guidance which requires additional disclosures and clarifies certain existing disclosure requirements regarding fair value measurements. This guidance is effective for interim and annual reporting periods beginning after December 15, 2009. We adopted this guidance effective January 1, 2010. However, none of the specific additional disclosure requirements were applicable to us at the time of filing this report. See Note 7—“Financial Instruments” for our fair value measurement disclosures.
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
Cash Investments
We have cash investments that we manage based on internal investment guidelines that emphasize liquidity and preservation of capital. Such cash investments are stated at historical cost, which approximates fair market value on our Consolidated Balance Sheets.
Marketing and Trading Commodity Price Risk
On behalf of Sabine Pass LNG, Cheniere Marketing has entered into exchange cleared NYMEX natural gas swaps to hedge the exposure to variability in expected future cash flows related to commissioning cargoes purchased by Cheniere Marketing that were or are expected to be sold as part of the testing phase of the commissioning process and operations. We use value at risk (“VaR”) and other methodologies for market risk measurement and control purposes. The VaR is calculated using the Monte Carlo simulation method. At June 30, 2010 and December 31, 2009, the one-day VaR with a 95% confidence interval on our derivative positions was zero and less than $0.1 million, respectively.
As of June 30, 2010, Cheniere Marketing, on behalf of Sabine Pass LNG, had entered into no financial derivative instruments.
Item 4.
Disclosure Controls and Procedures
We maintain a set of disclosure controls and procedures that are designed to ensure that information required to be disclosed by us in the reports filed by us under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. As of the end of the period covered by this report, we evaluated, under the supervision and with the participation of our general partner’s management, including our general partner’s Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures pursuant to Rule 13a-15 of the Exchange Act. Based on that evaluation, our general partner’s Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective.
During the most recent fiscal quarter, there have been no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
Item 1.
Legal Proceedings
In the future, we may be involved as a party to various legal proceedings, which are incidental to the ordinary course of business. We regularly analyze current information and, as necessary, provide accruals for probable liabilities on the eventual disposition of these matters. In the opinion of management of our general partner and legal counsel, as of June 30, 2010, there were no known threatened or pending legal matters that could reasonably be expected to have a material adverse impact on our results of operations, financial position or cash flows.
Item 1A.
Risk Factors
We have updated our Risk Factors in a Current Report on Form 8-K dated as of the date of this quarterly report, which are incorporated herein by reference.
Item 6.
Exhibits
3.1*
Sixth Amended and Restated Agreement of Limited Partnership of Sabine Pass LNG, L.P., dated June 30, 2010
10.1
Termination Agreement, dated June 24, 2010, by and among Sabine Pass LNG, L.P., Cheniere Marketing, LLC and JPMorgan LNG Co. (Incorporated by reference to Exhibit 10.9 to the Quarterly Report on Form 10-Q of Cheniere Energy, Inc. (SEC File No. 001-16383), filed on August 6, 2010)
10.2
Amendment of LNG Terminal Use Agreement, dated June 15, 2010, by and between Total Gas & Power North America, Inc. and Sabine Pass LNG, L.P. (Incorporated by reference to Exhibit 10.10 to the Quarterly Report on Form 10-Q of Cheniere Energy, Inc. (SEC File No. 001-16383), filed on August 6, 2010)
10.3
Amendment of LNG Terminal Use Agreement, dated June 16, 2010, by and between Chevron U.S.A. Inc. and Sabine Pass LNG, L.P. (Incorporated by reference to Exhibit 10.11 to the Quarterly Report on Form 10-Q of Cheniere Energy, Inc. (SEC File No. 001-16383), filed on August 6, 2010)
31.1*
Certification by Chief Executive Officer required by Rule 13a-14(a) and 15d-14(a) under the Exchange Act
31.2*
Certification by Chief Financial Officer required by Rule 13a-14(a) and 15d-14(a) under the Exchange Act
32.1**
Certification by Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2**
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
SABINE PASS LNG, L.P.
By: Sabine Pass LNG-GP, LLC, its general partner
/s/ JERRY D. SMITH
Jerry D. Smith
Chief Accounting Officer of Sabine Pass LNG-GP, LLC,
general partner of Sabine Pass LNG, L.P.
(on behalf of the registrant and as principal accounting officer)
