PennTex Midstream Partners, LP
PennTex Midstream Partners, LP (Form: S-1/A, Received: 05/26/2015 08:02:56)
Table of Contents

As filed with the Securities and Exchange Commission on May 26, 2015

Registration No. 333-199020

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Amendment No. 8

to

FORM S-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 

PENNTEX MIDSTREAM PARTNERS, LP

(Exact Name of Registrant as Specified in Its Charter)

Delaware   4922   47-1669563
(State or Other Jurisdiction of
Incorporation or Organization)
  (Primary Standard Industrial
Classification Code Number)
  (IRS Employer
Identification Number)

 

11931 Wickchester Ln., Suite 300

Houston, TX 77043

(832) 456-4000

(Address, Including Zip Code, and Telephone Number, Including Area Code, of Registrant’s Principal Executive Offices)

 

Stephen M. Moore

11931 Wickchester Ln., Suite 300

Houston, TX 77043

(832) 456-4000

(Name, Address, Including Zip Code, and Telephone Number, Including Area Code, of Agent for Service)

Copies to:

Ryan J. Maierson

Debbie P. Yee
Latham & Watkins LLP
811 Main Street, Suite 3700
Houston, Texas 77002
(713) 546-5400

  Douglas E. McWilliams
Alan Beck
Vinson & Elkins L.L.P.
1001 Fannin, Suite 2500
Houston, Texas 77002
(713) 758-3613

 

Approximate date of commencement of proposed sale to the public: As soon as practicable after this registration statement becomes effective.

 

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. ¨

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. ¨

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

Large accelerated filer ¨

   Accelerated filer  ¨

Non-accelerated filer x (Do not check if a smaller reporting company)

   Smaller reporting company  ¨

CALCULATION OF REGISTRATION FEE

 

Title of Each Class of

Securities to be Registered

 

Amount to be

Registered(1)

 

Proposed Maximum

Offering Price
Per Unit(2)

  Proposed Maximum
Aggregate Offering
Price(1)(2)
 

Amount of

Registration Fee(3)

Common units representing limited partner interests

  12,937,500   $21.00   $271,687,500   $33,461

 

(1)   Includes 1,687,500 common units issuable upon the exercise of the underwriters’ option to purchase additional common units.
(2)   Estimated solely for the purpose of calculating the amount of the registration fee in accordance with Rule 457(a) under the Securities Act of 1933, as amended.
(3)   The Registrant previously paid $19,320 of the total registration fee in connection with a previous filing of this Registration Statement.

The registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment which specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the registration statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.

 

 


Table of Contents

The information in this preliminary prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission becomes effective. This preliminary prospectus is not an offer to sell these securities and we are not soliciting an offer to buy these securities in any jurisdiction where the offer or sale is not permitted.

 

SUBJECT TO COMPLETION, DATED MAY 26, 2015

 

PRELIMINARY PROSPECTUS

 

PennTex Midstream Partners, LP

 

LOGO

 

11,250,000 Common Units

Representing Limited Partner Interests

 

 

 

This is the initial public offering of 11,250,000 common units representing limited partner interests of PennTex Midstream Partners, LP. No public market currently exists for our common units.

 

We have applied to list our common units on the NASDAQ Global Market under the symbol “PTXP.”

 

We anticipate that the initial public offering price will be between $19.00 and $21.00 per common unit.

 

 

 

Investing in our common units involves risks. Please read “ Risk Factors ” beginning on page 22 of this prospectus. These risks include the following:

 

   

Because we have a limited operating history and have generated minimal revenues and operating cash flows, you may have difficulty evaluating our ability to pay cash distributions to our unitholders and our ability to successfully implement our business strategy.

 

   

We are currently constructing a significant portion of our initial assets and, if we experience any construction delays or cost increases or are unable to complete the construction of these initial assets, our business, financial condition, results of operations and ability to make cash distributions to our unitholders could be adversely affected.

 

   

We may not generate sufficient cash from operations following the establishment of cash reserves and payment of fees and expenses, including cost reimbursements to our general partner, to enable us to pay the minimum quarterly distribution to our unitholders.

 

   

Because all of our initial revenue and a substantial majority of our revenue over the long term is expected to be derived from Memorial Resource’s natural gas production, any development that materially and adversely affects Memorial Resource’s operations, financial condition or market reputation could have a material and adverse impact on us.

 

   

Because of the natural decline in production from existing wells, our success depends, in part, on Memorial Resource’s ability to replace declining production and our ability to secure new sources of natural gas from Memorial Resource or other third parties.

 

   

PennTex Midstream Partners, LLC, our general partner and their respective affiliates have conflicts of interest with us and limited duties to us and our unitholders, and they may favor their own interests to the detriment of us and our other common unitholders.

 

   

Our partnership agreement replaces our general partner’s fiduciary duties to holders of our units with contractual standards.

 

   

Holders of our common units have limited voting rights and are not entitled to elect our general partner or its directors, which could reduce the price at which our common units will trade.

 

   

You will experience immediate dilution in tangible net book value of $15.21 per common unit.

 

   

There is no existing market for our common units, and a trading market that will provide you with adequate liquidity may not develop. The price of our common units may fluctuate significantly, which could cause you to lose all or part of your investment.

 

   

Our tax treatment depends on our status as a partnership for federal income tax purposes. If the Internal Revenue Service were to treat us as a corporation for federal income tax purposes, which would subject us to entity-level taxation, or if we were otherwise subjected to a material amount of additional entity-level taxation, then our cash available for distribution to our unitholders would be substantially reduced.

 

 

 

     Per Common Unit      Total  

Offering price to the public

   $                    $                

Underwriting discounts and commissions(1)

   $         $     

Proceeds to us (before expenses)(1)

   $         $     

 

(1)   Excludes an aggregate structuring fee equal to 0.50% of the gross proceeds of this offering payable to Citigroup Global Markets Inc. and Barclays Capital Inc. Please read “Underwriting.”

 

We have granted the underwriters the option to purchase 1,687,500 additional common units on the same terms and conditions set forth above if the underwriters sell more than 11,250,000 common units in this offering.

 

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities. Any representation to the contrary is a criminal offense.

 

The underwriters expect to deliver the common units on or about                     , 2015.

 

 

 

Citigroup  

Barclays

RBC Capital Markets    

Wells Fargo Securities

 

Deutsche Bank Securities   J.P. Morgan  

SunTrust Robinson Humphrey

  Tudor, Pickering, Holt & Co.

 

Raymond James    Baird   

Stifel

  Wunderlich

 

 

 

Prospectus dated                     , 2015


Table of Contents

LOGO


Table of Contents

TABLE OF CONTENTS

 

SUMMARY

     1   

Overview

     1   

Our Assets

     2   

Our Relationship with Memorial Resource

     3   

Our Relationships with NGP and PennTex Development

     6   

Business Strategies

     7   

Competitive Strengths

     8   

Our Management

     9   

Our Formation Transactions

     10   

Organizational Structure After the Formation Transactions

     11   

Emerging Growth Company Status

     13   

Risk Factors

     13   

Partnership Information

     14   

The Offering

     15   

Summary Historical and Pro Forma Financial Data

     20   

RISK FACTORS

     22   

Risks Related to Our Business

     22   

Risks Inherent in an Investment in Us

     37   

Tax Risks

     46   

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

     51   

USE OF PROCEEDS

     52   

CAPITALIZATION

     53   

DILUTION

     54   

OUR CASH DISTRIBUTION POLICY AND RESTRICTIONS ON DISTRIBUTIONS

     56   

General

     56   

Our Ability to Grow may be Dependent on Our Ability to Access External Financing Sources

     58   

Our Minimum Quarterly Distribution

     58   

Estimated Cash Available for Distribution through June 30, 2016

     60   

PROVISIONS OF OUR PARTNERSHIP AGREEMENT RELATING TO CASH DISTRIBUTIONS

     70   

Distributions of Available Cash

     70   

Operating Surplus and Capital Surplus

     71   

Subordinated Units and Subordination Period

     74   

Distributions of Available Cash From Operating Surplus During the Subordination Period

     75   

Distributions of Available Cash From Operating Surplus After the Subordination Period

     75   

General Partner Interest and Incentive Distribution Rights

     76   

Percentage Allocations of Available Cash from Operating Surplus

     77   

PennTex Development’s Right to Reset Incentive Distribution Levels

     77   

Distributions from Capital Surplus

     80   

Adjustment to the Minimum Quarterly Distribution and Target Distribution Levels

     81   

Distributions of Cash Upon Liquidation

     81   

SELECTED HISTORICAL AND PRO FORMA FINANCIAL DATA

     84   

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     86   

Overview

     86   

How We Will Evaluate Our Operations

     86   

 

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Factors and Trends Impacting Our Business

     88   

Factors Impacting the Comparability of Our Financial Results

     90   

Results of Operations

     91   

Liquidity and Capital Resources

     92   

Off-Balance Sheet Arrangements

     95   

Quantitative and Qualitative Disclosures About Market Risk

     95   

Critical Accounting Policies and Estimates

     96   

INDUSTRY

     100   

General

     100   

Natural Gas Industry Overview

     100   

Natural Gas Midstream Services

     101   

Contractual Arrangements

     102   

Market Fundamentals

     104   

Natural Gas Consumption

     104   

Overview of Ark-La-Tex Basin

     107   

BUSINESS

     109   

Overview

     109   

Our Assets

     110   

Our Relationship with Memorial Resource

     111   

Our Relationships with NGP and PennTex Development

     115   

Business Strategies

     116   

Competitive Strengths

     117   

Our Assets

     119   

Title to Properties

     120   

Competition

     120   

Regulation of Operations

     120   

Regulation of Environmental and Occupational Safety and Health Matters

     124   

Employees

     128   

Legal Proceedings

     128   

MANAGEMENT

     129   

Management of PennTex Midstream Partners, LP

     129   

Executive Officers and Directors of Our General Partner

     130   

Committees of the Board of Directors

     133   

EXECUTIVE COMPENSATION

     135   

Compensation of our Directors

     135   

Our Long-Term Incentive Plan

     135   

SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     139   

CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

     141   

Distributions and Payments to Our General Partner and Its Affiliates and MRD WHR LA

     141   

Agreements with Affiliates in Connection with the Transactions

     143   

Procedures for Review, Approval and Ratification of Transactions with Related Persons

     146   

CONFLICTS OF INTEREST AND FIDUCIARY DUTIES

     148   

Conflicts of Interest

     148   

Duties

     152   

DESCRIPTION OF THE COMMON UNITS

     155   

The Units

     155   

 

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Table of Contents

Transfer Agent and Registrar

     155   

Transfer of Common Units

     155   

OUR PARTNERSHIP AGREEMENT

     157   

Organization and Duration

     157   

Purpose

     157   

Capital Contributions

     157   

Voting Rights

     157   

Limited Liability

     158   

Issuance of Additional Securities

     159   

Amendment of Our Partnership Agreement

     160   

Merger, Consolidation, Conversion, Sale or Other Disposition of Assets

     162   

Termination and Dissolution

     163   

Liquidation and Distribution of Proceeds

     163   

Withdrawal or Removal of Our General Partner

     163   

Transfer of General Partner Interest

     164   

Transfer of Ownership Interests in Our General Partner

     164   

Transfer of Incentive Distribution Rights

     164   

Change of Management Provisions

     165   

Limited Call Right

     165   

Non-Taxpaying Holders; Redemption

     165   

Non-Citizen Assignees; Redemption

     166   

Meetings; Voting

     166   

Status as Limited Partner

     167   

Indemnification

     167   

Reimbursement of Expenses

     167   

Books and Reports

     167   

Right to Inspect Our Books and Records

     168   

Registration Rights

     168   

Exclusive Forum

     169   

UNITS ELIGIBLE FOR FUTURE SALE

     170   

MATERIAL U.S. FEDERAL INCOME TAX CONSEQUENCES

     172   

Partnership Status

     173   

Limited Partner Status

     174   

Tax Consequences of Unit Ownership

     174   

Tax Treatment of Operations

     180   

Disposition of Common Units

     181   

Uniformity of Units

     183   

Tax-Exempt Organizations and Other Investors

     184   

Administrative Matters

     185   

Recent Legislative Developments

     188   

State, Local, Foreign and Other Tax Considerations

     188   

INVESTMENT IN PENNTEX MIDSTREAM PARTNERS, LP BY EMPLOYEE BENEFIT PLANS

     189   

General Fiduciary Matters

     189   

Prohibited Transaction Issues

     189   

Plan Asset Issues

     190   

UNDERWRITING

     191   

Relationships

     193   

Direct Participation Program Requirements

     194   

Electronic Distribution

     194   

 

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Notice to Prospective Investors in Hong Kong

     195   

Notice to Prospective Investors in Singapore

     195   

VALIDITY OF OUR COMMON UNITS

     196   

EXPERTS

     196   

WHERE YOU CAN FIND MORE INFORMATION

     196   

INDEX TO FINANCIAL STATEMENTS

     F-1   

APPENDIX  A —Form of First Amended and Restated Agreement of
Limited Partnership of PennTex Midstream Partners, LP

     A-1   

APPENDIX B —Glossary of Terms

     B-1   

 

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You should rely only on the information contained in this prospectus and any free writing prospectus prepared by us or on behalf of us or to which we have referred you. We have not authorized anyone to provide you with information different from that contained in this prospectus and any free writing prospectus. We take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you. We are offering to sell common units and seeking offers to buy common units only in jurisdictions where offers and sales are permitted. The information in this prospectus is accurate only as of the date of this prospectus, regardless of the time of delivery of this prospectus or any sale of the common units. Our business, financial condition, results of operations and prospects may have changed since that date.

 

This prospectus contains forward-looking statements that are subject to a number of risks and uncertainties, many of which are beyond our control. Please read “Risk Factors” and “Cautionary Statement Regarding Forward-Looking Statements.”

 

Industry, Market and Other Data

 

The market data and certain other statistical information used throughout this prospectus are based on independent industry publications, government publications and other published independent sources, as well as on our good faith estimates. Although we believe the third-party sources are reliable as of their respective dates, neither we nor the underwriters have independently verified the accuracy or completeness of this information. The industry in which we operate is subject to a high degree of uncertainty and risk due to a variety of factors, including those described in the section entitled “Risk Factors.” These and other factors could cause results to differ materially from those expressed in these publications.

 

The operational and financial information of Memorial Resource Development Corp., including information relating to its production, drilling and capital spending, are derived from Memorial Resource Development Corp.’s (i) Current Report on Form 8-K filed with the Securities and Exchange Commission, or the SEC, on March 11, 2015, (ii) Annual Report on Form 10-K for the year ended December 31, 2014 filed with the SEC on March 18, 2015 and (iii) other presentation materials made publicly available by Memorial Resource Development Corp. on April 15, 2015 and April 21, 2015. Although we believe the operational and financial information of Memorial Resource Development Corp. included in this prospectus is reliable, neither we nor the underwriters have independently verified the accuracy or completeness of such information.

 

Basis of Presentation

 

Certain monetary amounts, percentages and other figures included in this prospectus have been subject to rounding adjustments. Percentage amounts included in this prospectus have not in all cases been calculated on the basis of such rounded figures but on the basis of such amounts prior to rounding. For this reason, percentage amounts in this prospectus may vary from those obtained by performing the same calculations using the figures in our consolidated financial statements. Certain other amounts that appear in this prospectus may not sum due to rounding.

 

Certain Terms Used in this Prospectus

 

Unless the context otherwise requires, all references in this prospectus to:

 

   

“PennTex Midstream Partners, LP,” the “partnership,” “we,” “our,” “us” or like terms (i) for periods prior to the closing of this offering, are to PennTex Operating, which we refer to as our accounting predecessor, and (ii) for periods from and after the closing of this offering, are to PennTex Midstream Partners, LP, a Delaware limited partnership, and its subsidiaries after giving effect to the formation transactions described under “Summary—Our Formation Transactions” on page 10 of this prospectus;

 

   

“PennTex GP” or our “general partner” are to PennTex Midstream GP, LLC, a Delaware limited liability company and our general partner;

 

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“NGP” are to Natural Gas Partners, a family of private equity investment funds organized to make direct equity investments in the natural resources sector, including the funds invested in PennTex Development;

 

   

“PennTex Development” or our “parent” are to PennTex Midstream Partners, LLC, a Delaware limited liability company, and its subsidiaries. PennTex Development is owned by NGP and certain members of our management team and will own 92.5% of our general partner’s outstanding membership interests, an approximate 40.4% limited partner interest in us and 92.5% of our incentive distribution rights following the completion of this offering and the related formation transactions. Louisiana Midstream, LLC, a Delaware limited liability company that is owned by certain investment funds affiliated with OZ Management LP, owns preferred units in PennTex Development, which will be automatically exchanged by PennTex Development into 1,803,942 of our common units upon the completion of this offering and the related formation transactions;

 

   

“PennTex Management” are to PennTex Midstream Management Company, LLC, a Delaware limited liability company and wholly owned subsidiary of our parent;

 

   

“PennTex NLA” are to PennTex NLA Holdings, LLC, a Delaware limited liability company and wholly owned subsidiary of our parent;

 

   

“PennTex Operating” are to PennTex North Louisiana, LLC, a Delaware limited liability company, and its subsidiaries. PennTex Operating is a joint venture in which PennTex Development indirectly (through PennTex NLA) owns a 62.5% membership interest and MRD WHR LA directly owns the remaining 37.5% membership interest. Following the completion of this offering and the related formation transactions, PennTex Operating will be our wholly owned subsidiary;

 

   

“PennTex Permian” are to PennTex Permian, LLC, a Delaware limited liability company and subsidiary of our parent;

 

   

“Memorial Resource” are to Memorial Resource Development Corp. (NASDAQ: MRD), a Delaware corporation, and its wholly owned subsidiaries, including MRD Operating;

 

   

“MRD WHR LA” are to MRD WHR LA Midstream LLC, a Delaware limited liability company and affiliate of NGP that will own 7.5% of our general partner’s outstanding membership interests, an approximate 27.0% limited partner interest in us and 7.5% of our incentive distribution rights following the completion of this offering and the related formation transactions; and

 

   

“MRD Operating” are to MRD Operating LLC, a Delaware limited liability company that owns and operates Memorial Resource’s interest in the Terryville Complex.

 

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SUMMARY

 

This summary provides a brief overview of information contained elsewhere in this prospectus. You should read the entire prospectus carefully, including the historical and pro forma financial statements and related notes contained herein, before investing in our common units. The information presented in this prospectus assumes (1) an initial public offering price of $20.00 per common unit (the midpoint of the price range set forth on the cover page of this prospectus), (2) unless otherwise indicated, that the underwriters’ option to purchase additional common units is not exercised and (3) the delivery by PennTex Development of 1,803,942 common units that it will receive from us in connection with the formation transactions to the holder of its preferred units to satisfy the automatic exchange of such preferred units into our common units upon the completion of this offering. In addition, we refer to the transactions set forth in “—Our Formation Transactions” as the formation transactions. You should read “Risk Factors” beginning on page 22 of this prospectus for more information about important risks that you should consider carefully before investing in our common units. We include a glossary of some of the terms used in this prospectus in Appendix B.

 

Overview

 

We are a growth-oriented limited partnership focused on owning, operating, acquiring and developing midstream energy infrastructure assets in North America. Our parent, PennTex Development, was formed by NGP and members of our management team to develop a multi-basin midstream growth platform with an initial focus on organic growth projects in partnership with oil and natural gas producers affiliated with NGP. We intend to leverage our relationships with NGP and our parent with a view to becoming a leading midstream energy company serving attractive oil and natural gas basins throughout North America.

 

Following the completion of this offering, we will provide natural gas gathering and processing and residue gas and NGL transportation services to producers in the Terryville Complex in northern Louisiana. Initially, we will provide these services primarily to Memorial Resource (NASDAQ: MRD), an NGP-affiliated independent natural gas and oil company focused on the development of liquids-rich natural gas opportunities in the Terryville Complex. Under an area of mutual interest and exclusivity agreement, or the AMI and Exclusivity Agreement, we have the exclusive right to develop, own and operate midstream assets and to provide midstream services to support Memorial Resource’s growing production in northern Louisiana (other than production subject to existing third-party commitments).

 

Our initial assets are being developed in two phases. The first phase of development, which we refer to as Phase I, was completed in May 2015 and includes the Lincoln Parish Plant, a 200 MMcf/d design-capacity cryogenic natural gas processing plant, and related natural gas gathering and residue gas transportation pipelines. We expect that the second phase of development, which we refer to as Phase II, will be completed in October 2015 and will increase our natural gas processing capacity to 400 MMcf/d through the addition of the Mt. Olive Plant, a 200 MMcf/d design-capacity cryogenic natural gas processing plant, and add pipeline capacity to transport NGLs and incremental volumes of residue gas. In addition to the development of our initial assets, we expect to pursue other opportunities for organic development and growth as producers in our region continue to increase production.

 

Our initial assets are supported by 15-year, fee-based commercial agreements with Memorial Resource, including gathering and processing agreements containing escalating minimum volume commitments. Our gathering agreement also provides for firm capacity reservation payments based on available gathering system capacity. Effective as of June 1, 2015, the minimum volume commitments under our gathering and processing agreements will be 115,000 MMBtu/d, or 50% of the design capacity of the Lincoln Parish Plant. The minimum volume commitments under our gathering and processing agreements will increase to 345,000 MMBtu/d, or 75% of

 

 

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the combined design capacity of our processing plants, upon the completion of the Mt. Olive Plant and, for a ten-year period beginning on July 1, 2016, will further increase to 460,000 MMBtu/d, or 100% of the combined design capacity of our processing plants. In addition, our initial assets are supported by 15-year, fee-based residue gas and NGL transportation agreements pursuant to which we will transport all residue gas and NGLs produced on behalf of Memorial Resource at our processing plants.

 

Our Assets

 

Our Initial Assets

 

Our initial assets, which are primarily located in Lincoln Parish, Louisiana, are being developed in two phases and are depicted on the map below.

 

LOGO

 

Our Phase I assets commenced commercial operations in May 2015, other than the portions of the PennTex Gathering Pipeline that were placed in service in December 2014 and April 2015, and consist of the following:

 

   

Lincoln Parish Plan t : a 200 MMcf/d design-capacity cryogenic natural gas processing plant located near Arcadia, Louisiana with on-site NGL storage and truck loading facilities;

 

   

PennTex Gathering Pipelin e : a 35-mile rich natural gas gathering system, consisting of 30.3 miles of 12” pipeline, 1.4 miles of 20” pipeline and 3.1 miles of 24” pipeline that provides producers access to our processing plants and to the Minden Plant owned and operated by DCP Midstream Partners, L.P., or DCP Midstream, with available capacity of at least 400 MMcf/d to our processing plants and 50 MMcf/d to the Minden Plant; and

 

   

PennTex Residue Gas Pipelin e : a one-mile, 24” residue natural gas header with at least 400 MMcf/d of capacity that provides market access for residue natural gas from the Lincoln Parish Plant for delivery to third party pipelines, including pipelines that provide access to the Perryville Hub and other markets in the Gulf Coast region.

 

 

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We expect that our Phase II assets will commence commercial operations in October 2015 and will consist of the following:

 

   

Mt. Olive Plan t : a 200 MMcf/d design-capacity cryogenic natural gas processing plant under development near Ruston, Louisiana with on-site liquids handling facilities for inlet gas;

 

   

PennTex NGL Pipelin e : a 40-mile NGL pipeline, consisting of 27 miles of 10” pipeline and 13 miles of 8” pipeline, with a total capacity of over 36,000 barrels per day, which will connect our processing plants to third-party pipelines and will provide a Mont Belvieu-based market for NGLs produced from our processing plants; and

 

   

PennTex Residue Gas Extension : a 14-mile, 24” residue natural gas pipeline with at least 400 MMcf/d of capacity, which will provide market access for residue natural gas from the Mt. Olive Plant to the same delivery point as the PennTex Residue Gas Pipeline.

 

We refer to the Lincoln Parish Plant and the Mt. Olive Plant collectively as our processing plants. In addition, references to the PennTex Residue Gas Pipeline include the PennTex Residue Gas Extension following its in-service date.

 

We anticipate that the remaining expansion capital expenditures required for the completion of our initial assets, including accrued payables from PennTex Development, will be approximately $179.5 million. Following the completion of this offering and on or before June 30, 2015, we expect to pay approximately $100.6 million of these capital expenditures, of which approximately $25.0 million will be paid from cash on hand, including $24.0 million of net proceeds retained from this offering, and the remaining approximate $75.6 million will be paid from borrowings under our revolving credit facility. We expect to fund the remaining approximate $78.9 million of expansion capital expenditures required for the completion of our initial assets with borrowings under our revolving credit facility. Once all of our initial assets are operational, we expect to operate the Phase I assets and the Phase II assets as a single integrated system to optimize the gathering, processing and transportation services that we provide to Memorial Resource and any other customers in northern Louisiana.

 

Our Relationship with Memorial Resource

 

Memorial Resource

 

Memorial Resource is a NGP-affiliated company engaged in the exploitation, development and acquisition of oil and natural gas properties. A substantial majority of Memorial Resource’s developed acreage is in the Terryville Complex of northern Louisiana, where Memorial Resource targets overpressured, liquids-rich natural gas opportunities in multiple zones in the Cotton Valley formation.

 

The Cotton Valley formation is a prolific natural gas play characterized by thick, multi-zone natural gas and oil reservoirs with well-known geologic characteristics and long-lived, predictable production profiles. The Cotton Valley formation has been undergoing rapid redevelopment by producers using advanced horizontal drilling and completion techniques that have led to the development of approximately 575 horizontal wells in the formation since 2005. The Terryville Complex in the Cotton Valley formation in particular provides multiple zones of highly productive, liquids-rich geology, which we believe offers Memorial Resource and other producers attractive economic opportunities in a variety of commodity price environments. Memorial Resource commenced a horizontal drilling program in 2011 and ultimately shifted its operational focus to full-scale horizontal redevelopment in 2013.

 

Memorial Resource owned approximately 81,012 gross (68,032 net) acres in the Terryville Complex as of December 31, 2014, after giving pro forma effect to Memorial Resource’s asset swap with Memorial Production

 

 

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Partners LP completed in February 2015, and currently operates eight drilling rigs in the Terryville Complex. Memorial Resource’s average net daily production in the Terryville Complex was approximately 227 MMcfe/d for the year ended December 31, 2014, of which natural gas represented approximately 77%, and approximately 256 MMcfe/d for the three months ended December 31, 2014. The Terryville Complex represented 81% of Memorial Resource’s total net production for the year ended December 31, 2014 and, after giving pro forma effect to the February 2015 asset swap, contains approximately 1,367 Bcf of proved natural gas reserves as of December 31, 2014.

 

During 2014, Memorial Resource completed and brought online 31 horizontal wells in the Terryville Complex, bringing its total number of producing horizontal wells in this region to 52 as of December 31, 2014. Memorial Resource has announced that it will allocate between $475 million and $525 million to projects in the Terryville Complex in 2015, representing all of Memorial Resource’s 2015 capital budget. This is an increase from the $304 million allocated to the Terryville Complex in 2014. Within the Terryville Complex, on a proved reserves basis, Memorial Resource operates approximately 100% of its existing acreage and holds an average gross working interest of approximately 83%.

 

Area of Mutual Interest and Exclusivity Agreement

 

Following the completion of this offering, pursuant to the AMI and Exclusivity Agreement, we will have the exclusive right to provide midstream services to support Memorial Resource’s current and future production on its operated acreage within such area (other than production subject to existing third-party commitments). We refer to the geographic area covered by the AMI and Exclusivity Agreement as the Area of Mutual Interest and have depicted the Area of Mutual Interest in the map below.

 

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We believe that Memorial Resource is in the early stages of development of the Terryville Complex and will require additional gathering, processing, transportation and other midstream infrastructure in order to fully develop its inventory of future well locations. Accordingly, we believe we are well-positioned to capitalize on significant opportunities to provide additional midstream services to Memorial Resource pursuant to the AMI and Exclusivity Agreement as its production in the Terryville Complex continues to grow.

 

Other Contractual Arrangements with Memorial Resource

 

Our long-term gathering and processing agreements with Memorial Resource contain escalating minimum volume commitments, and our gathering agreement also provides for firm capacity reservation payments based on available gathering system capacity. In addition, under our related long-term, fee-based residue gas and NGL transportation agreements, we will transport all of the residue gas and NGLs produced on behalf of Memorial Resource at our processing plants. We believe that our commercial agreements with Memorial Resource will provide us with stable cash flows. In addition, as reflected in the table below, we believe that the expected growth of Memorial Resource’s production in the Terryville Complex through June 30, 2016 will result in volumes to us substantially in excess of the applicable minimum volume commitments contained in our gathering and processing agreements during such period.

 

Asset

   Total
Available
Processing or
Transportation
Capacity
  Total Available
Processing or
Transportation
Capacity (1)
  Average
Expected
Throughput
Volumes (2)
   Expected
Receipts
($MM)(2)(3)
     Percent
Contracted
Receipts(2)(4)
 

Processing Plants

   400 MMcf/d   460,000 MMBtu/d   323,000 MMBtu/d      51.8         87%   

PennTex Gathering Pipeline

   Varies(5)   Varies(5)   323,000 MMBtu/d      8.2         87%   

PennTex Residue Gas Pipeline

   400 MMcf/d   460,000 MMBtu/d   284,000 MMBtu/d      4.2         N/A   

PennTex NGL Pipeline

   36,000 Bbl/d   N/A   11,000 Bbl/d      5.1         N/A   

 

(1)   The equivalent volume in MMBtu/d for the processing capacity of our processing plants and the transportation capacity of the PennTex Residue Gas Pipeline is based on a conversion factor of 1,150 Btu per cubic foot. For information on the assumed energy content of the natural gas we expect to process for Memorial Resource during the forecast period, please read “Our Cash Distribution Policy and Restrictions on Distributions—Estimated Cash Available for Distribution through June 30, 2016.”
(2)   Expected throughput volumes for our processing plants represent forecast throughput volumes for the Lincoln Parish Plant during the twelve months ending June 30, 2016 and the Mt. Olive Plant for the nine months ending June 30, 2016. Expected throughput volumes for the PennTex Gathering Pipeline and PennTex Residue Gas Pipeline represent forecast throughput volumes during the twelve months ending June 30, 2016, while the expected throughput volumes for the PennTex NGL Pipeline represent forecast throughput volumes during the nine months ending June 30, 2016. Please read “Our Cash Distribution Policy and Restrictions on Distributions—Estimated Cash Available for Distribution through June 30, 2016” for a discussion of certain assumptions related to our volume expectations. Our forecast throughput volumes assume that all of our volumes during the twelve months ending June 30, 2016 will be attributable to our commercial agreements with Memorial Resource. If Memorial Resource were to reduce the number of drilling rigs it deploys, shut-in existing wells or have less success in its drilling efforts in northern Louisiana than expected, the volumes processed by us and gathered and transported through our pipelines could be less than expected. Please read “Risk Factors—Risks Related to Our Business—Because all of our initial revenue and a substantial majority of our revenue over the long term is expected to be derived from Memorial Resource’s natural gas production, any development that materially and adversely affects Memorial Resource’s operations, financial condition or market reputation could have a material and adverse impact on us.”
(3)   Expected receipts include both (i) revenues billed and earned under our processing, gathering and transportation agreements and (ii) amounts billed for deficiency payments incurred with respect to the minimum volume commitment under our processing agreement that will be recorded on our balance sheet as deferred revenue for the twelve months ending June 30, 2016.
(4)   Represents the portion of our total cash receipts, including revenues billed and earned and amounts recorded on our balance sheet as deferred revenue as described in footnote (3) above, attributable to the minimum volume commitment under our processing agreement and the minimum volume commitment and firm capacity reservation payments under our gathering agreement.
(5)   The PennTex Gathering Pipeline’s capacity varies depending on receipt and delivery points; however, the pipeline will have available capacity of at least 400 MMcf/d to our processing plants and 50MMcf/d to DCP Midstream’s Minden Plant.

 

 

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Our Relationships with NGP and PennTex Development

 

We view our relationships with NGP and PennTex Development as significant competitive strengths. We believe these relationships will provide us with potential acquisition and organic growth opportunities, as well as access to personnel with extensive technical expertise and industry relationships.

 

NGP

 

Founded in 1988, NGP is a family of private equity investment funds, with cumulative committed capital of approximately $16.5 billion since inception, organized to make investments in the natural resources sector. NGP is part of the investment platform of NGP Energy Capital Management, LLC, a premier investment franchise in the natural resources industry. The employees of NGP are experienced energy professionals with substantial expertise in investing in the oil and natural gas business. In connection with NGP’s business, these employees review a large number of potential acquisitions and are involved in decisions relating to the acquisition and disposition of oil and natural gas assets by the various portfolio companies in which NGP owns interests. We believe that our relationship with NGP, and its experience investing in oil and natural gas companies, provides us with a number of benefits, including increased exposure to acquisition opportunities and access to a significant group of transactional and financial professionals who have experience in assisting the companies in which NGP has invested to meet their financial and strategic growth objectives. Additionally, NGP’s large portfolio of oil and gas investments provides us with a source of potential development and partnership opportunities. We intend to leverage our relationship with NGP with a view to becoming a leading midstream energy company serving attractive oil and natural gas basins in North America.

 

Upon the closing of this offering and the consummation of the formation transactions, affiliates of NGP will indirectly own our general partner and our incentive distribution rights, as well as an approximate 67.4% limited partner interest in us (or an approximate 63.1% limited partner interest in us if the underwriters exercise their option to purchase additional common units in full). We believe that NGP will be motivated to promote and support the successful execution of our business strategies, including through our potential acquisition of additional midstream assets from NGP and its affiliates over time and the facilitation of accretive acquisitions from third parties. In addition, we believe NGP and its affiliates will be motivated to jointly pursue acquisition opportunities with us whereby we would acquire or agree to develop and manage midstream assets that may be part of an acquisition being pursued by NGP-controlled oil and gas producers. NGP does not have a legal obligation to offer to us any acquisition opportunities or jointly pursue opportunities with us, may decide not to offer us any such opportunities and is not restricted from competing with us. NGP will indirectly receive a portion of the net proceeds from this offering as a result of its ownership interests in PennTex Development and MRD WHR LA.

 

PennTex Development

 

Our parent, PennTex Development, was formed in January 2014 by NGP and members of our management team to pursue midstream growth opportunities and develop midstream energy assets. PennTex Development intends to acquire, construct and develop midstream operations for, or in partnership with, leading oil and natural gas producers, including both affiliates of NGP and unaffiliated third parties. Upon the closing of this offering and the consummation of the formation transactions, our parent will own 92.5% of our general partner, 92.5% of our incentive distribution rights, and an approximate 40.4% limited partner interest in us (or an approximate 37.8% limited partner interest if the underwriters exercise in full their option to purchase additional common units).

 

Following the completion of this offering, our parent will continue to own and manage midstream assets in the Permian Basin and have business relationships that we believe will provide us with significant future acquisition opportunities. Our parent owns a 98.5% membership interest in PennTex Permian, which operates a gathering and processing system in the Delaware sub-basin of the Permian Basin in Reeves County, Texas that

 

 

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consists of a 60 MMcf/d design-capacity cryogenic natural gas processing plant and approximately 70 miles of low- and intermediate-pressure gathering pipelines and associated compression assets. PennTex Permian began operations in March 2014 and has secured long-term acreage dedications from Centennial Resource Development, LLC, an affiliate of NGP, and a third-party producer covering more than 50,000 gross acres in the core of the southern Delaware Basin.

 

At the closing of this offering, we will enter into an omnibus agreement with our parent, pursuant to which we will have a right of first offer with respect to our parent’s equity interest in PennTex Permian to the extent our parent elects to sell such equity interest. Although our parent is not obligated to sell its equity interest in PennTex Permian and offer it to us, we believe that our parent will be incentivized to grow our business as a result of its economic interest in us. However, we cannot predict when or if our parent will sell the PennTex Permian equity interests subject to our right of first offer and whether we will elect to exercise such right upon any sale by our parent.

 

Business Strategies

 

Our principal business objective is to increase the quarterly cash distributions that we pay to our unitholders over time while maintaining the ongoing stability of our business. We expect to achieve this objective by pursuing the following business strategies:

 

   

Capitalizing on organic growth to support Memorial Resource’s infrastructure needs . Our cash flows will be supported by escalating minimum volume commitments from Memorial Resource under our gathering and processing agreements that begin at 115,000 MMBtu/d effective June 1, 2015 and, subject to the completion of the Mt. Olive Plant, increase to 460,000 MMBtu/d on July 1, 2016. In addition, we benefit from firm capacity reservation payments under our gathering agreement and plant tailgate dedications under our residue gas and NGL transportation agreements. We believe that the expected growth of Memorial Resource’s production in the Terryville Complex during the forecast period will result in volumes to us in excess of the minimum volume commitments under our commercial agreements. In addition, we expect to capitalize on opportunities to expand our initial asset base to support Memorial Resource’s production growth and increasing midstream service needs in northern Louisiana under the AMI and Exclusivity Agreement.

 

   

Growing our business by pursuing accretive acquisitions from, or development opportunities with, PennTex Development and third partie s . We intend to pursue opportunities to grow our business through accretive acquisitions from, or development opportunities with, our parent that we expect will be sourced both from the organic development of PennTex Development’s existing assets and from additions to its portfolio as a result of strategic acquisitions from third parties. For example, pursuant to the terms of the omnibus agreement we will enter into with our parent in connection with the closing of this offering, our parent will grant us a right of first offer to acquire its equity interest in PennTex Permian if our parent elects to sell such interests. We also expect to review attractive acquisition opportunities directly from third parties as they become available and to expand our initial asset base to support the midstream service needs of third parties. In addition, we believe our strategically located assets will provide us with a platform to provide midstream services to other producers in northern Louisiana as the horizontal development of the Cotton Valley formation advances and producers seek infrastructure to process their natural gas production and move their products to market. We will evaluate attractive opportunities with PennTex Development and third parties to expand our services to surrounding areas, including East Texas and southern Arkansas, and to expand long-term natural gas and NGL handling and transportation to high-value end markets.

 

 

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Maintaining and growing stable cash flows supported by long-term, fee-based contract s . We will seek to generate the majority of our cash flows pursuant to multi-year, firm contracts with creditworthy customers. We will continue to pursue opportunities to increase the fee-based component of our contract portfolio to minimize our direct commodity price exposure through acquisitions or growth projects.

 

   

Leveraging our relationship with NGP to identify and execute growth opportunitie s . NGP and its affiliates have a long history of pursuing and consummating oil and natural gas property acquisitions and development in North America. Through our relationship with NGP and its affiliates, we have access to NGP’s significant pool of management talent and industry relationships, which we believe provides us with a competitive advantage in pursuing potential acquisition opportunities. For example, we may jointly pursue an acquisition where we would acquire or agree to develop and manage the midstream portion of an acquisition being pursued by an oil and gas producer controlled by NGP. We believe this arrangement gives us access to third-party acquisition opportunities that we would not otherwise be in a position to pursue. In addition, we may acquire additional midstream assets directly from NGP and its affiliates.

 

   

Maintaining a conservative and flexible capital structure in order to support our access to capita l . We intend to maintain a conservative and balanced capital structure which, when combined with our stable, fee-based cash flows, will afford us efficient access to the capital markets at a competitive cost of capital.

 

We cannot assure you, however, that we will be able to execute our business strategies described above. For further discussion of the risks that we face, please read “Risk Factors.”

 

Competitive Strengths

 

We believe we are well-positioned to successfully execute our business strategies because of the following competitive strengths:

 

   

Our relationship with Memorial Resource .    We believe Memorial Resource’s substantial acreage position and reported drilling locations in northern Louisiana will support significant long-term demand for our midstream services in a variety of commodity price environments and will result in Memorial Resource delivering natural gas to us in excess of the minimum volume commitments under our commercial agreements. Further, we believe that the AMI and Exclusivity Agreement with Memorial Resource provides us with significant opportunities for growth as Memorial Resource’s robust drilling program continues and its production increases.

 

   

Long-term, fixed fee contracts with escalating minimum volume commitments and firm capacity reservation payments support growing cash flows .    Our long-term gathering and processing agreements with Memorial Resource are supported by minimum volume commitments that initially represent 50% of the Lincoln Parish Plant’s design capacity and, upon completion of the Mt. Olive Plant, will represent 75% of the combined design capacity of the Lincoln Parish Plant and the Mt. Olive Plant. The minimum volume commitments will further increase to 100% of the combined design capacity of our processing plants for the ten-year period beginning July 1, 2016. In addition, our gathering agreement with Memorial Resource is supported by firm capacity reservation payments and our residue gas and NGL transportation agreements are supported by plant tailgate dedications for all residue gas and NGLs produced at our processing plants. We expect to generate approximately 75% of our revenues for the twelve months ending June 30, 2016 from minimum volume commitment fees and firm capacity reservation payments under these agreements. We believe that the minimum volume commitments in our processing and gathering agreements, the firm capacity reservation payments in our gathering agreement and the fee-based nature of all of our commercial agreements will enhance the stability of our cash flows.

 

 

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Strategic partnership with NGP and PennTex Developmen t .    We believe that our relationships with NGP, with its long track record of supporting and building successful oil and natural gas companies, and PennTex Development provide us with a number of benefits, including increased exposure to acquisition opportunities, access to NGP’s extensive network of industry relationships and an executive team with significant industry, management and acquisition expertise. Upon the completion of this offering, affiliates of NGP, through interests in PennTex Development and MRD WHR LA, will own our general partner and our incentive distribution rights, as well as an approximate 67.4% limited partner interest in us (or an approximate 63.1% limited partner interest if the underwriters exercise in full their option to purchase additional common units). As a result, we believe that NGP and PennTex Development will be motivated to promote and support the successful execution of our business plan and to pursue projects that directly or indirectly enhance the value of our assets.

 

   

Experienced and incentivized management tea m .    Our senior management team has significant industry experience and has built, grown and managed large, successful midstream organizations, including public and private companies. We believe our management’s experience and expertise across the midstream spectrum provides us with access to strong commercial relationships throughout the energy industry. Through our management’s interest in our parent, which will own 92.5% of our general partner, 92.5% of our incentive distribution rights and an approximate 40.4% limited partner interest in us (or an approximate 37.8% limited partner interest if the underwriters exercise in full their option to purchase additional common units), our management team is highly incentivized to grow our distributions and the value of our business.

 

   

Flexible financial position and capital structur e .    At the closing of this offering, we expect to have no outstanding indebtedness and available borrowing capacity of $275 million under our revolving credit facility. We believe that our borrowing capacity and our expected ability to effectively access debt and equity capital markets provide us with the financial flexibility necessary to execute our business strategy. We expect to have sufficient borrowing capacity under our revolving credit facility following the closing of this offering to fund our anticipated remaining capital expenditures through the completion of our initial assets, which we expect to be approximately $179.5 million. Following the completion of this offering, and on or before June 30, 2015, we expect to pay approximately $100.6 million of these capital expenditures, of which approximately $25.0 million will be paid from cash on hand, including $24.0 million of net proceeds retained from this offering, and the remaining approximate $75.6 million will be paid from borrowings under our revolving credit facility. We expect to fund the remaining approximate $78.9 million of expansion capital expenditures required for the completion of our initial assets with borrowings under our revolving credit facility.

 

We cannot assure you, however, that we will be able to utilize our competitive strengths to successfully execute our business strategies described above. For further discussion of the risks that we face, please read “Risk Factors.”

 

Our Management

 

We are managed and operated by the board of directors and executive officers of PennTex Midstream GP, LLC, our general partner. PennTex Development owns 92.5% of the ownership interests in our general partner and is entitled to appoint the entire board of directors of our general partner. MRD WHR LA owns the remaining 7.5% interest in our general partner. Our unitholders will not be entitled to elect our general partner or its directors or otherwise directly participate in our management or operations. All of the initial officers and a majority of the initial directors of our general partner are also officers of PennTex Development. For information about the executive officers and directors of our general partner, please read “Management.”

 

 

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Under the listing requirements of the NASDAQ Global Market, or NASDAQ, the board of directors of our general partner is required to have at least three independent directors meeting NASDAQ’s independence standards within twelve months of the date of this prospectus. At the closing of this offering, the board of directors of our general partner will consist of six directors, including one director meeting NASDAQ’s independence standards. Please read “Conflicts of Interest and Fiduciary Duties.”

 

In order to maintain operational flexibility, certain of our operations will be conducted through, and certain of our operating assets will be owned by, various operating subsidiaries. However, neither we nor our subsidiaries will have any employees. Our general partner has the sole responsibility for providing the personnel necessary to conduct our operations. All of the personnel that will conduct our business immediately following the closing of this offering will be employed or contracted by our general partner and its affiliates. We sometimes refer to these individuals in this prospectus as our employees because they provide services directly to us.

 

Our Formation Transactions

 

At or prior to the closing of this offering, each of the following transactions will occur:

 

   

PennTex Operating will have repaid $27.5 million of outstanding borrowings under its existing credit facility with substantially all of its cash on hand, including cash received from capital contributions by its members, PennTex NLA and MRD WHR LA, subsequent to March 31, 2015;

 

   

PennTex NLA and MRD WHR LA will contribute to us their respective interests in PennTex Operating in exchange for (i) 5,468,750 common units and 12,500,000 subordinated units, representing an approximate 44.9% limited partner interest in us, and the right to receive approximately $97.6 million in cash proceeds from this offering to PennTex NLA and (ii) 3,281,250 common units and 7,500,000 subordinated units, representing an approximate 27.0% limited partner interest in us, and the right to receive approximately $54.6 million in cash proceeds from this offering to MRD WHR LA;

 

   

PennTex Development will convey 7.5% of our general partner’s outstanding membership interests to MRD WHR LA and, as a result, PennTex Development and MRD WHR LA will own 92.5% and 7.5% of our general partner, respectively;

 

   

we will issue 11,250,000 common units to the public in this offering, representing an approximate 28.1% limited partner interest in us, and we will apply the net proceeds as described in “Use of Proceeds;”

 

   

we will terminate PennTex Operating’s existing credit facility;

 

   

we will issue 92.5% and 7.5% of our incentive distribution rights to our parent and MRD WHR LA, respectively;

 

   

PennTex NLA will distribute the 5,468,750 common units, 12,500,000 subordinated units and approximately $97.6 million in cash received from us to its sole member, PennTex Development;

 

   

PennTex Development will deliver 1,803,942 common units to the holder of its preferred units, which will be automatically exchanged by PennTex Development into our common units upon the completion of this offering, and will use approximately $83.0 million in cash to repay outstanding borrowings under PennTex Development’s existing credit facility;

 

   

our $275 million revolving credit facility will become effective and will remain undrawn at the closing of this offering;

 

   

we will enter into a registration rights agreement with PennTex Development and MRD WHR LA;

 

   

we will enter into a services and secondment agreement with our general partner, PennTex Development and Penn Tex Management; and

 

   

we will enter into an omnibus agreement with our general partner and PennTex Development.

 

 

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We refer to the above transactions collectively as the “formation transactions.” If the underwriters do not exercise their option to purchase additional common units, we will issue 1,054,687 common units to PennTex Development and 632,813 common units to MRD WHR LA at the expiration of the option for no additional consideration. If and to the extent the underwriters exercise their option to purchase additional common units, the number of common units purchased by the underwriters pursuant to any exercise will be sold to the public, and any remaining common units not purchased by the underwriters pursuant to any exercise of the option will be issued to PennTex Development and MRD WHR LA in proportion to the amounts set forth in the preceding sentence at the expiration of the option period. Accordingly, the exercise of the underwriters’ option to purchase additional common units will not affect the total number of units outstanding.

 

Organizational Structure After the Formation Transactions

 

After giving effect to the formation transactions described above, assuming the underwriters’ option to purchase additional common units from us is not exercised, our units will be held as follows:

 

Public common units(1)

     32.6

Common units held by PennTex Development

     9.2

Common units held by MRD WHR LA

     8.2

Subordinated units held by PennTex Development

     31.2

Subordinated units held by MRD WHR LA

     18.8

General partner interest

     *   
  

 

 

 

Total

     100.0
  

 

 

 

 

*   General partner interest is non-economic.
(1)   Includes up to 562,500 common units that may be purchased by certain of the executive officers, directors, director nominees and employees of our general partner and certain of its affiliates under our directed unit program, as well as 1,803,942 common units delivered by PennTex Development to the holder of its preferred units.

 

 

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The following simplified diagram depicts our organizational structure after giving effect to the formation transactions described above.

 

LOGO

 

(1)    

Includes 1,803,942 common units delivered by PennTex Development to the holder of its preferred units, which will be automatically exchanged by PennTex Development into our common units upon the completion of this offering.

(2)    

Members of PennTex Permian’s management own the remaining 1.5% membership interest in this entity.

 

 

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Emerging Growth Company Status

 

We are an “emerging growth company” as defined in the Jumpstart Our Business Startups Act, or the JOBS Act. For as long as we are an “emerging growth company,” unlike other public companies, we will not be required to:

 

   

provide an auditor’s attestation report on management’s assessment of the effectiveness of our system of internal control over financial reporting pursuant to Section 404(b) of the Sarbanes-Oxley Act of 2002;

 

   

comply with any new requirements adopted by the Public Company Accounting Oversight Board, or the PCAOB, requiring mandatory audit firm rotation or a supplement to the auditor’s report in which the auditor would be required to provide additional information about the audit and the financial statements of the issuer;

 

   

comply with any new audit rules adopted by the PCAOB after April 5, 2012, unless the SEC determines otherwise;

 

   

provide certain disclosure regarding executive compensation required of larger public companies; or

 

   

obtain unitholder approval of any golden parachute payments not previously approved.

 

We will cease to be an “emerging growth company” upon the earliest of:

 

   

the last day of the fiscal year in which we have $1.0 billion or more in annual revenues;

 

   

the date on which we become a large accelerated filer;

 

   

the date on which we issue more than $1.0 billion of non-convertible debt over a three-year period; or

 

   

the last day of the fiscal year following the fifth anniversary of our initial public offering.

 

In addition, Section 107 of the JOBS Act provides that an “emerging growth company” can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act of 1933, as amended, or the Securities Act, for complying with new or revised accounting standards, but we intend to irrevocably opt out of the extended transition period.

 

Risk Factors

 

An investment in our common units involves risks associated with our business, our partnership structure and the tax characteristics of our common units. Below is a summary of certain key risk factors that you should consider in evaluating an investment in our common units. However, this list is not exhaustive, and you should read the full discussion of these risks and the other risks described in “Risk Factors” and “Cautionary Statement Regarding Forward-Looking Statements.”

 

Risks Related to Our Business

 

   

Because we have a limited operating history and have generated minimal revenues and operating cash flows, you may have difficulty evaluating our ability to pay cash distributions to our unitholders and our ability to successfully implement our business strategy.

 

   

We are currently constructing a significant portion of our initial assets and, if we experience any construction delays or cost increases or are unable to complete the construction of these initial assets, our business, financial condition, results of operations and ability to make cash distributions to our unitholders could be adversely affected.

 

 

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We may not generate sufficient cash from operations following the establishment of cash reserves and payment of fees and expenses, including cost reimbursements to our general partner, to enable us to pay the minimum quarterly distribution to our unitholders.

 

   

Because all of our initial revenue and a substantial majority of our revenue over the long term is expected to be derived from Memorial Resource’s natural gas production, any development that materially and adversely affects Memorial Resource’s operations, financial condition or market reputation could have a material and adverse impact on us.

 

   

Because of the natural decline in production from existing wells, our success depends, in part, on Memorial Resource’s ability to replace declining production and our ability to secure new sources of natural gas from Memorial Resource or other third parties.

 

Risks Inherent in an Investment in Us

 

   

Our parent, our general partner and their respective affiliates have conflicts of interest with us and limited duties to us and our unitholders, and they may favor their own interests to the detriment of us and our other common unitholders.

 

   

Our partnership agreement replaces our general partner’s fiduciary duties to holders of our units with contractual standards.

 

   

Holders of our common units have limited voting rights and are not entitled to elect our general partner or its directors, which could reduce the price at which our common units will trade.

 

   

You will experience immediate dilution in tangible net book value of $15.21 per common unit.

 

   

There is no existing market for our common units, and a trading market that will provide you with adequate liquidity may not develop. The price of our common units may fluctuate significantly, which could cause you to lose all or part of your investment.

 

Tax Risks

 

   

Our tax treatment depends on our status as a partnership for federal income tax purposes. If the Internal Revenue Service, or the IRS, were to treat us as a corporation for federal income tax purposes, which would subject us to entity-level taxation, or if we were otherwise subjected to a material amount of additional entity-level taxation, then the amount of cash available for distribution to our unitholders would be substantially reduced.

 

   

Our unitholders’ share of our income will be taxable to them for federal income tax purposes even if they do not receive any cash distributions from us.

 

Partnership Information

 

Our principal executive offices are located at 11931 Wickchester Ln., Suite 300, Houston, Texas 77043, and our telephone number is (832) 456-4000. Our website is located at www.penntex.com. We expect to make available our periodic reports and other information filed with or furnished to the SEC free of charge through our website, as soon as reasonably practicable after those reports and other information are electronically filed with or furnished to the SEC. Information on our website or any other website is not incorporated by reference herein and does not constitute a part of this prospectus.

 

 

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The Offering

 

Common units offered by us to the public

11,250,000 common units.

 

Option to purchase additional common units

We have granted the underwriters a 30-day option to purchase up to an aggregate of 1,687,500 additional common units to the extent the underwriters sell more than 11,250,000 common units in this offering. If the underwriters do not exercise their option to purchase additional common units, we will issue 1,054,687 common units to PennTex Development and 632,813 common units to MRD WHR LA at the expiration of the option for no additional consideration. If and to the extent the underwriters exercise their option to purchase additional common units, the number of common units purchased by the underwriters pursuant to any exercise will be sold to the public, and any remaining common units not purchased by the underwriters pursuant to any exercise of the option will be issued to PennTex Development and MRD WHR LA in proportion to the amounts set forth in the preceding sentence at the expiration of the option period. Accordingly, the exercise of the underwriters’ option to purchase additional common units will not affect the total number of units outstanding.

 

Units outstanding after this offering

20,000,000 common units and 20,000,000 subordinated units, for a total of 40,000,000 limited partner units.

 

Use of proceeds

We expect to receive net proceeds of approximately $206.6 million from this offering (based on an assumed initial offering price of $20.00 per common unit, the midpoint of the price range set forth on the cover page of this prospectus), after deducting the estimated underwriting discounts, structuring fee and offering expenses payable by us or previously incurred by our parent, and intend to use such net proceeds as follows:

 

   

approximately $97.6 million to PennTex NLA and approximately $54.6 million to MRD WHR LA, in each case, in part, as a reimbursement for certain capital expenditures incurred by such entity with respect to the development of our initial assets;

 

   

$30.5 million to repay in full all outstanding borrowings under PennTex Operating’s existing credit facility, which we will terminate following such repayment; and

 

   

$24.0 million to fund a portion of the capital expenditures incurred in connection with the construction of our initial assets.

 

 

If the underwriters exercise their option to purchase additional common units in full, the additional net proceeds will be approximately $31.6 million. All of the net proceeds from any exercise of such option will be used to make additional cash

 

 

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distributions to each of PennTex Development and MRD WHR LA in proportion to the respective number of common units each such unitholder would have been entitled to receive if the underwriters did not exercise such option as set forth above in “—Option to purchase additional common units.”

 

Affiliates of certain of the underwriters are lenders under the existing credit facilities of PennTex Operating and our parent and, accordingly, will receive a portion of the proceeds of this offering. Please read “Underwriting.”

 

Cash distributions

Within 45 days after the end of each quarter, beginning with the quarter ending June 30, 2015, we expect to make a minimum quarterly distribution of $0.2750 per common unit and subordinated unit ($1.10 per common unit and subordinated unit on an annualized basis) to unitholders of record on the applicable record date to the extent we have sufficient cash from operations after establishment of cash reserves and payment of fees and expenses, including payments to our general partner. We refer to this cash as “available cash.” For the first quarter that we are publicly traded, we will pay a prorated distribution covering the period after the completion of this offering through June 30, 2015, based on the actual length of that period. Our ability to pay the minimum quarterly distribution is subject to various restrictions and other factors described in more detail under the caption “Our Cash Distribution Policy and Restrictions on Distributions.”

 

  Our partnership agreement generally provides that we will distribute cash each quarter during the subordination period in the following manner:

 

   

first , to the holders of common units, until each common unit has received the minimum quarterly distribution of $0.2750 plus any arrearages from prior quarters;

 

   

second , to the holders of subordinated units, until each subordinated unit has received the minimum quarterly distribution of $0.2750; and

 

   

third , to the holders of common units and subordinated units pro rata until each has received a distribution of $0.3163.

 

  If cash distributions to our unitholders exceed $0.3163 per common unit and subordinated unit in any quarter, our unitholders and the holders of our incentive distribution rights will receive distributions according to the following percentage allocations:

 

     Marginal Percentage
Interest in
Distributions
 

Total Quarterly Distribution

Target Amount

   Unitholders     Holders of
Incentive
Distribution
Rights
 
above $0.3163 up to $0.3438      85     15
above $0.3438 up to $0.4125      75     25
above $0.4125      50     50

 

 

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  We refer to the additional increasing distributions to the holders of our incentive distribution rights as “incentive distributions.” Our parent and MRD WHR LA will initially own 92.5% and 7.5% of our incentive distribution rights, respectively. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—General Partner Interest and Incentive Distribution Rights.”

 

  We believe, based on our financial forecast and related assumptions included in “Our Cash Distribution Policy and Restrictions on Distributions,” that we will have sufficient available cash to pay the minimum quarterly distribution of $0.2750 on all of our common units and subordinated units for the twelve months ending June 30, 2016. However, we do not have a legal or contractual obligation to pay quarterly distributions at the minimum quarterly distribution rate or at any other rate and there is no guarantee that we will pay distributions to our unitholders in any quarter. Because a significant portion of our initial assets will not be in service until October 2015, we may fund a portion of the distributions we expect to make to our unitholders in respect of the second and third quarters of 2015 with borrowings under our revolving credit facility. Please read “Use of Proceeds,” “Our Cash Distribution Policy and Restrictions on Distributions—Estimated Cash Available for Distribution through June 30, 2016” and “Provisions of Our Partnership Agreement Relating to Cash Distributions.”

 

Subordinated units

PennTex Development and MRD WHR LA will initially own all of our subordinated units. The principal difference between our common units and subordinated units is that, for any quarter during the subordination period, holders of the subordinated units will not be entitled to receive any distribution from operating surplus until the common units have received the minimum quarterly distribution for such quarter plus any arrearages in the payment of the minimum quarterly distribution from prior quarters. Subordinated units will not accrue arrearages.

 

Conversion of subordinated units

The subordination period will end on the first business day after we have earned and paid at least (1) $1.10 (the minimum quarterly distribution on an annualized basis) on each outstanding common unit and subordinated unit for each of three consecutive, non-overlapping four-quarter periods ending on or after September 30, 2018 or (2) $1.65 (150% of the minimum quarterly distribution on an annualized basis) on each outstanding common unit and subordinated unit and the related distribution on the incentive distribution rights, for any four-quarter period beginning with the quarter ending September 30, 2016, in each case provided there are no outstanding arrearages on our common units.

 

 

When the subordination period ends, all subordinated units will convert into common units on a one-for-one basis, and all common units will thereafter no longer be entitled to arrearages. Please read

 

 

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“Provisions of Our Partnership Agreement Relating to Cash Distributions—Subordinated Units and Subordination Period.”

 

Issuance of additional units

Our partnership agreement authorizes us to issue an unlimited number of additional units without the approval of our unitholders. Please read “Units Eligible for Future Sale” and “Our Partnership Agreement—Issuance of Additional Securities.”

 

Limited voting rights

Our general partner will manage and operate us. Unlike the holders of common stock in a corporation, our unitholders will have only limited voting rights on matters affecting our business. Our unitholders will have no right to elect our general partner or its directors on an annual or other continuing basis. Our general partner may not be removed except for cause by a vote of the holders of at least 66  2 / 3 % of the outstanding units, including any units owned by our general partner and its affiliates, voting together as a single class. Upon consummation of this offering, PennTex Development will own an aggregate of 18.3% of our common units (or 13.1% of our common units if the underwriters exercise their option to purchase additional common units in full) and 62.5% of our subordinated units. This will give PennTex Development the ability to prevent the removal of our general partner. In addition, any vote to remove our general partner during the subordination period must provide for the election of a successor general partner by the holders of a majority of the common units and a majority of the subordinated units, voting as separate classes. This will provide PennTex Development the ability to prevent the removal of our general partner during the subordination period. Please read “Our Partnership Agreement—Withdrawal or Removal of Our General Partner.”

 

Limited call right

If at any time our general partner and its affiliates (including PennTex Development) own more than 80% of the outstanding common units, our general partner has the right, but not the obligation, to purchase all of the remaining common units at a price equal to the greater of (1) the highest cash price paid by either our general partner or any of its affiliates for any limited partner interests of the class purchased within the 90 days preceding the date on which our general partner first mails notice of its election to purchase those limited partner interests and (2) the current market price calculated in accordance with our partnership agreement as of the date three business days before the date the notice is mailed. Please read “Our Partnership Agreement—Limited Call Right.”

 

Registration rights

Our partnership agreement grants certain registration rights to our general partner and its affiliates. Please read “Our Partnership Agreement—Registration Rights.”

 

 

In addition, we will grant registration rights to PennTex Development, MRD WHR LA and certain of their respective transferees pursuant to the registration rights agreement we will enter

 

 

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into in connection with the closing of this offering. Please read “Certain Relationships and Related Transactions—Agreements with Affiliates in Connection with the Transactions—Registration Rights Agreement.”

 

Estimated ratio of taxable income to distributions

We estimate that if you own the common units you purchase in this offering through the record date for distributions for the period ending December 31, 2018, you will be allocated, on a cumulative basis, an amount of federal taxable income for that period that will be 20% or less of the cash distributed to you with respect to that period. For example, if you receive an annual distribution of $1.10 per unit, we estimate that your average allocable federal taxable income per year will be no more than approximately $0.22 per unit. Thereafter, the ratio of allocable taxable income to cash distributions to you could substantially increase. Please read “Material U.S. Federal Income Tax Consequences—Tax Consequences of Unit Ownership” for the basis of this estimate.

 

Material federal income tax consequences

For a discussion of the material federal income tax consequences that may be relevant to prospective unitholders who are individual citizens or residents of the United States, please read “Material U.S. Federal Income Tax Consequences.”

 

Directed unit program

At our request, the underwriters have reserved for sale, at the initial public offering price, up to 5.0% of the common units being offered by this prospectus for sale to employees, executive officers and directors and director nominees of our general partner and certain of its affiliates. We do not know if these persons will choose to purchase all or any portion of these reserved common units, but any purchases they do make will reduce the number of common units available to the general public. Please read “Underwriting.”

 

Exchange listing

We have applied to list our common units on NASDAQ under the symbol “PTXP.”

 

 

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Summary Historical and Pro Forma Financial Data

 

We are a newly formed entity with no prior operating history. Accordingly, the historical financial statements reflect the historical financial data of PennTex Operating, our accounting predecessor, which was formed on March 17, 2014, as of the date and for the period indicated. The summary historical financial data as of and for the three months ended March 31, 2015 and the period from March 17, 2014 (Inception) to March 31, 2014 are derived from the unaudited financial statements of our accounting predecessor appearing elsewhere in this prospectus. The summary historical financial data as of and for the period from March 17, 2014 (Inception) to December 31, 2014 are derived from the audited financial statements of our accounting predecessor appearing elsewhere in this prospectus. The following table should be read together with, and is qualified in its entirety by reference to, the historical financial statements of our accounting predecessor and our unaudited pro forma balance sheet and the accompanying notes included elsewhere in this prospectus. The table should also be read together with “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

The following table also presents the summary pro forma balance sheet data of PennTex Midstream Partners, LP as of March 31, 2015, which are derived from the unaudited pro forma balance sheet of PennTex Midstream Partners, LP included elsewhere in this prospectus. The pro forma balance sheet assumes that the offering and the related formation transactions occurred as of March 31, 2015. These transactions include, and the pro forma balance sheet gives effect to, the following:

 

   

the repayment by PennTex Operating of $27.5 million of outstanding borrowings under its existing credit facility with substantially all of its cash on hand, including cash received from capital contributions by its members, PennTex NLA and MRD WHR LA;

 

   

the contribution by PennTex NLA and MRD WHR LA to us of their respective interests in PennTex Operating, in exchange for (i) 5,468,750 common units and 12,500,000 subordinated units, representing an approximate 44.9% limited partner interest in us, and approximately $97.6 million in cash to PennTex NLA and (ii) 3,281,250 common units and 7,500,000 subordinated units, representing an approximate 27.0% limited partner interest in us, and approximately $54.6 million in cash to MRD WHR LA;

 

   

the conveyance by PennTex Development of 7.5% of our general partner’s outstanding membership interests to MRD WHR LA and, as a result, PennTex Development and MRD WHR LA will own 92.5% and 7.5% of our general partner, respectively;

 

   

the consummation of this offering, including our issuance of 11,250,000 common units to the public and 92.5% and 7.5% of our incentive distribution rights to PenTex Development and MRD WHR LA, respectively, and the application of the net proceeds of this offering as described in “Use of Proceeds”;

 

   

the distribution by PennTex NLA of 5,468,750 common units, 12,500,000 subordinated units and approximately $97.6 million in cash to PennTex Development;

 

   

the delivery by PennTex Development of 1,803,942 common units to the holder of its preferred units, which will be automatically exchanged by PennTex Development into our common units upon the completion of this offering; and

 

   

the effectiveness of our $275 million revolving credit facility, which will remain undrawn at the closing of this offering.

 

 

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The pro forma combined balance sheet does not give effect to the estimated $4.0 million in incremental annual general and administrative expenses that we expect to incur as a result of being a publicly traded partnership. Additionally, it does not give effect to the administrative fee that we will pay to our parent for the provision of certain services under the services and secondment agreement that we will enter into with our general partner, PennTex Development and PennTex Management at the closing of the offering. Please read “Certain Relationships and Related Transactions—Agreements with Affiliates in Connection with the Transactions—Services and Secondment Agreement.”

 

     Predecessor
Historical
    PennTex Midstream
Partners, LP
Pro Forma
 
     As of and For the
Period From
March 17, 2014
(Inception) to
December 31, 2014
    As of and For  the
Period From
March 17, 2014
(Inception) to
March 31, 2014
    As of and For the
Three Months Ended
March 31, 2015
    As of
March 31, 2015
 
    

(audited)

    (unaudited)     (unaudited)     (unaudited)  
    

(in thousands)

 

Statement of Operations Data:

        

Revenues

   $ 22      $ —        $ 229     

Operating expenses:

        

General and administrative expense

     4,513        125        2,335     

Operating and maintenance expense

     123        —          640     

Depreciation and amortization

     113        —          317     
  

 

 

   

 

 

   

 

 

   

Total operating expenses

     4,749        125        3,292     
  

 

 

   

 

 

   

 

 

   

Net (loss)

   $ (4,727     (125   $ (3,063  
  

 

 

   

 

 

   

 

 

   

Balance Sheet Data (at period end):

        

Cash and cash equivalents

   $ 17,471      $ —        $ 4,331      $ 25,000   

Property, plant and equipment, net

     163,970        9,156        228,652        228,652   

Intangible assets, net

     8,410        —          13,221        13,221   

Total assets

     191,058        9,156        248,391        272,633   

Long-term debt, net

     59,433        —          57,486        —     

Total members’/partners’ interest

     93,487        3,111        126,760        204,888   

Cash Flow Data:

        

Net cash provided by (used in):

        

Operating activities

   $ (2,461   $ (633   $ (5,128  

Investing activities

     (137,341     (2,603     (42,348  

Financing activities

     157,273        3,236        34,336     

Capital Expenditures:

        

Capital expenditures

   $ 172,493      $ 9,156      $ 69,810     

 

 

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RISK FACTORS

 

Limited partner interests are inherently different from the capital stock of a corporation, although many of the business risks to which we are subject are similar to those that would be faced by a corporation engaged in a similar business. You should carefully consider the following risk factors together with all of the other information included in this prospectus, including the matters addressed under “Cautionary Statement Regarding Forward-Looking Statements,” in evaluating an investment in our common units.

 

If any of the following risks were to materialize, our business, financial condition, results of operations and cash available for distribution could be materially adversely affected. In that case, we may not be able to pay the minimum quarterly distribution on our common units, the trading price of our common units could decline and you could lose all or part of your investment.

 

Risks Related to Our Business

 

Because we have a limited operating history and have generated minimal revenues and operating cash flows, you may have difficulty evaluating our ability to pay cash distributions to our unitholders and our ability to successfully implement our business strategy.

 

Because of our limited operating history, the operating performance of our initial assets and our business strategy are not yet proven. We do not present any historical financial statements with respect to periods prior to March 17, 2014, and we and our predecessor have only generated minimal revenues and operating cash flows. Further, our predecessor’s historical financial statements for the period from March 17, 2014 to December 31, 2014 present a period of limited operations, which does not provide a meaningful basis to evaluate our operations or our ability to achieve our business strategy. As a result, it may be difficult for you to evaluate our business and results of operations to date and to assess our future prospects.

 

In addition, we may encounter risks and difficulties experienced by companies whose performance is dependent upon newly constructed assets, such as our initial assets failing to function as expected, higher than expected operating costs, equipment breakdown or failures and operational errors. We may be less successful in achieving a consistent operating level capable of generating cash flows from our operations sufficient to make cash distributions to our unitholders, as compared to a company whose major assets have had longer operating histories. In addition, we may be less equipped to identify and address operating risks and hazards in the conduct of our business than those companies whose major assets have had longer operating histories.

 

We are currently constructing a significant portion of our initial assets and, if we experience any construction delays or cost increases or are unable to complete the construction of these initial assets, our business, financial condition, results of operations and ability to make cash distributions to our unitholders could be adversely affected.

 

We are a newly formed limited partnership and are currently constructing a significant portion of our initial assets. We expect to continue to incur losses and experience negative operating cash flow through the second quarter of 2015 and to incur significant capital expenditures until completion of our initial assets. In addition, the construction of these assets involves numerous regulatory, environmental, political and legal uncertainties, which may cause delays in, or increase the costs associated with, the completion of these assets. Accordingly, we may not be able to complete the construction of the initial assets on schedule, at the budgeted cost or at all, and any delays beyond the expected construction periods or increased costs above those expected to be incurred for our initial assets would prolong, and could increase the level of, our operating losses and negative operating cash flows.

 

In addition, the following factors, among others, could prevent us from commencing operations upon the completion of our initial assets:

 

   

shortages of materials or delays in delivery of materials;

 

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cost overruns and difficulty in obtaining sufficient debt or equity financing to pay for such additional costs;

 

   

failure to obtain all necessary governmental and third-party permits, licenses and approvals for the construction and operation of our initial assets;

 

   

weather conditions, such as hurricanes, and other catastrophes, such as explosions, fires, floods and accidents;

 

   

difficulties in attracting a sufficient skilled and unskilled workforce, increases in the level of labor costs and the existence of any labor disputes; and

 

   

local and general economic and infrastructure conditions.

 

Further, if the Mt. Olive Plant is not operational by July 1, 2016, the daily minimum volume commitments under our gathering and processing agreements with Memorial Resource will not increase and will remain 115,000 MMBtu/d until June 1, 2030. For a discussion of such conditions and other information relating to our gathering and processing agreements with Memorial Resource, please read “Business—Our Relationship with Memorial Resource—Other Contractual Arrangements with Memorial Resource.” Thus, if we are unable to complete or are substantially delayed in completing the construction of our initial assets, our business, financial condition, results of operations and ability to make cash distributions to our unitholders could be adversely affected.

 

We may not generate sufficient cash from operations following the establishment of cash reserves and payment of fees and expenses, including cost reimbursements to our general partner, to enable us to pay the minimum quarterly distribution to our unitholders.

 

In order to make our minimum quarterly distribution of $0.2750 per common unit and subordinated unit per quarter, or $1.10 per unit per year, we will require available cash of $11.0 million per quarter, or $44.0 million per year, based on the common units and subordinated units outstanding immediately after completion of this offering. We may not generate sufficient cash flow each quarter to support the payment of the minimum quarterly distribution or to increase our quarterly distributions in the future. We may fund a portion of the quarterly distributions that we expect to make to our unitholders with respect to the second and third quarters of 2015 with borrowings under our revolving credit facility.

 

The amount of cash we can distribute on our units principally depends upon the amount of cash we generate from our operations, which will fluctuate from quarter to quarter based on, among other things:

 

   

the volume of natural gas we gather, process and transport;

 

   

the rates we charge for our services;

 

   

market prices of natural gas, NGLs and oil and their effect on Memorial Resource’s drilling schedule and production;

 

   

Memorial Resource’s ability to fund its drilling program;

 

   

adverse weather conditions;

 

   

the level of our operating, maintenance and general and administrative costs;

 

   

regional, domestic and foreign supply and perceptions of supply of natural gas;

 

   

the level of demand and perceptions of demand in our end-user markets, and actual and anticipated future prices of natural gas and other commodities (and the volatility thereof), which may impact our ability to renew and replace our gathering, processing and transportation agreements;

 

   

the relationship between natural gas and NGL prices and resulting effect on processing margins;

 

   

the realized pricing impacts on revenues and expenses that are directly related to commodity prices;

 

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the level of competition from other midstream energy companies in our geographic markets;

 

   

the creditworthiness of our customers;

 

   

damages to pipelines and plants, related equipment and surrounding properties caused by hurricanes, tornadoes, floods, fires and other natural disasters and acts of terrorism and acts of third parties;

 

   

timely in-service dates of our initial assets;

 

   

outages at our processing plants;

 

   

leaks or accidental releases of hazardous materials into the environment, whether as a result of human error or otherwise;

 

   

regulatory action affecting the supply of, or demand for, natural gas, the rates we can charge for our services, how we contract for services, our existing contracts, our operating costs or our operating flexibility; and

 

   

prevailing economic conditions.

 

In addition, the actual amount of cash we will have available for distribution will depend on other factors, including:

 

   

the level and timing of capital expenditures we make;

 

   

our debt service requirements and other liabilities;

 

   

our ability to borrow under our debt agreements to pay distributions;

 

   

fluctuations in our working capital needs;

 

   

restrictions on distributions contained in any of our debt agreements;

 

   

the cost of acquisitions, if any;

 

   

fees and expenses of our general partner and its affiliates we are required to reimburse;

 

   

the amount of cash reserves established by our general partner; and

 

   

other business risks affecting our cash levels.

 

Because all of our initial revenue and a substantial majority of our revenue over the long term is expected to be derived from Memorial Resource’s natural gas production, any development that materially and adversely affects Memorial Resource’s operations, financial condition or market reputation could have a material and adverse impact on us.

 

Upon completion of the construction of our initial assets, all of our initial revenue and a substantial majority of our revenue over the long term are expected to be derived from Memorial Resource’s natural gas production. As a result, we are substantially dependent on Memorial Resource and any event, whether in our area of operations or otherwise, that adversely affects Memorial Resource’s production, drilling and completion schedule, financial condition, leverage, market reputation, liquidity, results of operations or cash flows may adversely affect our revenues and cash available for distribution. Accordingly, we are indirectly subject to the business risks of Memorial Resource, including, among others:

 

   

a reduction in or slowing of Memorial Resource’s development program, which would directly and adversely impact demand for our midstream services;

 

   

the volatility of natural gas, NGLs and oil prices, especially in light of recent declines, which could have a negative effect on the value of Memorial Resource’s properties, its drilling programs or its ability to finance its operations;

 

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the availability of capital to Memorial Resource on an economic basis to fund its exploration and development activities;

 

   

Memorial Resource’s ability to replace reserves;

 

   

Memorial Resource’s drilling and operating risks, including potential environmental liabilities;

 

   

transportation capacity constraints and interruptions;

 

   

adverse effects on Memorial Resource of governmental and environmental regulation; and

 

   

losses to Memorial Resource from pending or future litigation.

 

Further, we are subject to the risk of non-payment or non-performance by Memorial Resource. We cannot predict the extent to which Memorial Resource’s business would be impacted if conditions in the energy industry were to deteriorate, nor can we estimate the impact such conditions would have on Memorial Resource’s ability to execute its drilling and development program. Any material non-payment or non-performance by Memorial Resource would reduce our ability to make distributions to our unitholders.

 

The assumptions underlying the forecast of cash available for distribution, as set forth in “Our Cash Distribution Policy and Restrictions on Distributions,” are inherently uncertain and subject to significant business, economic, financial, regulatory and competitive risks and uncertainties that could cause actual results to differ materially from those forecast.

 

The forecast of cash available for distribution set forth in “Our Cash Distribution Policy and Restrictions on Distributions” includes our forecast results of operations, Adjusted EBITDA, distributable cash flow and cash available for distribution for the twelve months ending June 30, 2016. Our ability to pay the full minimum quarterly distribution during the twelve months ending June 30, 2016 is based on a number of assumptions that may not prove to be correct and that are discussed in “Our Cash Distribution Policy and Restrictions on Distributions.” Management has prepared the financial forecast and has not received an opinion or report on it from our or any other independent auditor. The assumptions and estimates underlying the forecast are substantially driven by Memorial Resource’s anticipated drilling and completion schedule and, although we consider our assumptions as to Memorial Resource’s ability to maintain that schedule reasonable as of the date of this prospectus, those estimates and Memorial Resource’s ability to achieve anticipated drilling and production targets are subject to a wide variety of significant business, economic and competitive risks and uncertainties that could cause actual results to differ materially from those contained in the forecast. If we do not achieve the forecast results, we may not be able to pay the full minimum quarterly distribution or any amount on our common units or subordinated units, in which event the market price of our common units may decline materially.

 

The energy content of the natural gas we process for Memorial Resource will vary. If we process significant volumes of natural gas with a lower relative energy content, our financial condition, results of operations and ability to make cash distributions to our unitholders could be adversely affected.

 

The minimum volume commitment and the fees we receive pursuant to our processing agreement are determined by reference to the energy content of the natural gas we process for Memorial Resource. Further, our processing agreement contemplates that the combined 400 MMcf/d processing capacity of our processing plants will allow us to process 460,000 MMBtu/d of natural gas for Memorial Resource based on an average energy content of 1,150 Btu per cubic foot. However, the actual energy content of the natural gas we process for Memorial Resource will vary. For example, our forecast assumes that the natural gas we process for Memorial Resource during the twelve months ending June 30, 2016 will have an average energy content of 1,135 Btu per cubic foot.

 

Lower-energy content gas will require our processing plants to process higher throughput volumes of natural gas in order for Memorial Resource to meet its minimum volume commitment. Under our processing

 

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agreement, any volumes of gas delivered up to the then-applicable minimum volume commitment will be considered firm reserved gas and be charged the firm fixed-commitment fee, and any volumes delivered in excess of such minimum volume commitment will be considered interruptible volumes and, prior to July 1, 2016, will be charged a higher interruptible-service fixed fee. As a result, if the natural gas we process for Memorial Resource prior to July 1, 2016 has an energy content lower than 1,150 Btu per cubic foot, we will process fewer interruptible volumes at the higher interruptible-service fixed fee and more firm volumes at the lower firm rate because a greater percentage of the operating capacity of our processing plants will be devoted to firm volumes, which could adversely affect our financial condition, results of operations and ability to make cash distributions to our unitholders. Further, lower-energy content natural gas delivered to our processing plant will generally result in lower NGL volumes available for transportation on the PennTex NGL Pipeline, which could adversely affect our financial condition, results of operations and ability to make cash distributions to our unitholders.

 

In addition, assuming the completion of our Mt. Olive Plant, the minimum volume commitment under our processing agreement will increase to 460,000 MMBtu/d for a 10-year period beginning on July 1, 2016. During this 10-year period, if Memorial Resource delivers natural gas with an average energy content lower than 1,150 Btu per cubic foot, our processing plants would be required to operate above their design capacity in order to process the volume of gas corresponding to Memorial Resource’s minimum volume commitment under the processing agreement. Although we may be able to operate our processing plants above their design capacity, our initial assets are under development and we do not have historical operations demonstrating our ability to do so.

 

We will be required to make substantial capital expenditures to complete our initial assets and to expand our asset base. If we are unable to obtain needed capital or financing on satisfactory terms, our ability to make cash distributions may be diminished or our financial leverage could increase.

 

We anticipate that the remaining expansion capital expenditures required for the completion of our initial assets, including accrued payables from PennTex Development, will be approximately $179.5 million. Following the completion of this offering and on or before June 30, 2015, we expect to pay approximately $100.6 million of these capital expenditures, of which approximately $25.0 million will be paid from cash on hand, including $24.0 million of the net proceeds retained from this offering, and the remaining approximate $75.6 million will be paid from borrowings under our revolving credit facility. We expect to fund the remaining approximate $78.9 million of expansion capital expenditures required for the completion of our initial assets with borrowings under our revolving credit facility. Additionally, we will need to make expansion capital expenditures in the future to increase our asset base beyond our initial assets. If we do not make sufficient or effective expansion capital expenditures, we will be unable to expand our business operations and, as a result, we will be unable to raise the level of our future cash distributions. Following the completion of this offering, neither our parent nor any of its affiliates will have an obligation to fund our capital expenditures or support our growth. To fund our expansion capital expenditures (including expenditures related to the completion of our initial assets), we will be required to use cash from our operations or incur borrowings or sell additional common units or other securities. Such uses of cash from our operations will reduce our cash available for distribution. Our ability to obtain bank financing or our ability to access the capital markets for future equity or debt offerings may be limited by our financial condition at the time of any such financing or offering and the covenants in our existing debt agreements, as well as by general market and economic conditions, contingencies and uncertainties that are beyond our control. Even if we are successful in obtaining the necessary funds, the terms of such financings could limit our ability to pay distributions to our unitholders. In addition, incurring additional debt may significantly increase our interest expense and financial leverage, and issuing additional limited partner interests may result in significant unitholder dilution and would increase the aggregate amount of cash required to maintain the then-current distribution rate, which could materially decrease our ability to pay distributions at the prevailing distribution rate.

 

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Because of the natural decline in production from existing wells, our success depends, in part, on Memorial Resource’s ability to replace declining production and our ability to secure new sources of natural gas from Memorial Resource or other third parties.

 

The natural gas volumes that will support our assets depend on the level of Memorial Resource’s production from natural gas wells located in the areas in which we operate. This production may be less than expected and will naturally decline over time. To the extent Memorial Resource reduces its activity or otherwise ceases to drill and complete wells, revenues for our midstream services will be directly and adversely affected. In addition, natural gas volumes from completed wells will naturally decline and our cash flows associated with these wells will also decline over time. In order to maintain or increase throughput levels on our assets, we must obtain new sources of natural gas from Memorial Resource or other third parties. The primary factors affecting our ability to obtain additional sources of natural gas include (i) the success of Memorial Resource’s drilling activity in our area of operations, (ii) Memorial Resource’s acquisition of additional acreage and (iii) our ability to obtain dedications of acreage from third parties.

 

We have no control over Memorial Resource’s or other producers’ levels of development and completion activity in our area of operation, the lateral lengths of wells drilled, the amount of reserves associated with wells drilled within the area or the rate at which production from a well declines. We have no control over Memorial Resource or other producers or their development plan decisions, which are affected by, among other things:

 

   

the availability and cost of capital;

 

   

prevailing and projected natural gas, NGLs and oil prices, which have significantly declined in recent periods;

 

   

demand for natural gas, NGLs and oil;

 

   

levels of reserves;

 

   

geologic considerations;

 

   

environmental or other governmental regulations, including the availability of drilling permits and the regulation of hydraulic fracturing; and

 

   

the costs of producing the gas and the availability and costs of drilling rigs and other equipment.

 

These factors and the volatility of the energy markets make it extremely difficult to predict future oil, natural gas and NGL price movements with any certainty and can greatly affect the development of reserves. For example, for the five years ended December 31, 2014, the NYMEX-WTI oil future price ranged from a high of $113.93 per Bbl to a low of $53.27 per Bbl, while the NYMEX-Henry Hub natural gas future price ranged from a high of $6.15 per MMBtu to a low of $1.91 per MMBtu. Recently, oil and natural gas prices have declined significantly. Through March 31, 2015, the West Texas Intermediate posted price had declined from a high of $107.26 per Bbl on June 20, 2014 to $47.60 per Bbl on March 31, 2015. In addition, the Henry Hub spot market price had declined from a high of $6.15 per MMBtu on February 19, 2014 to $2.64 per MMBtu on March 31, 2015. Memorial Resource could elect to reduce its development and production activity when commodity prices are declining and any sustained declines could lead to a material decrease in such activity. Sustained reductions in development or production activity in northern Louisiana could lead to reduced utilization of our services.

 

Due to these and other factors, even if reserves are known to exist in areas served by our assets, producers may choose not to develop those reserves. If reductions in development activity result in our inability to maintain the current levels of throughput on our systems, those reductions could reduce our revenue and cash flow and adversely affect our ability to make cash distributions to our unitholders.

 

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We do not intend to obtain independent evaluations of oil, natural gas or NGL reserves to be gathered, processed or transported by our assets; therefore, in the future, volumes on our systems could be less than we anticipate.

 

We do not intend to obtain independent evaluations of oil, natural gas or NGL reserves expected to be gathered, processed or transported by our assets. Accordingly, we may not have independent estimates of total reserves underlying the areas in which we operate or the anticipated life of such reserves. If the total reserves or estimated life of the reserves we expect to service are less than we anticipate and we are unable to secure additional sources of oil, natural gas or NGLs, we could experience a material adverse effect on our business, results of operations, financial condition and ability to make cash distributions to our unitholders.

 

We may not be able to attract third-party volumes, which could limit our ability to grow and prolong our dependence on Memorial Resource.

 

Part of our long-term growth strategy includes diversifying our customer base by identifying opportunities to offer services to third parties. Upon completion of the construction of our initial assets, we expect to earn all of our revenues from Memorial Resource. Our ability to increase assets’ throughput and any related revenue from third parties is subject to numerous factors beyond our control, including competition from third parties and the extent to which we have available capacity when requested by third parties. To the extent our assets lack available capacity for third-party volumes, we may not be able to compete effectively with third-party systems for additional natural gas production and completions in our area of operation. In addition, some of our natural gas and NGL marketing competitors for third-party volumes have greater financial resources and access to larger supplies of natural gas than those available to us, which could allow those competitors to price their services more aggressively than we do.

 

Our efforts to attract new unaffiliated customers may be adversely affected by (i) our relationship with Memorial Resource and the fact that a substantial majority of the capacity of our initial assets will be necessary to service Memorial Resource’s production and development and completion schedule and (ii) our desire to provide services pursuant to fee-based contracts. As a result, we may not have the capacity to provide services to third parties and/or potential third-party customers may prefer to obtain services pursuant to other forms of contractual arrangements under which we would be required to assume direct commodity exposure.

 

Our operations will initially be focused in the Terryville Complex in northern Louisiana, making us vulnerable to risks associated with operating in one major geographic area.

 

Initially, we will rely exclusively on revenues generated from our assets that we are constructing in the Terryville Complex in northern Louisiana. As a result of this concentration, we may be disproportionately exposed to the impact of regional supply and demand factors, delays or interruptions of production from wells in this area caused by governmental regulation, market limitations, water shortages or other drought related conditions or interruption of the processing or transportation of natural gas or NGLs.

 

If we are unable to make acquisitions on economically acceptable terms from our parent, affiliates of NGP or third parties, our future growth will be limited, and the acquisitions we do make may reduce, rather than increase, our cash generated from operations on a per unit basis.

 

Our ability to grow depends, in part, on our ability to make acquisitions that increase our cash generated from operations on a per unit basis. The acquisition component of our strategy is based, in large part, on our expectation of ongoing divestitures of midstream energy assets by industry participants, including our parent and affiliates of NGP. Other than the obligations of our parent under the omnibus agreement to allow us to make an offer with respect to all or any portion of its equity interest in PennTex Permian that it elects to sell, we have no contractual arrangement with our parent or any affiliate of NGP that would require them to provide us with an

 

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opportunity to offer to acquire midstream assets that they may sell. In addition, the right of first offer granted to us by our parent does not apply to the sale or other distribution by PennTex Permian of any of its assets. Accordingly, while we note elsewhere in this prospectus that we believe our parent and affiliates of NGP will be incentivized by their economic relationship with us to offer us opportunities to purchase midstream assets, there can be no assurance that any such offer will be made or that we will reach agreement on the terms with respect to any acquisition opportunities. Furthermore, many factors could impair our access to future midstream assets, including a change in control of our parent or the transfer of our incentive distribution rights by our parent or MRD WHR LA to a third party. A material decrease in divestitures of midstream energy assets from our parent, affiliates of NGP or otherwise would limit our opportunities for future acquisitions and could have a material adverse effect on our business, results of operations, financial condition and ability to make quarterly cash distributions to our unitholders.

 

We may be unable to make accretive acquisitions from our parent, affiliates of NGP or third parties for a number of reasons, including:

 

   

our parent or affiliates of NGP may elect not to sell or contribute additional assets to us or to offer acquisition opportunities to us;

 

   

we may be unable to identify attractive third-party acquisition opportunities;

 

   

we may be unable to negotiate acceptable purchase contracts with our parent, affiliates of NGP or third parties;

 

   

we may be unable to obtain financing for these acquisitions on economically acceptable terms;

 

   

we may be outbid by competitors; or

 

   

we may be unable to obtain necessary governmental or third-party consents.

 

If we are unable to make accretive acquisitions, our future growth and ability to maintain and increase distributions will be limited.

 

Our merger and acquisition activities may not be successful or may result in completed acquisitions that do not perform as anticipated.

 

From time to time, we may make acquisitions of businesses and assets. Such acquisitions involve substantial risks, including the following:

 

   

acquired businesses or assets may not produce revenues, earnings or cash flow at anticipated levels;

 

   

acquired businesses or assets could have environmental, permitting or other problems for which contractual protections prove inadequate;

 

   

we may assume liabilities that were not disclosed to us, that exceed our estimates, or for which our rights to indemnification from the seller are limited;

 

   

we may be unable to integrate acquired businesses successfully and realize anticipated economic, operational and other benefits in a timely manner, which could result in substantial costs and delays or other operational, technical or financial problems; and

 

   

acquisitions, or the pursuit of acquisitions, could disrupt our ongoing businesses, distract management, divert resources and make it difficult to maintain our current business standards, controls and procedures.

 

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Our construction or purchase of new midstream assets may not result in increases in our cash available for distribution and may be subject to financing, regulatory, environmental, political, legal and economic risks, which could adversely affect our cash flows, results of operations and financial condition and, as a result, our ability to distribute cash to our unitholders.

 

The construction of any additions or modifications to our assets in the future and the construction or purchase of any new assets involves numerous regulatory, environmental, political and legal uncertainties beyond our control and may require the expenditure of significant amounts of capital. Financing may not be available on economically acceptable terms or at all. If we undertake these projects, we may not be able to complete them on schedule, at the budgeted cost or at all. Moreover, our revenues and cash available for distribution may not increase immediately upon the expenditure of funds on a particular project. For instance, if we build a processing facility, the construction may occur over an extended period of time, and we may not receive any material increases in revenues until the project is completed. Moreover, we may construct facilities to capture anticipated future production growth in an area in which such growth does not materialize. As a result, any new assets that we construct or purchase may not be able to attract enough throughput to achieve our expected investment return, which could adversely affect our results of operations and financial condition. In addition, the construction of additions to our assets in the future may require us to obtain new rights-of-way prior to constructing. We may be unable to timely obtain such rights-of-way or capitalize on other attractive expansion opportunities. Additionally, it may become more expensive for us to obtain new rights-of-way or to expand or renew existing rights-of-way. If the cost of renewing or obtaining new rights-of-way increases, our cash flows could be adversely affected.

 

We rely in part on estimates from producers regarding the timing and volume of their anticipated natural gas production. Production estimates are subject to numerous uncertainties, all of which are beyond our control. These estimates may prove to be inaccurate, and new facilities that we construct may not attract sufficient volumes to achieve our expected cash flow and investment return.

 

Restrictions in our revolving credit facility could adversely affect our business, financial condition, results of operations and ability to make quarterly cash distributions to our unitholders.

 

We have entered into a revolving credit facility that will become effective upon the closing of this offering. Our revolving credit facility will limit our ability to, among other things:

 

   

incur or guarantee additional debt;

 

   

redeem or repurchase units or make distributions under certain circumstances;

 

   

make certain investments and acquisitions;

 

   

incur certain liens or permit them to exist;

 

   

enter into certain types of transactions with affiliates;

 

   

merge or consolidate with another company; and

 

   

transfer, sell or otherwise dispose of assets.

 

Our revolving credit facility also contains covenants requiring us to maintain certain financial ratios. Our ability to meet those financial ratios and tests can be affected by events beyond our control, and we cannot assure you that we will meet any such ratios and tests.

 

The provisions of our revolving credit facility may affect our ability to obtain future financing and pursue attractive business opportunities and our flexibility in planning for, and reacting to, changes in business conditions. In addition, a failure to comply with the provisions of our revolving credit facility could result in a default or an event of default that could enable our lenders to declare the outstanding principal of that debt,

 

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together with accrued and unpaid interest, to be immediately due and payable. If the payment of our debt is accelerated, our assets may be insufficient to repay such debt in full, and our unitholders could experience a partial or total loss of their investment. Please read “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources.”

 

Debt we incur in the future may limit our flexibility to obtain financing and to pursue other business opportunities.

 

Our future level of debt could have important consequences to us, including the following:

 

   

our ability to obtain additional financing, if necessary, for working capital, capital expenditures, acquisitions or other purposes may be impaired or such financing may not be available on favorable terms;

 

   

our funds available for operations, future business opportunities and distributions to unitholders will be reduced by that portion of our cash flow required to make interest payments on our debt;

 

   

we may be more vulnerable to competitive pressures or a downturn in our business or the economy generally; and

 

   

our flexibility in responding to changing business and economic conditions may be limited.

 

Our ability to service our debt will depend upon, among other things, our future financial and operating performance, which will be affected by prevailing economic conditions and financial, business, regulatory and other factors, some of which are beyond our control. If our operating results are not sufficient to service any future indebtedness, we will be forced to take actions such as reducing distributions, reducing or delaying our business activities, investments or capital expenditures, selling assets or issuing equity. We may not be able to effect any of these actions on satisfactory terms or at all. Please read “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources.”

 

A shortage of equipment and skilled labor in the Terryville Complex could reduce equipment availability and labor productivity and increase labor and equipment costs, which could have a material adverse effect on our business and results of operations.

 

Our services require special equipment and laborers skilled in multiple disciplines, such as equipment operators, mechanics and engineers, among others. If we experience shortages of necessary equipment or skilled labor in the future, our labor and equipment costs and overall productivity could be materially and adversely affected. If our equipment or labor prices increase or if we experience materially increased health and benefit costs for employees, our results of operations could be materially and adversely affected.

 

If third-party pipelines or other facilities that are upstream or downstream of our assets become partially or fully unavailable, our operating margin, cash flow and ability to make cash distributions to our unitholders could be adversely affected.

 

Our assets will connect to upstream and downstream pipelines and other facilities owned and operated by unaffiliated third parties to receive rich natural gas for gathering and processing and to transport residue gas and NGLs produced at our processing plants from the outlets of our residue gas and NGL pipelines. The continuing operation of third-party wellheads, pipelines, plants, compressor stations and other facilities is not within our control. These wellheads, pipelines, plants, compressor stations and other facilities may become unavailable because of unexpected drilling conditions, testing, turnarounds, line repair, maintenance, reduced operating pressure, lack of operating capacity, regulatory requirements and curtailments of receipt or deliveries due to insufficient capacity or because of damage from severe weather conditions or other operational issues. In addition, if the costs to us to access and transport on these third-party pipelines significantly increase, our profitability could be reduced. If any such increase in costs occurs or if any of these pipelines or other facilities become unable to produce, receive or transport natural gas, our operating margin, cash flow and ability to make cash distributions to our unitholders could be adversely affected.

 

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Our exposure to commodity price risk may change over time.

 

We initially expect to generate all of our revenues pursuant to fee-based contracts under which we are paid based on the volumes that we process and transport, rather than the underlying value of the commodity, in order to minimize our exposure to commodity price risk. However, our efforts to negotiate and enter into similar fee-based contracts with new customers in the future may not be successful. In addition, we may acquire or develop additional midstream assets in a manner that increases our exposure to commodity price risk. Future exposure to the volatility of natural gas, NGL and oil prices could have a material adverse effect on our business, results of operations and financial condition and, as a result, our ability to make cash distributions to our unitholders.

 

Our business involves many hazards and operational risks, some of which may not be fully covered by insurance. The occurrence of a significant accident or other event that is not fully insured could curtail our operations and have a material adverse effect on our ability to distribute cash and, accordingly, the market price for our common units.

 

Our operations are subject to all of the hazards inherent in the gathering, processing and transporting of natural gas, including:

 

   

damage to pipelines and plants, related equipment and surrounding properties caused by hurricanes, tornadoes, floods, fires and other natural disasters, acts of terrorism and acts of third parties;

 

   

damage from construction, farm and utility equipment as well as other subsurface activity (for example, mine subsidence);

 

   

leaks of natural gas, NGLs or oil or losses of natural gas, NGLs or oil as a result of the malfunction of equipment or facilities;

 

   

fires, ruptures and explosions;

 

   

other hazards that could also result in personal injury and loss of life, pollution and suspension of operations; and

 

   

hazards experienced by other operators that may affect our operations by instigating increased regulations and oversight.

 

Any of these risks could adversely affect our ability to conduct operations or result in substantial loss to us as a result of claims for:

 

   

injury or loss of life;

 

   

damage to and destruction of property, natural resources and equipment;

 

   

pollution and other environmental damage;

 

   

regulatory investigations and penalties;

 

   

suspension of our operations; and

 

   

repair and remediation costs.

 

We may elect not to obtain insurance for any or all of these risks if we believe that the cost of available insurance is excessive relative to the risks presented. In addition, pollution and environmental risks generally are not fully insurable. The occurrence of an event that is not fully covered by insurance could have a material adverse effect on our business, financial condition and results of operations.

 

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We do not own the land on which most of our pipelines and facilities are located, which could result in disruptions to our operations.

 

Other than the Mt. Olive Plant, we do not own any of the land on which our pipelines and facilities are located, and we are, therefore, subject to the possibility of more onerous terms or increased costs to retain necessary land use if we do not have valid rights-of-way or if such rights-of-way lapse or terminate. In some cases, we obtain the rights to construct and operate our pipelines on land owned by third parties and governmental agencies for a specific period of time. Our loss of these rights, through our inability to renew right-of-way contracts or otherwise, could have a material adverse effect on our business, results of operations, financial condition and ability to make cash distributions to you.

 

The loss of key personnel could adversely affect our ability to operate.

 

We depend on the services of a relatively small group of our general partner’s senior management and technical personnel. We do not maintain, nor do we have any current plan to obtain, any insurance against the loss of any of these individuals. The loss of the services of our general partner’s senior management or technical personnel, including Thomas F. Karam, Chairman and Chief Executive Officer, Robert O. Bond, President and Chief Operating Officer, and Steven R. Jones, Executive Vice President and Chief Financial Officer, could have a material adverse effect on our business, financial condition and results of operations.

 

We do not have any officers or employees and rely solely on officers and employees of our general partner and its affiliates.

 

We are managed and operated by the board of directors of our general partner. Affiliates of our general partner conduct businesses and activities of their own in which we have no economic interest. As a result, there could be material competition for the time and effort of the officers and employees who provide services to our general partner and its affiliates. If our general partner and the officers and employees of our general partner and its affiliates, including the employees PennTex Management will second to our general partner pursuant to the services and secondment agreement, do not devote sufficient attention to the management and operation of our business, our financial results may suffer, and our ability to make distributions to our unitholders may be reduced.

 

The amount of cash we will have available for distribution to our unitholders depends primarily on our cash flow and not solely on profitability, which may prevent us from making distributions, even during periods in which we record net income.

 

You should be aware that the amount of cash we will have available for distribution depends primarily upon our cash flow and not solely on profitability, which will be affected by non-cash items. As a result, we may make cash distributions during periods when we record a net loss for financial accounting purposes, and conversely, we might fail to make cash distributions during periods when we record net income for financial accounting purposes.

 

A change in the jurisdictional characterization of some of our assets by federal, state or local regulatory agencies or a change in policy by those agencies may result in increased regulation of such assets, which may cause our revenues to decline and our operating expenses to increase.

 

We expect our natural gas transportation operations will be exempt from regulation by the Federal Energy Regulatory Commission, or FERC, under the Natural Gas Act of 1938, or NGA. Section 1(b) of the NGA, exempts natural gas gathering facilities from regulation by FERC under the NGA. Although the FERC has not made any formal determinations with respect to any of our facilities, which we believe to be gathering facilities, we believe that our natural gas pipelines meet the traditional tests FERC has used to establish whether a pipeline is a gathering pipeline not subject to FERC jurisdiction. The distinction between FERC-regulated transmission

 

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services and federally unregulated gathering services, however, has been the subject of substantial litigation, and the FERC determines whether facilities are gathering facilities on a case-by-case basis, so the classification and regulation of our gathering facilities may be subject to change based on future determinations by FERC, the courts, or Congress. If the FERC were to consider the status of an individual facility and determine that the facility or services provided by it are not exempt from FERC regulation under the NGA, the rates for, and terms and conditions of, services provided by such facility would be subject to regulation by the FERC under the NGA or the Natural Gas Policy Act of 1978, or NGPA. Such regulation could decrease revenue, increase operating costs, and, depending upon the facility in question, adversely affect our results of operations and cash flows. If any of our facilities were found to have provided services or otherwise operated in violation of the NGA or NGPA, this could result in the imposition of civil penalties, as well as a requirement to disgorge charges for such services in excess of the rate established by the FERC.

 

Other FERC regulations may indirectly impact our business and the market for products derived from our business. FERC’s policies and practices across the range of its natural gas regulatory activities, including, for example, its policies on open access transportation, market manipulation, ratemaking, gas quality, capacity release and market center promotion, may indirectly affect the intrastate natural gas market. Should we fail to comply with any applicable FERC administered statutes, rules, regulations and orders, we could be subject to substantial penalties and fines, which could have a material adverse effect on our results of operations and cash flows. FERC has civil penalty authority under the NGA and NGPA to impose penalties for current violations of up to $1,000,000 per day per violation for violations occurring after August 8, 2005.

 

State regulation of natural gas gathering facilities and intrastate transportation pipelines generally includes various safety, environmental and, in some circumstances, nondiscriminatory take and common purchaser requirements, as well as complaint-based rate regulation. Other state regulations may not directly apply to our business, but may nonetheless affect the availability of natural gas.

 

For more information regarding federal and state regulation of our operations, please read “Business—Regulation of Operations.”

 

Our PennTex NGL Pipeline will be regulated by the FERC, which may adversely affect our revenue and results of operations.

 

We expect that our PennTex NGL Pipeline will be regulated by the FERC under the Interstate Commerce Act, or the ICA, and the Energy Policy Act of 1992, or EPAct 1992, and the rules and regulations promulgated under those laws. FERC regulates the rates and terms and conditions of service, including access rights, for shipments of product on common carrier petroleum pipelines where such product is intended to be delivered into interstate commerce. As a result of FERC regulation, we may not be able to choose our customers or recover some of our costs of service allocable to such transportation service, which may adversely affect our revenue and result of operations.

 

Increased regulation of hydraulic fracturing could result in reductions or delays in natural gas, NGLs and oil production by our customers, which could reduce the throughput on our assets, which could adversely impact our revenues.

 

Memorial Resource regularly uses hydraulic fracturing as part of its operations in northern Louisiana. Hydraulic fracturing is a well stimulation process that utilizes large volumes of water and sand (or other proppant) combined with fracturing chemical additives that are pumped at high pressure to crack open previously impenetrable rock to release hydrocarbons. Hydraulic fracturing is typically regulated by state oil and gas commissions and similar agencies. Some states, including Louisiana, have adopted, and other states are considering adopting, regulations that could impose more stringent disclosure and/or well construction

 

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requirements on hydraulic fracturing operations. In addition, various studies are currently underway by the U.S. Environmental Protection Agency, or the EPA, and other federal agencies concerning the potential environmental impacts of hydraulic fracturing activities. At the same time, certain environmental groups have suggested that additional laws may be needed to more closely and uniformly regulate the hydraulic fracturing process, and legislation has been proposed by some members of Congress to provide for such regulation. We cannot predict whether any such legislation will ever be enacted and if so, what its provisions would be. If additional levels of regulation and permits were required through the adoption of new laws and regulations at the federal or state level, that could lead to delays, increased operating costs and process prohibitions that could reduce the volumes of liquids and natural gas that move through our assets, which in turn could materially adversely affect our revenues and results of operations.

 

We and our customers may incur significant liability under, or costs and expenditures to comply with, environmental and worker health and safety regulations, which are complex and subject to frequent change.

 

Upon the commencement of our operations, we will be subject to various stringent federal, state, provincial and local laws and regulations relating to the discharge of materials into, and protection of, the environment. Numerous governmental authorities, such as the EPA and analogous state agencies, have the power to enforce compliance with these laws and regulations and the permits issued under them, oftentimes requiring difficult and costly response actions. These laws and regulations may impose numerous obligations that are applicable to our and our customers’ operations, including the acquisition of permits to conduct regulated activities, the incurrence of capital or operating expenditures to limit or prevent releases of materials from our or our customers’ operations, the imposition of specific standards addressing worker protection and the imposition of substantial liabilities and remedial obligations for pollution or contamination resulting from our and our customers’ operations. Failure to comply with these laws, regulations and permits may result in joint and several, strict liability and the assessment of administrative, civil and criminal penalties, the imposition of remedial obligations and the issuance of injunctions limiting or preventing some or all of our operations. Private parties, including the owners of the properties through which our pipelines pass and facilities where wastes resulting from our operations are taken for reclamation or disposal, may also have the right to pursue legal actions to enforce compliance, as well as to seek damages for non-compliance with environmental laws and regulations or for personal injury or property damage. We may not be able to recover all or any of these costs from insurance. In addition, we may experience a delay in obtaining or be unable to obtain required permits, which may cause us to lose potential and current customers, interrupt our operations and limit our growth and revenues, which in turn could affect our profitability. There is no assurance that changes in or additions to public policy regarding the protection of the environment will not have a significant impact on our operations and profitability.

 

Our operations also pose risks of environmental liability due to leakage, migration, releases or spills from our operations to surface or subsurface soils, surface water or groundwater. Certain environmental laws impose strict as well as joint and several liability for costs required to remediate and restore sites where hazardous substances, hydrocarbons, or solid wastes have been stored or released. We may be required to remediate contaminated properties operated by prior owners or facilities of third parties that received waste generated by our operations regardless of whether such contamination resulted from the conduct of others or from consequences of our own actions that were in compliance with all applicable laws at the time those actions were taken. In addition, claims for damages to persons or property, including natural resources, may result from the environmental, health and safety impacts of our operations. Moreover, public interest in the protection of the environment has increased dramatically in recent years. The trend of more expansive and stringent environmental legislation and regulations applied to the crude oil and natural gas industry could continue, resulting in increased costs of doing business and consequently affecting profitability. Please read “Business—Regulation of Environmental and Occupational Safety and Health Matters” for more information.

 

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Climate change laws and regulations restricting emissions of “greenhouse gases” could result in increased operating costs and reduced demand for the natural gas that we process and transport while potential physical effects of climate change could disrupt our customers’ production and cause us to incur significant costs in preparing for or responding to those effects.

 

In response to findings that emissions of carbon dioxide, methane and other greenhouse gases, or GHGs, present an endangerment to public health and the environment, the EPA has adopted regulations under existing provisions of the federal Clean Air Act that, among other things, establish Prevention of Significant Deterioration, or PSD, construction and Title V operating permit reviews for certain large stationary sources that are potential major sources of GHG emissions. Facilities required to obtain PSD permits for their GHG emissions also will be required to meet “best available control technology” standards that will be established by the states or, in some cases, by the EPA on a case by-case basis. These EPA rulemakings could adversely affect our operations and restrict or delay our ability to obtain air permits for new or modified sources. In addition, the EPA has adopted rules requiring the monitoring and reporting of GHG emissions from specified onshore and offshore oil and gas production sources in the U.S. on an annual basis. We expect to monitor GHG emissions from our operations in accordance with the GHG emissions reporting rule. While Congress has from time to time considered legislation to reduce emissions of GHGs, there has not been significant activity in the form of adopted legislation to reduce GHG emissions at the federal level in recent years. In the absence of such federal climate legislation, a number of state and regional efforts have emerged that are aimed at tracking and/or reducing GHG emissions by means of cap and trade programs that typically require major sources of GHG emissions, such as electric power plants, to acquire and surrender emission allowances in return for emitting those GHGs. If Congress undertakes comprehensive tax reform, it is possible that such reform may include a carbon tax, which could impose additional direct costs on operations and reduce demand for refined products. Furthermore, the Obama administration announced its Climate Action Plan in 2013, which, among other things, directs federal agencies to develop a strategy for the reduction of methane emissions, including emissions from the oil and gas industry. As part of the Climate Action Plan, the Obama Administration also announced that it intends to adopt additional regulations to reduce emissions of GHGs and to encourage greater use of low carbon technologies in the coming years. Although it is not possible at this time to predict how legislation or new regulations that may be adopted to address GHG emissions would impact our business, any such future laws and regulations imposing reporting obligations on, or limiting emissions of GHGs from, our equipment and operations could require us to incur costs to reduce emissions of GHGs associated with our operations. Substantial limitations on GHG emissions could also adversely affect demand for the natural gas that we process and transport. Finally, it should be noted that some scientists have concluded that increasing concentrations of GHGs in the Earth’s atmosphere may produce climate changes that have significant physical effects, such as increased frequency and severity of storms, floods and other climatic events. If any such effects were to occur, they could have an adverse effect on our and our customers’ operations.

 

We may incur significant costs and liabilities as a result of pipeline integrity management program testing and any related pipeline repair or preventative or remedial measures.

 

The United States Department of Transportation, or DOT, has adopted regulations requiring pipeline operators to develop integrity management programs for transportation pipelines located where a leak or rupture could do the most harm in “high consequence areas.” The regulations require operators to:

 

   

perform ongoing assessments of pipeline integrity;

 

   

identify and characterize applicable threats to pipeline segments that could impact a high consequence area;

 

   

improve data collection, integration and analysis;

 

   

repair and remediate the pipeline as necessary; and

 

   

implement preventive and mitigating actions.

 

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The Pipeline Safety, Regulatory Certainty and Job Creation Act of 2011, or the 2011 Pipeline Safety Act, among other things, increases the maximum civil penalty for pipeline safety violations and directs the Secretary of Transportation to promulgate rules or standards relating to expanded integrity management requirements, automatic or remote-controlled valve use, excess flow valve use, leak detection system installation and testing to confirm the material strength of pipe operating above 30% of specified minimum yield strength in high consequence areas. Effective October 25, 2013, the Pipelines and Hazardous Materials Safety Administration, or PHMSA, adopted new rules increasing the maximum administrative civil penalties for violations of the pipeline safety laws and regulations that occur after January 3, 2012 to $200,000 per violation per day, with a maximum of $2,000,000 for a related series of violations. Should our operations fail to comply with DOT or comparable state regulations, we could be subject to substantial penalties and fines.

 

PHMSA has also published advanced notices of proposed rulemaking to solicit comments on the need for changes to its safety regulations, including whether to extend the integrity management requirements to additional types of facilities, such as gathering pipelines and related facilities. Additionally, PHMSA recently issued an advisory bulletin providing guidance on the verification of records related to pipeline maximum allowable operating pressure and maximum operating pressure, which could result in additional requirements for the pressure testing of pipelines or the reduction of maximum operating pressures. The adoption of these and other laws or regulations that apply more comprehensive or stringent safety standards could require us to install new or modified safety controls, pursue new capital projects, or conduct maintenance programs on an accelerated basis, all of which could require us to incur increased operational costs that could be significant. While we cannot predict the outcome of legislative or regulatory initiatives, such legislative and regulatory changes could have a material effect on our cash flow. Please read “Business—Regulation of Operations—Pipeline Safety Regulation” for more information.

 

Terrorist attacks or cyber-attacks could have a material adverse effect on our business, financial condition or results of operations.

 

Terrorist attacks or cyber-attacks may significantly affect the energy industry, including our operations and those of our customers, as well as general economic conditions, consumer confidence and spending and market liquidity. Strategic targets, such as energy-related assets, may be at greater risk of future attacks than other targets in the United States. We do not maintain specialized insurance for possible liability resulting from such attacks on our assets that may shut down all or part of our business. Consequently, it is possible that any of these occurrences, or a combination of them, could have a material adverse effect on our business, financial condition and results of operations.

 

Risks Inherent in an Investment in Us

 

Our parent, our general partner and their respective affiliates have conflicts of interest with us and limited duties to us and our unitholders, and they may favor their own interests to the detriment of us and our other common unitholders.

 

Following this offering, our parent and MRD WHR LA will own a 92.5% and 7.5% interest in our general partner, respectively, and our parent will be entitled to appoint all of the officers and directors of our general partner. All of our initial officers and certain of our initial directors will also be officers or directors of our parent. Although our general partner has a duty to manage us in a manner that is beneficial to us and our unitholders, the directors and officers of our general partner have a fiduciary duty to manage our general partner in a manner that is beneficial to its owner, our parent. Further, our directors and officers who are also directors and officers of our parent have a fiduciary duty to manage our parent in a manner that is beneficial to our parent. Conflicts of interest will arise between our parent and our general partner, on the one hand, and us and our common unitholders, on the other hand. In resolving these conflicts of interest, our general partner may favor its own interests and the interests of our parent over our interests and the interests of our unitholders. These conflicts include the following situations, among others:

 

   

actions taken by our general partner may affect the amount of cash available to pay distributions to unitholders or accelerate the right to convert subordinated units;

 

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the directors and officers of our parent have a fiduciary duty to make decisions in the best interests of the owners of our parent, which may be contrary to our interests;

 

   

our general partner is allowed to take into account the interests of parties other than us, such as our parent and MRD WHR LA, in exercising certain rights under our partnership agreement;

 

   

except in limited circumstances, our general partner has the power and authority to conduct our business without unitholder approval;

 

   

our general partner may cause us to borrow funds in order to permit the payment of cash distributions,

 

   

our general partner determines the amount and timing of asset purchases and sales, borrowings, issuances of additional partnership securities and the level of reserves, each of which can affect the amount of cash that is distributed to our unitholders;

 

   

our general partner determines the amount and timing of any capital expenditure and whether a capital expenditure is classified as a maintenance capital expenditure, which reduces operating surplus, or an expansion capital expenditure, which does not reduce operating surplus. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—Operating Surplus and Capital Surplus—Capital Expenditures” for a discussion on when a capital expenditure constitutes a maintenance capital expenditure or an expansion capital expenditure. This determination can affect the amount of cash from operating surplus that is distributed to our unitholders which, in turn, may affect the ability of the subordinated units owned by PennTex Development and MRD WHR LA to convert. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—Distributions from Capital Surplus”;

 

   

our partnership agreement limits the liability of, and replaces the duties owed by, our general partner and also restricts the remedies available to our unitholders for actions that, without the limitations, might constitute breaches of fiduciary duty;

 

   

common unitholders have no right to enforce obligations of our general partner and its affiliates under agreements with us;

 

   

contracts between us, on the one hand, and our general partner and its affiliates, on the other, are not and will not be the result of arm’s-length negotiations;

 

   

our partnership agreement permits us to distribute up to $33.0 million as operating surplus, even if it is generated from asset sales, non-working capital borrowings or other sources that would otherwise constitute capital surplus, which may be used to fund distributions on our subordinated units or the incentive distribution rights;

 

   

our general partner determines which costs incurred by it and its affiliates are reimbursable by us;

 

   

our partnership agreement does not restrict our general partner from causing us to pay it or its affiliates for any services rendered to us or entering into additional contractual arrangements with its affiliates on our behalf;

 

   

our general partner intends to limit its liability regarding our contractual and other obligations;

 

   

our general partner may exercise its right to call and purchase common units if it and its affiliates own more than 80% of the common units;

 

   

our general partner controls the enforcement of obligations that it and its affiliates owe to us;

 

   

we may not choose to retain separate counsel for ourselves or for the holders of common units;

 

   

our general partner’s affiliates may compete with us, and neither our general partner nor its affiliates have any obligation to present business opportunities to us; and

 

   

PennTex Development, as the holder of a majority of our incentive distribution rights, may elect to cause us to issue common units to it in connection with a resetting of incentive distribution levels without the approval of our unitholders, which may result in lower distributions to our common unitholders in certain situations.

 

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Please read “Conflicts of Interest and Fiduciary Duties.”

 

Ongoing cost reimbursements due to our general partner and its affiliates for services provided, which will be determined by our general partner, will be substantial and will reduce the amount of cash available for distribution to our unitholders.

 

Prior to making distributions on our common units, we will reimburse our general partner and its affiliates for all direct and indirect expenses they incur and payments they make on our behalf. These expenses will include all costs incurred by our general partner and its affiliates in managing and operating us, including costs for rendering administrative staff and support services to us and reimbursements paid by our general partner to our parent for customary management and general administrative services. These reimbursable expenses include our general and administrative expenses, which we estimate will be $6.25 million for the twelve months ending June 30, 2016. These general and administrative expenses include expenses of approximately $4.0 million annually as a result of being a publicly traded partnership, such as expenses associated with annual and quarterly reporting; tax return and Schedule K-1 preparation and distribution expenses; Sarbanes-Oxley compliance expenses; expenses associated with listing on NASDAQ; independent auditor fees; legal fees; investor relations expenses; registrar and transfer agent fees; director and officer liability insurance expenses and director compensation.

 

There is no limit on the amount of expenses for which our general partner and its affiliates may be reimbursed under the services and secondment agreement. Our partnership agreement provides that our general partner will determine the expenses that are allocable to us in good faith. In addition, under Delaware partnership law, our general partner has unlimited liability for our obligations, such as our debts and environmental liabilities, except for our contractual obligations that are expressly made without recourse to our general partner. To the extent our general partner incurs obligations on our behalf, we are obligated to reimburse or indemnify it. If we are unable or unwilling to reimburse or indemnify our general partner, our general partner may take actions to cause us to make payments of these obligations and liabilities. Any such payments could reduce the amount of cash available for distribution to our unitholders.

 

We expect to distribute a significant portion of our cash available for distribution to our partners, which could limit our ability to grow and make acquisitions.

 

We plan to distribute to our partners most of our cash available for distribution, which may cause our growth to proceed at a slower pace than that of businesses that reinvest their cash to expand ongoing operations.

 

To the extent we issue additional units in connection with any acquisitions or expansion capital expenditures, the payment of distributions on those additional units may increase the risk that we will be unable to maintain or increase our per unit distribution level. There are no limitations in our partnership agreement on our ability to issue additional units, including units ranking senior to the common units. In addition, the incurrence of commercial borrowings or other debt to finance our growth strategy would result in increased interest expense, which, in turn, may reduce our cash available for distribution to our unitholders.

 

Our partnership agreement replaces our general partner’s fiduciary duties to holders of our units with contractual standards.

 

Our partnership agreement contains provisions that eliminate and replace the fiduciary standards to which our general partner would otherwise be held by state fiduciary duty law. For example, our partnership agreement permits our general partner to make a number of decisions, in its individual capacity, as opposed to in its capacity as our general partner or otherwise, free of fiduciary duties to us and our unitholders. This entitles our general partner to consider only the interests and factors that it desires, and it has no duty or obligation to give any consideration to any interest of, or factors affecting, us, our affiliates or our limited partners. Examples of decisions that our general partner may make in its individual capacity include:

 

   

how to allocate business opportunities among us and its other affiliates;

 

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whether to exercise its limited call right;

 

   

how to exercise its voting rights with respect to the units it owns;

 

   

whether to exercise its registration rights;

 

   

whether to elect to reset target distribution levels; and

 

   

whether or not to consent to any merger or consolidation of the partnership or amendment to the partnership agreement.

 

By purchasing a common unit, a unitholder is treated as having consented to the provisions in the partnership agreement, including the provisions discussed above. Please read “Conflicts of Interest and Fiduciary Duties—Duties.”

 

Our partnership agreement will designate the Court of Chancery of the State of Delaware as the exclusive forum for certain types of actions and proceedings that may be initiated by our unitholders, which would limit our unitholders’ ability to choose the judicial forum for disputes with us or our general partner’s directors, officers or other employees.

 

Our partnership agreement will provide that, with certain limited exceptions, the Court of Chancery of the State of Delaware will be the exclusive forum for any claims, suits, actions or proceedings (1) arising out of or relating in any way to our partnership agreement (including any claims, suits or actions to interpret, apply or enforce the provisions of our partnership agreement or the duties, obligations or liabilities among limited partners or of limited partners to us, or the rights or powers of, or restrictions on, the limited partners or us), (2) brought in a derivative manner on our behalf, (3) asserting a claim of breach of a duty owed by any director, officer or other employee of us or our general partner, or owed by our general partner, to us or the limited partners, (4) asserting a claim arising pursuant to any provision of the Delaware Revised Uniform Limited Partnership Act, or the Delaware Act, or (5) asserting a claim against us governed by the internal affairs doctrine. By purchasing a common unit, a limited partner is irrevocably consenting to these limitations and provisions regarding claims, suits, actions or proceedings and submitting to the exclusive jurisdiction of the Court of Chancery of the State of Delaware (or such other court) in connection with any such claims, suits, actions or proceedings. This provision may have the effect of discouraging lawsuits against us and our general partner’s directors and officers. For additional information about the exclusive forum provision of our partnership agreement, please read “Our Partnership Agreement—Exclusive Forum.”

 

Holders of our common units have limited voting rights and are not entitled to elect our general partner or its directors, which could reduce the price at which our common units will trade.

 

Compared to the holders of common stock in a corporation, unitholders have limited voting rights and, therefore, limited ability to influence management’s decisions regarding our business. Unitholders will have no right on an annual or ongoing basis to elect our general partner or its board of directors. The board of directors of our general partner, including the independent directors, is chosen entirely by our parent, as a result of it owning 92.5% of our general partner, and not by our unitholders. Please read “Management—Management of PennTex Midstream Partners, LP” and “Certain Relationships and Related Transactions.” Unlike publicly traded corporations, we will not conduct annual meetings of our unitholders to elect directors or conduct other matters routinely conducted at annual meetings of stockholders of corporations. As a result of these limitations, the price at which the common units will trade could be diminished because of the absence or reduction of a takeover premium in the trading price.

 

Our general partner intends to limit its liability regarding our obligations.

 

Our general partner intends to limit its liability under contractual arrangements between us and third parties so that the counterparties to such arrangements have recourse only against our assets, and not against our general partner or its assets. Our general partner may therefore cause us to incur indebtedness or other obligations that

 

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are nonrecourse to our general partner. Our partnership agreement provides that any action taken by our general partner to limit its liability is not a breach of our general partner’s duties, even if we could have obtained more favorable terms without the limitation on liability. In addition, we are obligated to reimburse or indemnify our general partner to the extent that it incurs obligations on our behalf. Any such reimbursement or indemnification payments would reduce the amount of cash available for distribution to our unitholders.

 

As the holder of a majority of our incentive distribution rights, PennTex Development may elect to cause us to issue common units to it in connection with a resetting of the target distribution levels related to its incentive distribution rights, without the approval of the conflicts committee of our general partner’s board of directors or the holders of our common units. This could result in lower distributions to holders of our common units.

 

PennTex Development has the right, as the holder of a majority of our incentive distribution rights, at any time when there are no subordinated units outstanding and it has received incentive distributions at the highest level to which it is entitled (50%) for the prior four consecutive fiscal quarters, to reset the initial target distribution levels at higher levels based on our distributions at the time of the exercise of the reset election. Following a reset election by PennTex Development, the minimum quarterly distribution will be adjusted to equal the reset minimum quarterly distribution, and the target distribution levels will be reset to correspondingly higher levels based on percentage increases above the reset minimum quarterly distribution.

 

If PennTex Development elects to reset the target distribution levels, the holders of our incentive distribution rights will be entitled to receive a number of common units equal to the number of common units that would have entitled such holders to an aggregate quarterly cash distribution in the quarter prior to the reset election equal to the distribution to such holders in respect of their incentive distribution rights in the quarter prior to the reset election. We anticipate that PennTex Development would exercise this reset right in order to facilitate acquisitions or internal growth projects that would not be sufficiently accretive to cash distributions per common unit without such conversion. It is possible, however, that PennTex Development could exercise this reset election at a time when it is experiencing, or expects to experience, declines in the cash distributions it receives related to its incentive distribution rights and may, therefore, desire to be issued common units rather than retain the right to receive incentive distributions based on the initial target distribution levels. This risk could be elevated if our parent transfers its incentive distribution rights to a third party. A reset election may also cause our common unitholders to experience a reduction in the amount of cash distributions that our common unitholders would have otherwise received had we not issued new common units to the holders of our incentive distribution rights in connection with resetting the target distribution levels. Any holder of our incentive distribution rights (including PennTex Development or MRD WHR LA) may transfer all or a portion of its incentive distribution rights in the future, and the holder or holders of a majority of our incentive distribution rights will be entitled to exercise the right to reset the target distribution levels. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—PennTex Development’s Right to Reset Incentive Distribution Levels.”

 

The incentive distribution rights held by PennTex Development and MRD WHR LA may be transferred to a third party without unitholder consent.

 

Any holder of our incentive distribution rights (including PennTex Development or MRD WHR LA) may transfer its incentive distribution rights to a third party at any time without the consent of our unitholders. If either PennTex Development or MRD WHR LA transfers its incentive distribution rights, then it may not have the same incentive to grow our partnership and increase quarterly distributions to unitholders over time as such entity would if it had retained ownership of its incentive distribution rights.

 

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Increases in interest rates could adversely impact our unit price and our ability to issue additional equity, to incur debt to capture growth opportunities or for other purposes, or to make cash distributions at our intended levels.

 

If interest rates rise, the interest rates on our revolving credit facility, future credit facilities and debt offerings could be higher than current levels, causing our financing costs to increase accordingly. As with other yield-oriented securities, our unit price is impacted by the level of our cash distributions and implied distribution yield. The distribution yield is often used by investors to compare and rank related yield-oriented securities for investment decision-making purposes. Therefore, changes in interest rates, either positive or negative, may affect the yield requirements of investors who invest in our units, and a rising interest rate environment could have an adverse impact on our unit price and our ability to issue additional equity, to incur debt to expand or for other purposes, or to make cash distributions at our intended levels.

 

Our partnership agreement restricts the voting rights of unitholders owning 20% or more of our common units.

 

Unitholders’ voting rights are restricted by the partnership agreement provision providing that any units held by a person or group that owns 20% or more of any class of units then outstanding, other than our general partner, its affiliates (including PennTex Development), their transferees and persons who acquired such units with the prior approval of the board of directors of our general partner, cannot vote on any matter.

 

Control of our general partner may be transferred to a third party without unitholder consent.

 

Our general partner may transfer its general partner interest to a third party in a merger or in a sale of all or substantially all of its assets without the consent of our unitholders. Furthermore, our partnership agreement does not restrict the ability of the owners of our general partner from transferring all or a portion of their respective ownership interest in our general partner to a third party. The new owners of our general partner would then be in a position to replace the board of directors and officers of our general partner with its own choices and thereby exert significant control over the decisions made by the board of directors and officers. This effectively permits a “change of control” without the vote or consent of the unitholders.

 

You will experience immediate dilution in tangible net book value of $15.21 per common unit.

 

The assumed initial public offering price of $20.00 per unit exceeds our pro forma net tangible book value of $4.79 per unit. Based on the assumed initial public offering price of $20.00 per unit (the midpoint of the price range set forth on the cover page of this prospectus), you will incur immediate and substantial dilution of $15.21 per common unit after giving effect to the offering of common units and the application of the related net proceeds. Dilution results primarily because the assets being contributed by our general partner and its affiliates are recorded in accordance with GAAP at their historical cost and not their fair value. Please read “Dilution.”

 

We may issue additional units, including units that are senior to the common units, without your approval, which would dilute your existing ownership interests.

 

Our partnership agreement does not limit the number of additional limited partner interests that we may issue at any time without the approval of our unitholders. The issuance by us of additional common units or other equity securities of equal or senior rank will have the following effects:

 

   

each unitholder’s proportionate ownership interest in us will decrease;

 

   

the amount of cash available for distribution on each unit may decrease;

 

   

because a lower percentage of total outstanding units will be subordinated units, the risk that a shortfall in the payment of the minimum quarterly distribution will be borne by our common unitholders will increase;

 

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the ratio of taxable income to distributions may increase;

 

   

the relative voting strength of each previously outstanding unit may be diminished; and

 

   

the market price of the common units may decline.

 

There are no limitations in our partnership agreement on our ability to issue units ranking senior to the common units.

 

In accordance with Delaware law and the provisions of our partnership agreement, we may issue additional partnership interests that are senior to the common units in right of distribution, liquidation and voting. The issuance by us of units of senior rank may, among other adverse effects: (i) reduce or eliminate the amount of cash available for distribution to our common unitholders; (ii) diminish the relative voting strength of the total common units outstanding as a class or (iii) subordinate the claims of the common unitholders to our assets in the event of our liquidation.

 

PennTex Development, MRD WHR LA and certain of their respective transferees may sell common units in the public markets or otherwise, which sales could have an adverse impact on the trading price of the common units.

 

Upon the completion of this offering and the related formation transactions, PennTex Development will own 3,664,808 common units and 12,500,000 subordinated units, and MRD WHR LA will own 3,281,250 common units and 7,500,000 subordinated units. All of the subordinated units will convert into common units at the end of the subordination period and may convert earlier. In addition, in connection with this offering, we will enter into a registration rights agreement pursuant to which we may be required to register under the Securities Act the sale of the common units and subordinated units held by PennTex Development, MRD WHR LA and certain of their respective transferees. The sale of these units in public or private markets could have an adverse impact on the price of the common units or on any trading market that may develop. Please read “Units Eligible for Future Sale.”

 

Our general partner has a limited call right that may require unitholders to sell their common units at an undesirable time or price.

 

If at any time our general partner and its affiliates (including PennTex Development) own more than 80% of the common units, our general partner will have the right, but not the obligation, which it may assign to any of its affiliates or to us, to acquire all, but not less than all, of the common units held by unaffiliated persons at a price equal to the greater of (i) the highest cash price paid by either our general partner or any of its affiliates for any common units purchased within the 90 days preceding the date on which our general partner first mails notice of its election to purchase those common units and (ii) the current market price calculated in accordance with our partnership agreement as of the date three business days before the date the notice is mailed. As a result, unitholders may be required to sell their common units at an undesirable time or price and may not receive any return or a negative return on their investment. Unitholders may also incur a tax liability upon a sale of their units. Our general partner is not obligated to obtain a fairness opinion regarding the value of the common units to be repurchased by it upon exercise of the limited call right. There is no restriction in our partnership agreement that prevents our general partner from issuing additional common units and exercising its call right. If our general partner exercised its limited call right, the effect would be to take us private and, if the units were subsequently deregistered, we would no longer be subject to the reporting requirements of the Securities Exchange Act of 1934, or the Exchange Act. Upon consummation of this offering and the related formation transactions, our general partner and its affiliates (including PennTex Development) will own an aggregate of approximately 34.7% of our common units (or approximately 26.3% if the underwriters exercise in full their option to purchase additional common units) and all of our subordinated units. At the end of the subordination period, assuming no additional issuances of units (other than upon the conversion of the subordinated units), our general partner and its affiliates (including PennTex Development) will own 67.4% of our common units. For additional information about the limited call right, please read “Our Partnership Agreement—Limited Call Right.”

 

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Your liability may not be limited if a court finds that unitholder action constitutes control of our business.

 

A general partner of a partnership generally has unlimited liability for the obligations of the partnership, except for those contractual obligations of the partnership that are expressly made without recourse to the general partner. Our partnership is organized under Delaware law, and we will initially own assets and conduct business in Louisiana. You could be liable for any and all of our obligations as if you were a general partner if:

 

   

a court or government agency determined that we were conducting business in a state but had not complied with that particular state’s partnership statute; or

 

   

your right to act with other unitholders to remove or replace the general partner, to approve some amendments to our partnership agreement or to take other actions under our partnership agreement constitute “control” of our business.

 

For a discussion of the implications of the limitations of liability on a unitholder, please read “Our Partnership Agreement—Limited Liability.”

 

Unitholders may have liability to repay distributions that were wrongfully distributed to them.

 

Under certain circumstances, unitholders may have to repay amounts wrongfully returned or distributed to them. Under Section 17-607 of the Delaware Act, we may not make a distribution to our unitholders if the distribution would cause our liabilities to exceed the fair value of our assets. Delaware law provides that for a period of three years from the date of the impermissible distribution, limited partners who received the distribution and who knew at the time of the distribution that it violated Delaware law will be liable to the limited partnership for the distribution amount. Substituted limited partners are liable for the obligations of the assignor to make contributions to the partnership that are known to the substituted limited partner at the time it became a limited partner and for unknown obligations if the liabilities could be determined from the partnership agreement. Liabilities to partners on account of their partnership interest and liabilities that are non-recourse to the partnership are not counted for purposes of determining whether a distribution is permitted.

 

There is no existing market for our common units, and a trading market that will provide you with adequate liquidity may not develop. The price of our common units may fluctuate significantly, which could cause you to lose all or part of your investment.

 

Prior to this offering, there has been no public market for the common units. After this offering and the related formation transactions, there will be only 11,250,000 publicly traded common units (excluding 1,803,942 common units delivered by PennTex Development to the holder of its preferred units). In addition, PennTex Development, an affiliate of our general partner, will own 3,664,808 common units and 12,500,000 subordinated units, representing an approximate 40.4% limited partner interest in us, and MRD WHR LA will own 3,281,250 common units and 7,500,000 subordinated units, representing an approximate 27.0% limited partner interest in us. We do not know the extent to which investor interest will lead to the development of a trading market or how liquid that market might be. You may not be able to resell your common units at or above the initial public offering price. Additionally, a lack of liquidity may result in wide bid-ask spreads, contribute to significant fluctuations in the market price of the common units and limit the number of investors who are able to buy the common units.

 

The initial public offering price for the common units will be determined by negotiations between us and the representatives of the underwriters and may not be indicative of the market price of the common units that will prevail in the trading market. The market price of our common units may decline below the initial public offering price. The market price of our common units may also be influenced by many factors, some of which are beyond our control, including:

 

   

our quarterly distributions;

 

   

our quarterly or annual earnings or those of other companies in our industry;

 

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events affecting Memorial Resource;

 

   

announcements by us or our competitors of significant contracts or acquisitions;

 

   

changes in accounting standards, policies, guidance, interpretations or principles;

 

   

general economic conditions;

 

   

the failure of securities analysts to cover our common units after the consummation of this offering or changes in financial estimates by analysts;

 

   

future sales of our common units; and

 

   

other factors described in these “Risk Factors.”

 

If we fail to develop or maintain an effective system of internal controls, we may not be able to accurately report our financial results or prevent fraud. As a result, current and potential unitholders could lose confidence in our financial reporting, which would harm our business and the trading price of our units.

 

Effective internal controls are necessary for us to provide reliable financial reports, prevent fraud and operate successfully as a public company. If we cannot provide reliable financial reports or prevent fraud, our reputation and operating results would be harmed. We cannot be certain that our efforts to develop and maintain our internal controls will be successful, that we will be able to maintain adequate controls over our financial processes and reporting in the future or that we will be able to comply with our obligations under Section 404 of the Sarbanes Oxley Act of 2002. Any failure to develop or maintain effective internal controls, or difficulties encountered in implementing or improving our internal controls, could harm our operating results or cause us to fail to meet our reporting obligations. Ineffective internal controls could also cause investors to lose confidence in our reported financial information, which would likely have a negative effect on the trading price of our units.

 

For as long as we are an “emerging growth company,” we will not be required to comply with certain disclosure requirements that apply to other public companies.

 

We are classified as an “emerging growth company” under the JOBS Act. For as long as we are an “emerging growth company,” which may be up to five full fiscal years, unlike other public companies, we will not be required to, among other things, (1) provide an auditor’s attestation report on management’s assessment of the effectiveness of our system of internal control over financial reporting pursuant to Section 404(b) of the Sarbanes-Oxley Act, (2) comply with any new requirements adopted by the PCAOB requiring mandatory audit firm rotation or a supplement to the auditor’s report in which the auditor would be required to provide additional information about the audit and the financial statements of the issuer, (3) provide certain disclosure regarding executive compensation required of larger public companies or (4) hold nonbinding advisory votes on executive compensation. We will remain an “emerging growth company” for up to five full fiscal years, although we will lose that status sooner if we have more than $1.0 billion of revenues in a fiscal year, become a large accelerated filer or issue more than $1.0 billion of non-convertible debt over a three-year period.

 

To the extent that we rely on any of the exemptions available to “emerging growth companies”, you will receive less information about our executive compensation and internal control over financial reporting than issuers that are not “emerging growth companies.” If some investors find our common units to be less attractive as a result, there may be a less active trading market for our common units and our trading price may be more volatile.

 

NASDAQ does not require a publicly traded partnership like us to comply with certain of its corporate governance requirements.

 

We have applied to list our common units on NASDAQ. Because we will be a publicly traded partnership, NASDAQ does not require us to have a majority of independent directors on our general partner’s board of

 

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directors or to establish a compensation committee or a nominating and corporate governance committee. Accordingly, unitholders will not have the same protections afforded to certain corporations that are subject to all of NASDAQ’s corporate governance requirements. Please read “Management—Management of PennTex Midstream Partners, LP.”

 

We will incur increased costs as a result of being a publicly traded partnership.

 

We have no history operating as a publicly traded partnership. As a publicly traded partnership, we will incur significant legal, accounting and other expenses that we did not incur prior to this offering. In addition, the Sarbanes-Oxley Act of 2002, as well as rules implemented by the SEC and NASDAQ, require publicly traded entities to adopt various corporate governance practices that will further increase our costs. Before we are able to make distributions to our unitholders, we must first pay or reserve cash for our expenses, including the costs of being a publicly traded partnership. As a result, the amount of cash we have available for distribution to our unitholders will be affected by the costs associated with being a publicly traded partnership.

 

Prior to this offering, we have not filed reports with the SEC. Following this offering, we will become subject to the public reporting requirements of the Exchange Act. We expect these rules and regulations to increase certain of our legal and financial compliance costs and to make activities more time-consuming and costly. For example, as a result of becoming a publicly traded partnership, we are required to have at least three independent directors, create an audit committee and adopt policies regarding internal controls and disclosure controls and procedures, including the preparation of reports on internal controls over financial reporting. In addition, we will incur additional costs associated with our SEC reporting requirements.

 

We also expect to incur significant expense in order to obtain director and officer liability insurance. Because of the limitations in coverage for directors, it may be more difficult for us to attract and retain qualified persons to serve on our board or as executive officers.

 

We estimate that we will incur approximately $4.0 million of incremental costs per year associated with being a publicly traded partnership; however, it is possible that our actual incremental costs of being a publicly traded partnership will be higher than we currently estimate.

 

Tax Risks

 

In addition to reading the following risk factors, please read “Material U.S. Federal Income Tax Consequences” for a more complete discussion of the expected material federal income tax consequences of owning and disposing of common units.

 

Our tax treatment depends on our status as a partnership for federal income tax purposes. If the Internal Revenue Service, or the IRS, were to treat us as a corporation for federal income tax purposes, which would subject us to entity-level taxation, or if we were otherwise subjected to a material amount of additional entity-level taxation, then the amount of cash available for distribution to our unitholders would be substantially reduced.

 

The anticipated after-tax economic benefit of an investment in the common units depends largely on our being treated as a partnership for federal income tax purposes. We have not requested a ruling from the IRS on this.

 

Despite the fact that we are a limited partnership under Delaware law, it is possible in certain circumstances for a partnership such as ours to be treated as a corporation for federal income tax purposes. A change in our business or a change in current law could cause us to be treated as a corporation for federal income tax purposes or otherwise subject us to taxation as an entity.

 

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If we were treated as a corporation for federal income tax purposes, we would pay federal income tax on our taxable income at the corporate tax rate, which is currently a maximum of 35%, and would likely pay state and local income tax at varying rates. Distributions would generally be taxed again as corporate dividends (to the extent of our current and accumulated earnings and profits), and no income, gains, losses, deductions, or credits would flow through to you. Because a tax would be imposed upon us as a corporation, the amount of cash available for distribution would be substantially reduced. In addition, changes in current state law may subject us to additional entity-level taxation by individual states. Because of widespread state budget deficits and other reasons, several states are evaluating ways to subject partnerships to entity-level taxation through the imposition of state income, franchise and other forms of taxation. Imposition of any such taxes may substantially reduce the cash available for distribution to you. Therefore, if we were treated as a corporation for federal income tax purposes or otherwise subjected to a material amount of entity-level taxation, there would be a material reduction in the anticipated cash flow and after-tax return to our unitholders, likely causing a substantial reduction in the value of our common units.

 

Our partnership agreement provides that, if a law is enacted or existing law is modified or interpreted in a manner that subjects us to taxation as a corporation or otherwise subjects us to entity-level taxation for federal, state or local income tax purposes, the minimum quarterly distribution amount and the target distribution levels may be adjusted to reflect the impact of that law on us.

 

The present federal income tax treatment of publicly traded partnerships, including us, or an investment in our common units may be modified by administrative, legislative or judicial interpretation at any time. For example, members of Congress and the President of the United States have periodically considered substantive changes to existing federal income tax laws that would affect the tax treatment of certain publicly traded partnerships, including the elimination of partnership tax treatment for publicly traded partnerships. Any modification to the federal income tax laws and interpretations thereof may or may not be retroactively applied and could make it more difficult or impossible for us to satisfy the requirements of the exception pursuant to which we will be treated as a partnership for federal income tax purposes. Please read “Material U.S. Federal Income Tax Consequences—Partnership Status.” We are unable to predict whether any such changes will ultimately be enacted. However, it is possible that a change in law could affect us, and any such changes could negatively impact the value of an investment in our common units.

 

Our unitholders’ share of our income will be taxable to them for federal income tax purposes even if they do not receive any cash distributions from us.

 

Because a unitholder will be treated as a partner to whom we will allocate taxable income that could be different in amount than the cash we distribute, a unitholder’s allocable share of our taxable income will be taxable to it, which may require the payment of federal income taxes and, in some cases, state and local income taxes, on its share of our taxable income even if it receives no cash distributions from us. Our unitholders may not receive cash distributions from us equal to their share of our taxable income or even equal to the actual tax liability that results from that income.

 

If the IRS contests the federal income tax positions we take, the market for our common units may be adversely impacted and the cost of any IRS contest will reduce the amount of cash available for distribution to our unitholders.

 

We have not requested a ruling from the IRS with respect to our treatment as a partnership for federal income tax purposes. The IRS may adopt positions that differ from the conclusions of our counsel expressed in this prospectus or from the positions we take, and the IRS’s positions may ultimately be sustained. It may be necessary to resort to administrative or court proceedings to sustain some or all of our counsel’s conclusions or the positions we take and such positions may not ultimately be sustained. A court may not agree with some or all

 

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of our counsel’s conclusions or the positions we take. Any contest with the IRS, and the outcome of any IRS contest, may have a materially adverse impact on the market for our common units and the price at which they trade. In addition, our costs of any contest with the IRS will be borne indirectly by our unitholders because the costs will reduce the amount of cash available for distribution.

 

Tax gain or loss on the disposition of our common units could be more or less than expected.

 

If our unitholders sell common units, they will recognize a gain or loss for federal income tax purposes equal to the difference between the amount realized and their tax basis in those common units. Because distributions in excess of their allocable share of our net taxable income decrease their tax basis in their common units, the amount, if any, of such prior excess distributions with respect to the common units a unitholder sells will, in effect, become taxable income to the unitholder if it sells such common units at a price greater than its tax basis in those common units, even if the price received is less than its original cost. Furthermore, a substantial portion of the amount realized on any sale of your common units, whether or not representing gain, may be taxed as ordinary income due to potential recapture items, including depreciation recapture. In addition, because the amount realized includes a unitholder’s share of our nonrecourse liabilities, a unitholder that sells common units may incur a tax liability in excess of the amount of cash received from the sale. Please read “Material U.S. Federal Income Tax Consequences—Disposition of Common Units—Recognition of Gain or Loss” for a further discussion of the foregoing.

 

Tax-exempt entities and non-U.S. persons face unique tax issues from owning our common units that may result in adverse tax consequences to them.

 

Investment in common units by tax-exempt entities, such as employee benefit plans and individual retirement accounts (known as IRAs), and non-U.S. persons raises issues unique to them. For example, virtually all of our income allocated to organizations that are exempt from federal income tax, including IRAs and other retirement plans, will be unrelated business taxable income and will be taxable to them. Distributions to non-U.S. persons will be reduced by withholding taxes at the highest applicable effective tax rate, and non-U.S. persons will be required to file federal income tax returns and pay tax on their share of our taxable income. If you are a tax-exempt entity or a non-U.S. person, you should consult a tax advisor before investing in our common units.

 

We will treat each purchaser of common units as having the same tax benefits without regard to the actual common units purchased. The IRS may challenge this treatment, which could adversely affect the value of the common units.

 

Because we cannot match transferors and transferees of common units and because of other reasons, we will adopt depreciation and amortization positions that may not conform to all aspects of existing Treasury Regulations. A successful IRS challenge to those positions could adversely affect the amount of tax benefits available to you. Latham & Watkins LLP is unable to opine as to the validity of such filing positions. It also could affect the timing of these tax benefits or the amount of gain from your sale of common units and could have a negative impact on the value of our common units or result in audit adjustments to your tax returns. Please read “Material U.S. Federal Income Tax Consequences—Tax Consequences of Unit Ownership—Section 754 Election” for a further discussion of the effect of the depreciation and amortization positions we will adopt.

 

We will prorate our items of income, gain, loss and deduction for federal income tax purposes between transferors and transferees of our units each month based upon the ownership of our units on the first business day of each month, instead of on the basis of the date a particular unit is transferred. The IRS may challenge this treatment, which could change the allocation of items of income, gain, loss and deduction among our unitholders.

 

We will prorate our items of income, gain, loss and deduction for federal income tax purposes between transferors and transferees of our units each month based upon the ownership of our units on the first business

 

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day of each month, instead of on the basis of the date a particular unit is transferred. The use of this proration method may not be permitted under existing Treasury Regulations, and, accordingly, our counsel is unable to opine as to the validity of this method. The U.S. Treasury Department has issued proposed regulations that provide a safe harbor pursuant to which publicly traded partnerships may use a similar monthly simplifying convention to allocate tax items among transferor and transferee unitholders. Nonetheless, the proposed regulations do not specifically authorize the use of the proration method we will adopt. If the IRS were to challenge this method or new Treasury Regulations were issued, we may be required to change the allocation of items of income, gain, loss and deduction among our unitholders. Latham & Watkins LLP has not rendered an opinion with respect to whether our monthly convention for allocating taxable income and losses is permitted by existing Treasury Regulations. Please read “Material U.S. Federal Income Tax Consequences—Disposition of Common Units—Allocations Between Transferors and Transferees.”

 

A unitholder whose common units are loaned to a “short seller” to effect a short sale of common units may be considered as having disposed of those common units. If so, he would no longer be treated for federal income tax purposes as a partner with respect to those common units during the period of the loan and may recognize gain or loss from the disposition.

 

Because a unitholder whose common units are loaned to a “short seller” to effect a short sale of common units may be considered as having disposed of the loaned common units, he may no longer be treated for federal income tax purposes as a partner with respect to those common units during the period of the loan to the short seller and the unitholder may recognize gain or loss from such disposition. Moreover, during the period of the loan to the short seller, any of our income, gain, loss or deduction with respect to those common units may not be reportable by the unitholder and any cash distributions received by the unitholder as to those common units could be fully taxable as ordinary income. Latham & Watkins LLP has not rendered an opinion regarding the treatment of a unitholder where common units are loaned to a short seller to effect a short sale of common units; therefore, our unitholders desiring to assure their status as partners and avoid the risk of gain recognition from a loan to a short seller are urged to consult a tax advisor to discuss whether it is advisable to modify any applicable brokerage account agreements to prohibit their brokers from loaning their common units.

 

We will adopt certain valuation methodologies in determining a unitholder’s allocations of income, gain, loss and deduction. The IRS may challenge these methodologies or the resulting allocations, and such a challenge could adversely affect the value of our common units.

 

In determining the items of income, gain, loss and deduction allocable to our unitholders, in certain circumstances, including when we issue additional units, we must determine the fair market value of our assets. Although we may from time to time consult with professional appraisers regarding valuation matters, we make many fair market value estimates using a methodology based on the market value of our common units as a means to measure the fair market value of our assets. The IRS may challenge these valuation methods and the resulting allocations of income, gain, loss and deduction.

 

A successful IRS challenge to these methods or allocations could adversely affect the amount, character and timing of taxable income or loss allocated to our unitholders. It also could affect the amount of gain from our unitholders’ sale of common units and could have a negative impact on the value of our common units or result in audit adjustments to our unitholders’ tax returns without the benefit of additional deductions.

 

The sale or exchange of 50% or more of our capital and profits interests during any twelve-month period will result in the termination of our partnership for federal income tax purposes.

 

We will be considered to have technically terminated our partnership for federal income tax purposes if there is a sale or exchange of 50% or more of the total interests in our capital and profits within a twelve-month period. For purposes of determining whether the 50% threshold has been met, multiple sales of the same interest will be counted only once. Immediately after this initial public offering, PennTex Development and MRD WHR

 

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LA will, between them own 67.4% of the total interest in our capital and profits. Therefore, a transfer by PennTex Development and MRD WHR LA of all or a portion of their interests in us could result in a termination of us as a partnership for federal income tax purposes. Our technical termination would, among other things, result in the closing of our taxable year for all unitholders, which would result in us filing two tax returns (and our unitholders could receive two Schedules K-1 if relief was not available, as described below) for one fiscal year and could result in a deferral of depreciation deductions allowable in computing our taxable income. In the case of a unitholder reporting on a taxable year other than a fiscal year ending December 31, the closing of our taxable year may also result in more than twelve months of our taxable income or loss being includable in his taxable income for the year of termination. Our termination currently would not affect our classification as a partnership for federal income tax purposes, but instead we would be treated as a new partnership for federal income tax purposes. If treated as a new partnership, we must make new tax elections, including a new election under Section 754 of the Internal Revenue Code and could be subject to penalties if we are unable to determine that a termination occurred. The IRS has announced a publicly traded partnership technical termination relief program whereby, if a publicly traded partnership that technically terminated requests publicly traded partnership technical termination relief and such relief is granted by the IRS, among other things, the partnership will only have to provide one Schedule K-1 to unitholders for the year notwithstanding two partnership tax years. Please read “Material U.S. Federal Income Tax Consequences—Disposition of Common Units—Constructive Termination” for a discussion of the consequences of our termination for federal income tax purposes.

 

As a result of investing in our common units, you may become subject to state and local taxes and return filing requirements in jurisdictions where we operate or own or acquire properties.

 

In addition to federal income taxes, our unitholders will likely be subject to other taxes, including state and local taxes, unincorporated business taxes and estate, inheritance or intangible taxes that are imposed by the various jurisdictions in which we conduct business or control property now or in the future, even if they do not live in any of those jurisdictions. Our unitholders will likely be required to file state and local income tax returns and pay state and local income taxes in some or all of these various jurisdictions. Further, our unitholders may be subject to penalties for failure to comply with those requirements. We initially expect to conduct business in Louisiana, which imposes a personal income tax on individuals. As we make acquisitions or expand our business, we may control assets or conduct business in additional states that impose a personal income tax. It is your responsibility to file all federal, state and local tax returns. Our counsel has not rendered an opinion on the state or local tax consequences of an investment in our common units. Please consult your tax advisor.

 

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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

 

Some of the information in this prospectus may contain forward-looking statements. Forward-looking statements give our current expectations, contain projections of results of operations or of financial condition, or forecasts of future events. Words such as “may,” “assume,” “forecast,” “position,” “predict,” “strategy,” “expect,” “intend,” “plan,” “estimate,” “anticipate,” “believe,” “project,” “budget,” “potential,” or “continue,” and similar expressions are used to identify forward-looking statements. They can be affected by assumptions used or by known or unknown risks or uncertainties. Consequently, no forward-looking statements can be guaranteed. When considering these forward-looking statements, you should keep in mind the risk factors and other cautionary statements in this prospectus. Actual results may vary materially. You are cautioned not to place undue reliance on any forward-looking statements. You should also understand that it is not possible to predict or identify all such factors and should not consider the following list to be a complete statement of all potential risks and uncertainties. Factors that could cause our actual results to differ materially from the results contemplated by such forward-looking statements include:

 

   

delays in completing the construction of our initial assets;

 

   

Memorial Resource’s inability to successfully develop the Terryville Complex;

 

   

our ability to successfully implement our business strategy;

 

   

realized natural gas, NGLs and oil prices;

 

   

competition and government regulations;

 

   

actions taken by third-party producers, operators, processors and transporters;

 

   

pending legal or environmental matters;

 

   

costs of conducting our midstream operations;

 

   

general economic conditions;

 

   

credit markets;

 

   

operating hazards, natural disasters, weather-related delays, casualty losses and other matters beyond our control;

 

   

uncertainty regarding our future operating results; and

 

   

plans, objectives, expectations and intentions contained in this prospectus that are not historical.

 

We caution you that these forward-looking statements are subject to all of the risks and uncertainties incident to our midstream business, most of which are difficult to predict and many of which are beyond our control. These risks include, but are not limited to, commodity price volatility, inflation, environmental risks, drilling and completion and other operating risks, regulatory changes, the uncertainty inherent in projecting future rates of production, cash flow and access to capital, the timing of development expenditures and the other risks described under “Risk Factors” in this prospectus.

 

Should one or more of the risks or uncertainties described in this prospectus occur, or should underlying assumptions prove incorrect, our actual results and plans could differ materially from those expressed in any forward-looking statements.

 

All forward-looking statements, expressed or implied, included in this prospectus are expressly qualified in their entirety by this cautionary statement. This cautionary statement should also be considered in connection with any subsequent written or oral forward-looking statements that we or persons acting on our behalf may issue.

 

Except as otherwise required by applicable law, we disclaim any duty to update any forward-looking statements, all of which are expressly qualified by the statements in this section, to reflect events or circumstances after the date of this prospectus.

 

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USE OF PROCEEDS

 

We intend to use the net proceeds of approximately $206.6 million from this offering (based on an assumed initial offering price of $20.00 per common unit, the midpoint of the price range set forth on the cover page of this prospectus), after deducting the estimated underwriting discounts, structuring fee and offering expenses payable by us or previously incurred by our parent, as follows:

 

   

approximately $97.6 million to PennTex NLA and approximately $54.6 million to MRD WHR LA, in each case, in part, as a reimbursement for certain capital expenditures incurred by such entity with respect to the development of our initial assets;

 

   

$30.5 million to repay in full all outstanding borrowings under PennTex Operating’s existing credit facility, which we will terminate following such repayment; and

 

   

$24.0 million to fund a portion of the capital expenditures incurred in connection with the construction of our initial assets.

 

We have granted the underwriters a 30-day option to purchase up to an aggregate of 1,687,500 additional common units to the extent the underwriters sell more than 11,250,000 common units in this offering. If the underwriters do not exercise their option to purchase additional common units, we will issue 1,054,687 common units to PennTex Development and 632,813 common units to MRD WHR LA at the expiration of the option for no additional consideration. If the underwriters exercise their option to purchase additional common units in full, the additional net proceeds will be approximately $31.6 million. All of the net proceeds from any exercise of such option will be used to make additional cash distributions to each of PennTex Development and MRD WHR LA in proportion to the respective number of common units each such unitholder would have been entitled to receive if the underwriters did not exercise such option as set forth above. Any remaining common units not purchased by the underwriters pursuant to any exercise of the option will be issued to each of PennTex Development and MRD WHR LA in proportion to the amounts set forth above for no additional consideration. Accordingly, the exercise of the underwriters’ option to purchase additional units will not affect the total number of units outstanding. Please read “Underwriting.” If the underwriters exercise in full their option to purchase additional common units, the ownership interest of the public unitholders purchasing common units in this offering will increase to an approximate 32.3% limited partner interest in us.

 

A $1.00 increase or decrease in the assumed initial public offering price of $20.00 per common unit would cause the net proceeds from this offering, after deducting the estimated underwriting discounts, structuring fees and offering expenses payable by us, to increase or decrease, respectively, by approximately $10.5 million. In addition, we may also increase or decrease the number of common units we are offering. Each increase of 1.0 million common units offered by us, together with a $1.00 increase in the assumed public offering price to $21.00 per common unit, would increase net proceeds to us from this offering by approximately $30.2 million. Similarly, each decrease of 1.0 million common units offered by us, together with a $1.00 decrease in the assumed initial offering price to $19.00 per common unit, would decrease the net proceeds to us from this offering by approximately $28.4 million. Any increase or decrease in the net proceeds that we receive from this offering will increase or decrease the amount of cash distributed to PennTex Development and MRD Midstream in accordance with their proportionate ownership interest in PennTex Operating prior to this offering.

 

PennTex Operating utilized its credit facility to develop a portion of our initial assets. As of May 22, 2015, $30.5 million of borrowings were outstanding under PennTex Operating’s existing credit facility, with a weighted average interest rate of 3.53%. In addition, as of May 22, 2015, our parent had $83.0 million of outstanding borrowings under its existing credit facility, with a weighted average interest rate of 4.48%.

 

Affiliates of certain of the underwriters are lenders under the existing credit facilities of PennTex Operating and our parent and, accordingly, will receive a portion of the proceeds of this offering. Please read “Underwriting.”

 

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CAPITALIZATION

 

The following table shows our cash and cash equivalents and capitalization as of March 31, 2015:

 

   

on an historical basis for our accounting predecessor; and

 

   

on a pro forma basis to reflect the completion of our formation transactions, the issuance and sale of our common units in this offering and the application of the net proceeds from this offering as described under “Use of Proceeds.”

 

This table is derived from, and should be read together with, the audited historical financial statements of PennTex Operating and our unaudited pro forma balance sheet and the accompanying notes included elsewhere in this prospectus. You should also read this table in conjunction with “Summary—Organizational Structure After the Formation Transactions,” “Use of Proceeds” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” This table assumes that the underwriters’ option to purchase additional common units is not exercised.

 

     As of March 31, 2015  
     Predecessor
Historical
     PennTex
Midstream
Partners, LP
Pro Forma
 
     (unaudited)  
     (in thousands)  

Cash and Cash Equivalents

   $ 4,331       $ 25,000   
  

 

 

    

 

 

 

Long-term Debt:

     

PennTex Operating’s existing credit facility(1)

     57,486           

Revolving credit facility(2)

               

Membership Interests:

     

Predecessor members’ equity

     126,760           

Limited Partner Units:

     

Common units—public(3)

             66,865   

Common units—PennTex Development

             18,772   

Common units—MRD WHR LA

             16,807   

Subordinated units—PennTex Development

             64,027   

Subordinated units—MRD WHR LA

             38,417   
  

 

 

    

 

 

 

Total members’/partners’ equity

     126,760         204,888   
  

 

 

    

 

 

 

Total capitalization

   $ 184,246       $ 204,888   
  

 

 

    

 

 

 

 

(1)   As of May 22, 2015, $30.5 million of borrowings were outstanding under PennTex Operating’s existing credit facility.
(2)   Upon the completion of this offering, our revolving credit facility will become effective and will remain undrawn at the closing of this offering. Please read “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Revolving Credit Facility.”
(3)   Includes 1,803,942 common units delivered by PennTex Development to the holder of its preferred units following the completion of this offering and the related formation transactions.

 

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DILUTION

 

Dilution is the amount by which the offering price paid by the purchasers of common units sold in this offering will exceed the net tangible book value per common unit after the offering. Assuming an initial public offering price of $20.00 per common unit (the midpoint of the price range set forth on the cover page of this prospectus), as of March 31, 2015, after giving effect to the offering of common units and the formation transactions described under “Summary—Our Formation Transactions,” our pro forma net tangible book value would have been approximately $191.7 million, or $4.79 per common unit. Purchasers of our common units in this offering will experience substantial and immediate dilution in net tangible book value per common unit for financial accounting purposes, as illustrated in the following table.

 

Assumed initial public offering price per common unit

     $ 20.00   

Pro forma net tangible book value per common unit before the offering(1)

   $ 4.79     

Increase in net tangible book value per common unit attributable to purchasers in the offering

     3.80     

Decrease in net tangible book value per common unit attributable to the distributions to PennTex NLA and MRD WHR LA

     (3.80  
  

 

 

   

Less: Pro forma net tangible book value per common unit after the offering(2)

       4.79   
    

 

 

 

Immediate dilution in net tangible book value per common unit to purchasers in the offering(3)(4)

     $ 15.21   
    

 

 

 

 

(1)   Determined by dividing the pro forma net tangible book value of the contributed assets and liabilities, which includes cash received by PennTex Operating in respect of capital contributions by PennTex NLA and MRD WHR LA, by the aggregate number of units (8,750,000 common units and 20,000,000 subordinated units) to be issued to PennTex NLA and MRD WHR LA in exchange for the contribution to us of PennTex Operating.
(2)   Determined by dividing our pro forma net tangible book value, after giving effect to the use of the net proceeds of the offering, by the total number of units (20,000,000 common units and 20,000,000 subordinated units) to be outstanding after the offering.
(3)   A $1.00 increase or decrease in the assumed initial public offering price of $20.00 per common unit would increase or decrease, respectively, our pro forma net tangible book value by approximately $10.5 million, or approximately $0.26 per common unit, and dilution per common unit to investors in this offering by approximately $0.74 per common unit, after deducting the estimated underwriting discounts, structuring fees and offering expenses payable by us. We may also increase or decrease the number of common units we are offering. Each increase of 1.0 million common units offered by us, together with a $1.00 increase in the assumed initial offering price to $21.00 per common unit, would result in a pro forma net tangible book value of approximately $221.9 million, or $5.41 per common unit, and dilution per common unit to investors in this offering would be $15.59 per common unit. Similarly, each decrease of 1.0 million common units offered by us, together with a $1.00 decrease in the assumed initial public offering price to $19.00 per common unit, would result in an pro forma net tangible book value of approximately $163.3 million, or $4.19 per common unit, and dilution per common unit to investors in this offering would be $14.81 per common unit. The information discussed above is illustrative only and will be adjusted based on the actual public offering price, the number of common units offered by us and other terms of this offering determined at pricing.
(4)   Because the total number of units outstanding following this offering will not be impacted by any exercise of the underwriters’ option to purchase additional common units and any net proceeds from such exercise will not be retained by us, there will be no change to the dilution in net tangible book value per common unit to purchasers in the offering due to any such exercise of the option.

 

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The following table sets forth the number of units that we will issue and the total consideration contributed to us by PennTex NLA and MRD WHR LA and by the purchasers of our common units in this offering upon consummation of the transactions contemplated by this prospectus and assumes the underwriters’ option to purchase additional common units is not exercised.

 

     Units     Total
Consideration
 
     Number      Percent     Amount(3)     Percent  

PennTex NLA(1)(2)

     17,968,750         44.9   $ 47,221,435        21.1

MRD WHR LA(1)(2)

     10,781,250         27.0     (48,436,242     (21.6 %) 

Purchasers in the offering

     11,250,000         28.1     225,000,000        100.5
  

 

 

    

 

 

   

 

 

   

 

 

 

Total

     40,000,000         100.0   $ 223,785,193        100.0
  

 

 

    

 

 

   

 

 

   

 

 

 

 

(1)   In connection with the formation transactions, we will issue 5,468,750 common units and 12,500,000 subordinated units to PennTex NLA and 3,281,250 common units and 7,500,000 subordinated units to MRD WHR LA. As described in “Summary—Our Formation Transactions,” PennTex NLA will distribute to its sole member, PennTex Development, the 5,468,750 common units and 12,500,000 subordinated units received from us, and PennTex Development will deliver 1,803,942 common units to the holder of its preferred units, which will be automatically exchanged by PennTex Development into our common units upon the completion of this offering.
(2)   The contributed assets will be recorded at historical cost. The pro forma book value of the consideration provided by PennTex NLA and MRD WHR LA as of March 31, 2015 would have been approximately $144.8 million and $6.1 million, respectively.
(3)   Reflects the distribution, on a pro forma basis, of $97.6 million and $54.6 million of the net proceeds of this offering to PennTex NLA and MRD WHR LA, respectively, in part as a reimbursement for certain capital expenditures incurred with respect to the development of our initial assets.

 

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OUR CASH DISTRIBUTION POLICY AND RESTRICTIONS ON DISTRIBUTIONS

 

You should read the following discussion of our cash distribution policy in conjunction with the specific assumptions included in this section. In addition, you should read “Cautionary Statement Regarding Forward-Looking Statements” and “Risk Factors” for information regarding statements that do not relate strictly to historical or current facts and certain risks inherent in our business.

 

For additional information regarding our historical results of operations, you should refer to the audited financial statements of our accounting predecessor as of December 31, 2014 and for the period from March 17, 2014 to December 31, 2014 and the related notes thereto and to the unaudited financial statements of our accounting predecessor as of and for the three months ended March 31, 2015 and the related notes thereto. For additional information regarding our pro forma financial information, you should refer to our pro forma balance sheet as of March 31, 2015 and the related notes thereto.

 

General

 

Our Cash Distribution Policy

 

Our partnership agreement requires that we distribute all of our available cash quarterly. This requirement forms the basis of our cash distribution policy and reflects a basic judgment that our unitholders will be better served by distributing our available cash rather than retaining it, because, among other reasons, we believe we will generally finance any expansion capital expenditures from external financing sources. Under our current cash distribution policy, we intend to make a minimum quarterly distribution to the holders of our common units and subordinated units of $0.2750 per unit, or $1.10 per unit on an annualized basis, to the extent we have sufficient available cash after the establishment of cash reserves and the payment of costs and expenses, including the payment of expenses to our general partner. However, other than the requirement in our partnership agreement to distribute all of our available cash each quarter, we have no legal obligation to make quarterly cash distributions in this or any other amount, and our general partner has considerable discretion to determine the amount of our available cash each quarter. In addition, our general partner may change our cash distribution policy at any time, subject to the requirement in our partnership agreement to distribute all of our available cash quarterly. Generally, our available cash is our (1) cash (including cash from changes in deferred revenue) on hand at the end of a quarter after the payment of our expenses and the establishment of cash reserves and (2) cash on hand resulting from (i) working capital borrowings made after the end of the quarter and (ii) certain cash distributions received after the end of the quarter from any equity interest in any person (other than a subsidiary of us). Because we are not subject to an entity-level federal income tax, we expect to have more cash to distribute than would be the case if we were subject to federal income tax. If we do not generate sufficient available cash from our operations, we may, but are under no obligation to, borrow funds to pay the minimum quarterly distribution to our unitholders.

 

Limitations on Cash Distributions and Our Ability to Change Our Cash Distribution Policy

 

Although our partnership agreement requires that we distribute all of our available cash quarterly, there is no guarantee that we will make quarterly cash distributions to our unitholders at our minimum quarterly distribution rate or at any other rate, and we have no legal obligation to do so. Our current cash distribution policy is subject to certain restrictions, as well as the considerable discretion of our general partner in determining the amount of our available cash each quarter. The following factors will affect our ability to make cash distributions, as well as the amount of any cash distributions we make:

 

   

Our cash distribution policy will be subject to restrictions on cash distributions under our revolving credit facility and other debt agreements we may enter into in the future. Our revolving credit facility, which becomes effective upon the closing of this offering, contains covenants requiring us and our subsidiaries to maintain certain financial ratios and contains certain restrictions on incurring indebtedness, making distributions, making investments and engaging in certain other partnership actions, including making cash distributions while a default or event of default has occurred and is continuing, notwithstanding our

 

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cash distribution policy. Please read “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Revolving Credit Facility” and “Risk Factors—Risks Related to Our Business—Restrictions in our revolving credit facility could adversely affect our business, financial condition, results of operations and ability to make quarterly cash distributions to our unitholders.”

 

   

The amount of cash that we distribute and the decision to make any distribution is determined by our general partner, taking into consideration the terms of our partnership agreement. Specifically, our general partner will have the authority to establish cash reserves for the prudent conduct of our business and for future cash distributions to our unitholders, and the establishment of or increase in those reserves could result in a reduction in cash distributions from levels we currently anticipate pursuant to our stated cash distribution policy. Any decision to establish cash reserves made by our general partner in good faith will be binding on our unitholders.

 

   

While our partnership agreement requires us to distribute all of our available cash, our partnership agreement, including the provisions requiring us to make cash distributions, may be amended. During the subordination period our partnership agreement may not be amended without the approval of our public common unitholders, except in a limited number of circumstances when our general partner can amend our partnership agreement without any unitholder approval. For a description of these limited circumstances, please read “Our Partnership Agreement—Amendment of Our Partnership Agreement—No Unitholder Approval.” However, after the subordination period has ended, our partnership agreement may be amended with the consent of our general partner and the approval of a majority of the outstanding common units, including common units owned by our general partner and its affiliates. Upon the completion of this offering and the related formation transactions, PennTex Development will own an aggregate of approximately 18.3% of our common units and 62.5% of our subordinated units (assuming no exercise of the underwriters’ option to purchase additional common units).

 

   

Under Section 17-607 of the Delaware Act, we may not make a distribution if the distribution would cause our liabilities to exceed the fair value of our assets.

 

   

We may lack sufficient cash to pay distributions to our unitholders due to cash flow shortfalls attributable to a number of operational, commercial or other factors as well as increases in our operating and maintenance or general and administrative expenses, principal and interest payments on our debt, tax expenses, working capital requirements and anticipated cash needs. Our available cash is directly impacted by our cash expenses necessary to run our business and will be reduced dollar-for-dollar to the extent such uses of cash increase. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—Distributions of Available Cash.”

 

   

Our ability to make cash distributions to our unitholders depends on the performance of our subsidiaries and their ability to distribute cash to us. The ability of our subsidiaries to make cash distributions to us may be restricted by, among other things, the provisions of future indebtedness, applicable state partnership and limited liability company laws and other laws and regulations.

 

   

If and to the extent our available cash materially declines from quarter to quarter, we may elect to change our current cash distribution policy and reduce the amount of our quarterly distributions in order to service or repay our debt or fund expansion capital expenditures.

 

   

To the extent that our general partner determines not to distribute the full minimum quarterly distribution on our common units with respect to any quarter during the subordination period, the common units will accrue an arrearage equal to the difference between the minimum quarterly distribution and the amount of the distribution actually paid on the common units with respect to that quarter. The aggregate amount of any such arrearages must be paid on the common units before any distributions of available cash from operating surplus may be made on the subordinated units and before any subordinated units may convert into common units. The subordinated units will not accrue any arrearages. Any shortfall in the payment of the minimum quarterly distribution on the common units with respect to any quarter during the

 

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subordination period may decrease the likelihood that our quarterly distribution rate would increase in subsequent quarters. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—Subordinated Units and Subordination Period.”

 

   

If we make distributions out of capital surplus, as opposed to operating surplus, any such distributions would constitute a return of capital and would result in a reduction in the minimum quarterly distribution and the target distribution levels. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—Distributions From Capital Surplus.” We do not anticipate that we will make any distributions from capital surplus.

 

Our Ability to Grow may be Dependent on Our Ability to Access External Financing Sources

 

Our partnership agreement requires us to distribute all of our available cash to our unitholders on a quarterly basis. As a result, we expect that we will rely primarily upon our cash reserves and external financing sources, including borrowings under our current and future credit facilities and the issuance of debt and equity securities, to fund future acquisitions and other expansion capital expenditures. We do not have any commitment from PennTex Development or NGP to provide any capital to us following this offering. To the extent we are unable to finance growth with external sources of capital, the requirement in our partnership agreement to distribute all of our available cash and our current cash distribution policy will significantly impair our ability to grow. In addition, because we will distribute all of our available cash, our growth may not be as fast as businesses that reinvest all of their available cash to expand ongoing operations. Our revolving credit facility will restrict our ability to incur additional debt, including through the issuance of debt securities. We anticipate that any future credit facilities and other debt agreements we may enter into in the future would restrict our ability to incur additional debt. Please read “Risk Factors—Risks Related to Our Business—Restrictions in our revolving credit facility could adversely affect our business, financial condition, results of operations and ability to make quarterly cash distributions to our unitholders.” To the extent we issue additional units, the payment of distributions on those additional units may increase the risk that we will be unable to maintain or increase our cash distributions per unit. There are no limitations in our partnership agreement on our ability to issue additional units, including units ranking senior to our common units, and our unitholders will have no preemptive or other rights (solely as a result of their status as unitholders) to purchase any such additional units. If we incur additional debt (under our current and future credit facilities or otherwise) to finance our growth strategy, we will have increased interest expense, which in turn will reduce the available cash that we have to distribute to our unitholders. Please read “Risk Factors—Risks Related to Our Business—Debt we incur in the future may limit our flexibility to obtain financing and to pursue other business opportunities.”

 

Our Minimum Quarterly Distribution

 

Upon the consummation of this offering, our partnership agreement will provide for a minimum quarterly distribution of $0.2750 per unit for each quarter, or $1.10 per unit on an annualized basis. Our ability to make cash distributions at the minimum quarterly distribution rate will be subject to the factors described above under “—General—Limitations on Cash Distributions and Our Ability to Change Our Cash Distribution Policy.” Quarterly distributions, if any, will be made within 45 days after the end of each calendar quarter to holders of record on or about the first day of each such month in which such distributions are made. We will adjust the amount of our first distribution for the period from the closing of this offering through June 30, 2015, based on the actual length of the period.

 

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The amount of available cash needed to pay the minimum quarterly distribution on all of our common units and subordinated units to be outstanding immediately after this offering for one quarter and on an annualized basis (assuming no exercise of the underwriters’ option to purchase additional common units) is summarized in the table below:

 

            Minimum
Quarterly  Distributions
 
     Number of Units      One Quarter      Annualized  

Common units held by the public(1)

     13,053,942       $ 3,589,834       $ 14,359,336   

Common units held by PennTex Development

     3,664,808         1,007,822         4,031,289   

Common units held by MRD WHR LA

     3,281,250         902,344         3,609,375   

Subordinated units held by PennTex Development

     12,500,000         3,437,500         13,750,000   

Subordinated units held by MRD WHR LA

     7,500,000         2,062,500         8,250,000   
     

 

 

    

 

 

 

Total

      $ 11,000,000       $ 44,000,000   
     

 

 

    

 

 

 

 

(1)    

Includes 1,803,942 common units delivered by PennTex Development to the holder of its preferred units.

 

PennTex Development and MRD WHR LA will initially hold 92.5% and 7.5% of our incentive distribution rights, respectively. The incentive distribution rights entitle the holders to increasing percentages, up to a maximum of 50%, of the cash we distribute in excess of $0.3163 per unit per quarter.

 

During the subordination period, before we make any quarterly distributions to our subordinated unitholders, our common unitholders are entitled to receive payment of the full minimum quarterly distribution for such quarter plus any arrearages in distributions of the minimum quarterly distribution from prior quarters. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—Subordinated Units and Subordination Period.” We cannot guarantee, however, that we will pay distributions on our common units at our minimum quarterly distribution rate or at any other rate in any quarter.

 

Although holders of our common units may pursue judicial action to enforce provisions of our partnership agreement, including those related to requirements to make cash distributions as described above, our partnership agreement provides that any determination made by our general partner in its capacity as our general partner must be made in good faith and that any such determination will not be subject to any other standard imposed by the Delaware Act or any other law, rule or regulation or at equity. Our partnership agreement provides that, in order for a determination by our general partner to be made in “good faith,” our general partner must subjectively believe that the determination is in the best interests of our partnership. In making such determination, our general partner may take into account the totality of the circumstances or the totality of the relationships between the parties involved, including other relationships or transactions that may be particularly favorable or advantageous to us. Please read “Conflicts of Interest and Fiduciary Duties.”

 

The provision in our partnership agreement requiring us to distribute all of our available cash quarterly may not be modified without amending our partnership agreement; however, as described above, the actual amount of our cash distributions for any quarter is subject to fluctuations based on the amount of cash we generate from our business, the amount of reserves our general partner establishes in accordance with our partnership agreement and the amount of available cash from working capital borrowings.

 

Additionally, our general partner may reduce the minimum quarterly distribution and the target distribution levels if legislation is enacted or modified that results in our becoming taxable as a corporation or otherwise subject to taxation as an entity for federal, state or local income tax purposes. In such an event, the minimum quarterly distribution and the target distribution levels may be reduced proportionately by the percentage decrease in our available cash resulting from the estimated tax liability we would incur in the quarter in which such legislation is effective. The minimum quarterly distribution will also be proportionately adjusted in the event of any distribution, combination or subdivision of common units in accordance with the partnership

 

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agreement, or in the event of a distribution of available cash from capital surplus. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—Adjustment to the Minimum Quarterly Distribution and Target Distribution Levels.” The minimum quarterly distribution is also subject to adjustment if the holders of a majority of our incentive distribution rights (initially PennTex Development will own 92.5% of our incentive distribution rights) elect to reset the target distribution levels related to the incentive distribution rights. In connection with any such reset, the minimum quarterly distribution will be reset to an amount equal to the average cash distribution amount per common unit for the two quarters immediately preceding the reset. Please read “Provisions of Our Partnership Agreement Relating to Cash Distributions—PennTex Development’s Right to Reset Incentive Distribution Levels.”

 

In the section that follows, we present in detail the basis for our belief that we will be able to fully fund our annualized minimum quarterly distribution of $1.10 per unit for the twelve months ending June 30, 2016. In that section, we present a table captioned “PennTex Midstream Partners, LP Estimated Cash Available for Distribution,” in which we provide our estimated forecast of our ability to generate sufficient cash available for distribution to support the payment of the minimum quarterly distribution on all units for the twelve months ending June 30, 2016. We have not included a presentation of cash available for distribution for the year ended December 31, 2014, as we have had a limited operating history and have generated minimal revenues and operating cash flows on a historical basis and expect to continue to do so until the closing of this offering.

 

Estimated Cash Available for Distribution through June 30, 2016

 

We forecast that our estimated cash available for distribution for the twelve months ending June 30, 2016, prior to borrowings to fund distributions, will be approximately $47.5 million. This amount would exceed by approximately $3.4 million the amount of available cash required to support the total annualized minimum quarterly distribution of $44.0 million on all of our common units and subordinated units for the twelve months ending June 30, 2016. We expect our cash generated from operations for the quarters ending June 30, 2015 and September 30, 2015 to be $2.5 million and $6.2 million less than the amount needed to pay the full minimum quarterly distribution on all of our common units and subordinated units, respectively. Accordingly, we intend to use borrowings under our revolving credit facility to fund a portion of the distributions to our unitholders with respect to the second and third quarters of 2015.

 

Our management has prepared the forecast of estimated cash available for distribution and related assumptions and considerations set forth below to substantiate our belief that we will have sufficient available cash to allow us to pay the total annualized minimum quarterly distribution on all of our outstanding common units and subordinated units for the twelve months ending June 30, 2016. Our management developed the assumptions set forth in our forecast regarding the anticipated timing and magnitude of Memorial Resource’s production available for gathering, processing and transportation on our systems. While we believe that these assumptions are reasonable, they do not reflect any determination by, or agreement of, Memorial Resource to produce rich gas in the amounts or within the time periods we have assumed in this forecast. This forecast is a forward-looking statement and should be read together with the unaudited pro forma balance sheet and the accompanying notes included elsewhere in this prospectus, as well as “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” The accompanying prospective financial information was not prepared with a view toward complying with the guidelines established by the American Institute of Certified Public Accountants with respect to prospective financial information, but, in the view of our management, is substantially consistent with those guidelines and was prepared on a reasonable basis, reflects the best currently available estimates and judgments, and presents, to the best of management’s knowledge and belief, the assumptions on which we base our belief that we will have sufficient available cash to pay the total annualized minimum quarterly distribution on all of our outstanding common units and subordinated units for the twelve months ending June 30, 2016. However, this information is not factual and should not be relied upon as being necessarily indicative of future results, and readers of this prospectus are cautioned not to place undue reliance on the prospective financial information.

 

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The prospective financial information included in this prospectus has been prepared by, and is the responsibility of, our management. Neither Ernst & Young LLP nor any other independent registered public accounting firms, have examined, compiled nor performed any procedures with respect to the accompanying prospective financial information and, accordingly, neither Ernst & Young LLP nor any other independent registered public accounting firms, express an opinion or any other form of assurance with respect thereto. The reports of Ernst & Young LLP included in this prospectus do not extend to the prospective financial information and should not be read to do so.

 

When considering our financial forecast, you should keep in mind the risk factors and other cautionary statements under “Risk Factors.” Any of the risks discussed in this prospectus, if realized, could cause our actual results of operations to vary significantly from those that would enable us to have sufficient available cash to pay the total annualized minimum quarterly distribution on all of our outstanding common units and subordinated units for the twelve months ending June 30, 2016. Please read below under “—Assumptions and Considerations” for further information as to the assumptions we have made in preparing the financial forecast.

 

We do not undertake any obligation to release publicly the results of any future revisions we may make to the financial forecast or to update this financial forecast to reflect events or circumstances after the date of this prospectus. Therefore, the statement that we believe that we will have sufficient available cash to allow us to pay the total annualized minimum quarterly distribution on all of our outstanding common units and subordinated units for the twelve months ending June 30, 2016, should not be regarded as a representation by us, the underwriters or any other person that we will make such distributions. Therefore, you are cautioned not to place undue reliance on this information.

 

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The table below presents our projection of operating results and estimated available cash for each quarter during the twelve months ending June 30, 2016.

 

PennTex Midstream Partners, LP

Estimated Cash Available for Distribution

 
    Quarter Ending     Twelve Months
Ending
June 30,

2016
 
    September 30,
2015
    December 31,
2015
    March 31,
2016
    June 30,
2016
   
    (in millions, except per unit data)  

Revenues:

         

Minimum volume commitment and firm capacity reservation revenues

  $ 6.1      $ 15.1      $ 15.5      $ 15.5      $ 52.2   

Revenues in excess of the minimum volume commitment and firm capacity revenues

    2.8        2.8        4.5        7.1        17.1   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Revenues(1)

  $ 8.9      $ 17.8      $ 20.0      $ 22.6      $ 69.3   

Operating Costs and Expenses:

         

Costs of revenues expense

    0.0        0.0        0.0        0.0        0.0   

Operations and maintenance expense

    1.3        2.0        2.0        2.0        7.3   

Depreciation and amortization expense

    1.7        3.3        3.3        3.3        11.7   

General and administrative expense(2)

    2.5        2.8        3.0        3.0        11.3   

Taxes, other than income taxes(3)

    0.1        0.1        0.2        0.2        0.5   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating costs and expenses

  $ 5.6      $ 8.2      $ 8.5      $ 8.5      $ 30.8   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating Income

  $ 3.3      $ 9.7      $ 11.4      $ 14.1      $ 38.5   

Other (Expense) Income:

         

Interest (expense) income, net(4)

    (1.1     (1.5     (1.6     (1.5     (5.7

Income tax (expense)

    0.0        0.0        0.0        0.0        0.0   

Total other (expense) income

    (1.1     (1.5     (1.6     (1.5     (5.7
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net Income

  $ 2.1      $ 8.1      $ 9.9      $ 12.6      $ 32.7   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Add:

         

Depreciation and amortization expense

    1.7        3.3        3.3        3.3        11.7   

Deferred revenue(5)

    0.0        0.0        0.0        0.0        0.0   

Interest (expense) income, net(4)

    (1.1     (1.5     (1.6     (1.5     (5.7

Non-cash income (loss) related to derivative instruments

    0.0        0.0        0.0        0.0        0.0   

Non-cash long-term compensation expense

    1.1        1.1        1.1        1.1        4.3   

Income tax expense

    0.0        0.0        0.0        0.0        0.0   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted EBITDA(6)

  $ 6.0      $ 14.1      $ 15.8      $ 18.5      $ 54.5   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Less:

         

Cash interest expense, net of interest income

    1.1        1.5        1.6        1.5        5.7   

Cash tax expense

    0.0        0.0        0.0        0.0        0.0   

Expansion capital expenditures(7)

    41.9        36.9        0.0        0.0        78.9   

Maintenance capital expenditures(8)

    0.1        0.3        0.4        0.4        1.3   

Add:

         

Borrowings to fund expansion capital expenditures(9)

    41.9        36.9        0.0        0.0        78.9   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Distributable Cash Flow

  $ 4.8      $ 12.2      $ 13.9      $ 16.6      $ 47.5   

Add:

         

Borrowings to fund distributions(10)

    6.2        0.0        0.0        0.0        6.2   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cash Available for Distribution

  $ 11.0      $ 12.2      $ 13.9      $ 16.6      $ 53.7   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Implied cash distribution at the minimum quarterly distribution rate:

  $ 0.275      $ 0.275      $ 0.275      $ 0.275      $ 1.10   

Annualized minimum quarterly distribution per unit

    1.10        1.10        1.10        1.10     

Distributions to public common unitholders(11)

    3.6        3.6        3.6        3.6        14.4   

Distributions to PennTex Development and MRD WHR LA:(12)

         

PennTex Development—common units

    1.0        1.0        1.0        1.0        4.0   

PennTex Development—subordinated units

    3.4        3.4        3.4        3.4        13.8   

MRD WHR LA—common units

    0.9        0.9        0.9        0.9        3.6   

MRD WHR LA—subordinated units

    2.1        2.1        2.1        2.1        8.3   

Distributions to LTIP participants(13)

    0.0        0.0        0.0        0.1        0.1   

Distributions to general partner(14)

                                  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total distribution to our unitholders and general partner

  $ 11.0      $ 11.0      $ 11.0      $ 11.1      $ 44.1   

Excess of cash available for distribution, prior to borrowings to fund distributions, over total annualized minimum quarterly distribution

          $ 3.4   

Excess of cash available for distribution over total annualized minimum quarterly distribution

          $ 9.6   

 

(1)   Total revenues assumes that the Phase II assets will be in service in October 2015. Phase I assets were placed into service in May 2015. Please read “—Assumptions and Considerations—Volumes and Revenues.”
(2)   Includes $2.25 million of reimbursable expenses to be paid to our parent and PennTex Management pursuant to the services and secondment agreement (consisting of $250,000 for the third quarter of 2015, $500,000 for the fourth quarter of 2015 and $1.5 million for the first and second quarters of 2016) and $4.0 million of additional expenditures we expect to incur as a result of being a publicly traded partnership. Includes $4.3 million of non-cash long-term compensation expense and $0.7 million of cash compensation expense.

 

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(3)   Taxes, other than income taxes includes property taxes.
(4)   Interest expense includes commitment fees on, and the amortization of origination fees incurred in connection with, our revolving credit facility and the borrowings thereunder. We expect to use borrowings under our revolving credit facility to fund a portion of our expansion capital expenditures and a portion of our distributions to our unitholders relating to the second and third quarters of 2015. Interest expense related to our revolving credit facility is based on an assumed interest rate of 0.5% on undrawn portions of the facility and an assumed interest rate of 3.6% on borrowings under the facility. Please read “—Assumptions and Considerations—Financing” for more information on our assumed interest rates relating to drawn and undrawn portions of our revolving credit facility.
(5)   Under our processing agreement with Memorial Resource, we will process on a firm basis all volumes delivered up to the minimum volume commitment at a firm-commitment fixed fee, while all volumes delivered above the minimum volume commitment will be processed on an interruptible basis and be charged an interruptible-service fixed fee. Further, Memorial Resource will pay us a deficiency payment based on the firm-commitment fixed fee with respect to a particular quarterly period if the cumulative minimum volume commitment as of the end of such period exceeds the sum of (i) the cumulative volumes processed under the processing agreement as of the end of such period plus (ii) volumes corresponding to deficiency payments incurred prior to such period. Deficiency payments are recorded as deferred revenue since Memorial Resource may utilize these deficiency payments as a credit for fees owed to us if it has delivered the total minimum volume commitment under the agreement within the initial 15-year term of the agreement. Please read “Business—Our Relationship with Memorial Resource—Our Contractual Arrangements with Memorial Resource—Natural Gas Processing.”
(6)   For additional information on how we define and utilize Adjusted EBITDA please see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—How We Will Evaluate Our Operations—Adjusted EBITDA and Distributable Cash Flow.”
(7)   Expansion capital expenditures are cash expenditures to construct or acquire new midstream infrastructure and those expenditures incurred in order to extend the useful lives of our assets, reduce costs, increase revenues or increase system throughput or capacity from current levels. Examples of expansion capital expenditures include the acquisition of equipment, or the construction, development or acquisition of additional processing facilities, transportation pipelines and related infrastructure, in each case to the extent such capital expenditures are expected to expand our operating capacity, throughput or revenue. Please read “—Assumptions and Considerations—Capital Expenditures.”
(8)   Maintenance capital expenditures are cash expenditures (including expenditures for the construction of new capital assets or the replacement or improvement of existing capital assets) made to maintain, over the long term, our operating capacity, throughput or revenue. Examples of maintenance capital expenditures are expenditures to repair, refurbish and replace pipelines and processing equipment, to maintain equipment reliability, integrity and safety and to address environmental laws and regulations. The board of directors of our general partner will review our maintenance capital expenditure policies on an annual basis as the scope and nature of our business changes in the future. Please read “—Assumptions and Considerations—Capital Expenditures.”
(9)   We initially expect to fund expansion capital expenditures during the forecast period with $78.9 million of borrowings under our revolving credit facility.
(10)   We expect to fund a portion of the distributions to our unitholders relating to the second and third quarters of 2015 with borrowings under our $275 million revolving credit facility that will become effective at the closing of this offering, and expect to repay such borrowings during the forecast period.
(11)   Includes distributions paid with respect to the 1,803,942 common units delivered to the holder of PennTex Development’s preferred units, which will be automatically exchanged by PennTex Development into our common units upon the closing of this offering.
(12)   In connection with the contribution of PennTex Operating to us by PennTex NLA and MRD WHR LA, we will issue (i) 5,468,750 common units and 12,500,000 subordinated units, representing an approximate 44.9% limited partner interest in us, and approximately $97.6 million in cash to PennTex NLA and (ii) 3,281,250 common units and 7,500,000 subordinated units, representing an approximate 27.0% limited partner interest in us, and approximately $54.6 million in cash to MRD WHR LA. PennTex NLA will distribute the 5,468,750 common units, 12,500,000 subordinated units and approximately $97.6 million in cash received from us to its sole member, PennTex Development, and PennTex Development will deliver 1,803,942 common units to the holder of its preferred units as described in footnote 11 above.
(13)   Assumes that following the consummation of this offering, the board of directors of our general partner will grant to certain directors, executive officers and other key employees approximately 637,450 phantom units with distribution equivalent rights that will vest in three equal annual installments pursuant to our long-term incentive plan. Please read “Executive Compensation—Our Long-Term Incentive Plan.”
(14)   Our general partner will own a non-economic general partner interest in us.

 

Assumptions and Considerations

 

General

 

We believe our estimated cash available for distribution for the twelve months ending June 30, 2016, prior to borrowings to fund distributions, will be approximately $47.5 million. A portion of the PennTex Gathering Pipeline commenced commercial operations and began generating revenue in December 2014 and our remaining Phase I assets commenced commercial operations in May 2015. In estimating our cash available for distribution, we have assumed that the Phase II assets will commence commercial operations in October 2015.

 

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Our estimates of our revenue and operating expenses are highly dependent upon our expectations of the volumes that will be delivered to us by Memorial Resource. While we expect to diversify our customer exposure in northern Louisiana over time to include other third-party producers, we initially will focus on providing gathering, processing and transportation services for volumes derived from Memorial Resource’s northern Louisiana production, and our forecast does not assume that we gather, process or transport any other third-party volumes.

 

Volumes and Revenues

 

Our expected processing throughput volumes are initially supported by a minimum volume commitment from Memorial Resource of 115,000 MMBtu/d at the Lincoln Parish Plant. Upon our completion of the Mt. Olive Plant, which we expect to occur in October 2015, Memorial Resource’s minimum volume commitment at our processing plants will increase to 345,000 MMBtu/d and will further increase to 460,000 MMBtu/d during the ten-year period beginning on July 1, 2016. Our expected PennTex Gathering Pipeline volumes are supported by firm capacity reservation payments and a minimum volume commitment from Memorial Resource. The pipeline transportation volumes on the PennTex NGL Pipeline and the PennTex Residue Gas Pipeline are not supported by firm capacity reservation payments or minimum volume commitments and are instead supported by a plant tailgate dedication under each applicable transportation agreement such that all NGL and residue gas volumes produced at our processing plants will be delivered to and transported by the PennTex NGL Pipeline and PennTex Residue Gas Pipeline, respectively. Accordingly, our expected PennTex NGL Pipeline volumes and PennTex Residue Gas Pipeline volumes are based on the expected utilization of our processing plants.

 

The minimum volume commitment and the fees we receive pursuant to our processing agreement are determined by reference to the energy content of the rich natural gas we process for Memorial Resource. Further, our processing agreement contemplates that the combined 400 MMcf/d processing capacity of our processing plants will be adequate to process 460,000 MMBtu/d of natural gas for Memorial Resource based on an average energy content of 1,150 Btu per cubic foot. However, the actual energy content of the natural gas we process under our processing agreement will vary. We assume, based on the expectations of our management team, that the natural gas we process for Memorial Resource during the forecast period will have an average energy content of 1,135 Btu per cubic foot. Although natural gas with a lower energy content does not affect the minimum volume commitments in our processing or gathering agreements, lower-energy content gas requires our processing plants to process higher throughput volumes in order for Memorial Resource to meet the minimum volume commitments. Please read “Risk Factors—Risks Related to Our Business—The energy content of the natural gas we process for Memorial Resource will vary. If we process significant volumes of natural gas with a lower relative energy content, our financial condition, results of operations and ability to make cash distributions to our unitholders could be adversely affected.”

 

We estimate that we will generate approximately $69.3 million in revenues and deferred revenues for the twelve months ending June 30, 2016 under our commercial agreements with Memorial Resource. We expect approximately $52.2 million, or approximately 75%, of our total forecast revenues and deferred revenues to be supported by the minimum volume commitment and firm capacity reservation payments under our gathering and processing agreements, compared to approximately $17.1 million, or approximately 25%, of our total forecast revenues and deferred revenues to be supported by forecast volumes in excess of such minimum volume commitment and firm capacity reservation payments and payments received under the transportation agreements for the PennTex NGL Pipeline and the PennTex Residue Gas Pipeline.

 

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The charts below illustrate forecast throughput volumes from Memorial Resource for each quarter during the twelve months ending June 30, 2016.

 

LOGO

 

(1)   In addition to minimum volume commitments and forecast interruptible volumes, Memorial Resource has reserved capacity on the PennTex Gathering Pipeline equal to 460,000 MMBtu/d upon completion of the Phase I assets and will pay a demand fee on these volumes beginning on the in-service date of the Phase I assets, which we expect to occur in May 2015.

 

Our forecast revenues are based on fixed fees per MMBtu processed through the Lincoln Parish Plant and, when operational, the Mt. Olive Plant and transported through each of the PennTex Gathering Pipeline and the PennTex Residue Gas Pipeline. The fees for the PennTex NGL Pipeline are based on fixed fees per barrel of NGL throughput. The fixed fee charged for firm volumes under our processing agreement are lower than the fee charged for interruptible volumes, except that with respect to the ten-year period commencing July 1, 2016 the fixed fee is the same for interruptible volumes and firm volumes above 345,000 MMbtu/d.

 

We expect that any substantial variances between actual revenues during the twelve months ending June 30, 2016 and forecast revenues will be primarily driven by differences between the actual and forecast volumes in excess of the minimum volume commitment under our processing agreement.

 

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The following table sets forth our estimated revenue and deferred revenue for our initial assets for each quarter during the twelve months ending June 30, 2016. We do not have comparable data for a prior period for comparison purposes due to the fact that the majority of our initial assets are expected to commence operations in May 2015.

 

    Quarter Ending     Twelve  Months
Ending

June 30,
2016
 
    September  30,
2015
    December 31,
2015
    March 31,
2016
    June 30,
2016
   
    (in millions)  

Processing Plants

         

Minimum volume commitment revenue(1)

  $ 4.6      $ 13.2      $ 13.6      $ 13.7      $ 45.0   

Revenue in excess of the minimum volume commitment

    2.0        0.0        1.4        3.5        6.8   

Deferred revenue(2)

    0.0        0.0        0.0        0.0        0.0   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenue

  $ 6.6      $ 13.2      $ 15.0      $ 17.1      $ 51.8   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

PennTex Gathering Pipeline

         

Demand charge(3)

  $ 1.3      $ 1.3      $ 1.3      $ 1.3      $ 5.1   

Minimum volume commitment revenue(4)

    0.2        0.6        0.6        0.6        2.1   

Revenue in excess of the minimum volume commitment(5)

    0.3        0.2        0.2        0.3        1.0   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenue

  $ 1.8      $ 2.1      $ 2.1      $ 2.2      $ 8.2   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

PennTex NGL Pipeline

         

Usage revenue

    0.0        1.5        1.7        1.9        5.1   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenue

  $ 0.0      $ 1.5      $ 1.7      $ 1.9      $ 5.1   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

PennTex Residue Gas Pipeline

         

Usage revenue

    0.5        1.1        1.2        1.4        4.2   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total revenue

  $ 0.5      $ 1.1      $ 1.2      $ 1.4      $ 4.2   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Revenue and Deferred Revenue

  $ 8.9      $ 17.8      $ 20.0      $ 22.6      $ 69.3   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1)   Upon the completion of the Mt. Olive Plant, which is expected to occur in October 2015, the minimum volume commitment under the processing agreement will increase from 115,000 MMBtu/d to 345,000 MMBtu/d through June 30, 2016 and will further increase to 460,000 MMBtu/d for the ten-year period beginning on July 1, 2016. Please see “Business—Our Relationship with Memorial Resource—Other Contractual Arrangements with Memorial Resource—Natural Gas Processing.”
(2)   Under our processing agreement with Memorial Resource, we will process on a firm basis all volumes delivered up to the minimum volume commitment at a firm-commitment fixed fee, while all volumes delivered above the minimum volume commitment will be processed on an interruptible basis and be charged an interruptible-service fixed fee. Further, Memorial Resource will pay us a deficiency payment based on the firm-commitment fixed fee with respect to a particular quarterly period if the cumulative minimum volume commitment as of the end of such period exceeds the sum of (i) the cumulative volumes processed under the processing agreement as of the end of such period plus (ii) volumes corresponding to deficiency payments incurred prior to such period. Deficiency payments are recorded as deferred revenue since Memorial Resource may utilize these deficiency payments as a credit for fees owed to us if it has delivered the total minimum volume commitment under the agreement within the initial 15-year term of the agreement. Please read “Business—Our Relationship with Memorial Resource—Other Contractual Arrangements with Memorial Resource—Natural Gas Processing.”
(3)   For the period from June 1, 2015 through November 30, 2019, a firm capacity reservation payment is payable for a daily capacity of 460,000 MMBtu/d (subject to certain credits relating to the availability of gathering capacity).
(4)   Upon the completion of the Mt. Olive Plant, which is expected to occur in October 2015, the minimum volume commitment under our gathering agreement will increase from 115,000 MMBtu/d to 345,000 MMBtu/d through June 30, 2016 and will further increase to 460,000 MMBtu/d for the ten-year period beginning on July 1, 2016. Please see “Business—Our Relationship with Memorial Resource—Other Contractual Arrangements with Memorial Resource—Rich Natural Gas Gathering.”
(5)   Includes 10,000 MMBtu/d of volume gathered for an affiliate of DCP Midstream.

 

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Volume Sensitivity Analysis

 

Memorial Resource will initially be our sole processing customer and the sole shipper of rich gas, residue gas and NGLs on our pipelines. If Memorial Resource were to reduce the number of drilling rigs it deploys, the pace of its drilling and the volumes processed by the Lincoln Parish Plant and, when operational, the Mt. Olive Plant and transported through our pipelines could decline, which would reduce the amount of cash available for distribution for the twelve months ending June 30, 2016 below our forecast. If Memorial Resource delivers only the minimum volumes under our gathering and processing agreements and we transport the corresponding volumes of residue gas and NGLs under our transportation agreements, our cash and borrowings needed to fund our minimum quarterly distribution for the twelve months ending June 30, 2016 would be $8.4 million.

 

Commodity Price Assumptions and Sensitivity Analysis

 

Our contracts with Memorial Resource are fee-based and therefore have limited direct commodity price exposure. In addition, the compression at our processing plants will be powered by electricity, and the majority of the cost of the electric compression will be reimbursed by Memorial Resource. However, natural gas and NGL prices will influence the returns that Memorial Resource realizes on its drilling and completion expenditures. If natural gas or NGL prices were to decline to a point that Memorial Resource would not earn a satisfactory return on its capital, it could choose to reduce the number of drilling rigs it employs in the region, which would directly impact the volumes available to us to process and transport, reducing our cash available for distribution.

 

Cost of Revenues Expense

 

We have not forecast any costs of goods sold during the twelve months ending June 30, 2016. Our customers bear 100% of any fuel (gas consumed by the processing facilities), lost and unaccounted for gas and shrinkage; however, through allocation procedures, we may incur insignificant costs associated with these items, such as costs related to imbalances with shippers and interconnecting pipelines.

 

Operations and Maintenance Expense

 

Our operations and maintenance expense includes salary and wage expense, utility costs, insurance premiums, taxes and other operating costs either incurred by us or our general partner and its affiliates on our behalf under the services and secondment agreement. We estimate that we will incur operations and maintenance expense, net of reimbursement, of approximately $7.3 million for the twelve months ending June 30, 2016. Our forecast is estimated for our existing and expected employees and third-party services for our initial assets, based on our management’s extensive experience in managing similar operations. In particular, Robert O. Bond, President and Chief Operating Officer of our general partner, previously served as Senior Vice President of Pipeline Operations for Southern Union Company and as President and Chief Operating Officer of Panhandle Energy and Cross Country Energy. In addition, L. Thomas Stone, Senior Vice President, Chief Operations and Engineering Officer of our general partner, previously served as Senior Vice President and Chief Operations and Maintenance Officer for Energy Transfer Partners and as Senior Vice President and Chief Operations and Maintenance Officer of Panhandle Energy. Messrs. Bond and Stone developed significant management experience and exercised oversight with respect to asset operation and maintenance in these roles.

 

Depreciation and Amortization Expense

 

We estimate depreciation and amortization expense for the twelve months ending June 30, 2016 of approximately $11.7 million. This estimate is based on projected property, plant and equipment and intangibles balances of $168.7 million and $10.0 million, respectively, as of June 30, 2015 and projected June 30, 2016 balances of $378.5 million and $17.7 million, respectively. Estimated depreciation and amortization expense reflects management’s estimates, which are based on the projected in-service dates of our initial assets, estimated depreciable asset lives of 30 years and straight line depreciation methodologies.

 

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General and Administrative Expenses

 

General and administrative expenses includes approximately $11.3 million for the twelve months ending June 30, 2016, which consists of: (i) a fee of $2.25 million to be charged to us by our parent as reimbursement for certain services provided pursuant to the services and secondment agreement (consisting of $250,000 for the third quarter of 2015, $500,000 for the fourth quarter of 2015 and $1.5 million for the first and second quarters of 2016) and (ii) direct expenses incurred by our general partner on our behalf (including costs incurred as a result of becoming a publicly traded partnership), which we estimate will be $4.0 million for the twelve months ending June 30, 2016 based on an evaluation of other similar public partnerships in our industry. Please read “Certain Relationships and Related Transactions—Agreements with Affiliates in Connection with the Transactions—Services and Secondment Agreement.” General and administrative expenses also includes $4.3 million of non-cash long-term compensation expense and $0.7 million of cash compensation expense.

 

Taxes, other than income taxes

 

We estimate that our taxes, other than income taxes will be approximately $0.5 million for the twelve months ending June 30, 2016. This estimate is based primarily on our expectation of the property taxes that will be assessed on our initial assets, which account for statutory tax abatements that we have applied for with taxing authorities.

 

Capital Expenditures

 

Our estimated capital expenditures for the twelve months ending June 30, 2016 are based on the following assumptions:

 

   

Maintenance Capital Expenditures. We estimate that our maintenance capital expenditures will be approximately $1.3 million for the twelve months ending June 30, 2016, which is expected to primarily relate to general pipeline and plant management. While we anticipate variability in levels of maintenance capital expenditure going forward due to occasional, unpredictable expenditures, we believe the forecast appropriately reflects the fact that the majority of our assets will be newly constructed. We have adopted policies and procedures related to plant and pipeline integrity and maintenance that we believe are consistent with high industry standards. We do not expect it will be necessary to incur maintenance capital expenditures to maintain throughput volumes during the twelve months ending June 30, 2016.

 

   

Expansion Capital Expenditures. We have assumed expansion capital expenditures of approximately $78.9 million for the twelve months ending June 30, 2016. We anticipate that the remaining expansion capital expenditures required for the completion of our initial assets, including accrued payables from PennTex Development, will be approximately $179.5 million. Our remaining expansion capital expenditures relate primarily to our Phase II assets, including the Mt. Olive Plant, which we expect to be in service in October 2015. Following the completion of this offering and on or before June 30, 2015, we expect to pay approximately $100.6 million of these capital expenditures, of which approximately $25.0 million will be paid from cash on hand, including $24.0 million of net proceeds retained from this offering, and the remaining approximate $75.6 million will be paid from borrowings under our revolving credit facility. In addition, we expect to fund the remaining approximate $78.9 million of expansion capital expenditures required for the completion of our initial assets with borrowings under our revolving credit facility.

 

While we do not currently anticipate, and our forecast does not reflect, any acquisitions during the twelve months ending June 30, 2016, our management will continue to evaluate potential growth opportunities through accretive acquisition from time to time, and we may elect to pursue such acquisitions during the forecast period. However, we cannot assure you that we will be able to identify attractive acquisition opportunities or, if identified, that we will be able to negotiate acceptable purchase agreements.

 

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Financing

 

At the closing of this offering, our $275 million revolving credit facility will become effective. We initially expect to fund expansion capital expenditures during the forecast period, which we expect will be $78.9 million, with borrowings under our revolving credit facility. Under our revolving credit facility, at our discretion, we may borrow utilizing either Eurodollar loans, which accrue interest based on the Adjusted LIBO Rate plus an applicable margin ranging from 2.00% to 3.25% depending on our consolidated total leverage ratio, or alternate base rate loans, which accrue interest equal to the greatest of (i) the Prime Rate in effect on such day, (ii) the Federal Funds Effective Rate in effect on such day plus 1.50% and (iii) the Adjusted LIBO Rate for a one-month interest period on such day plus 1%, plus an applicable margin ranging from 1.00% to 2.25% depending on our consolidated total leverage ratio. Further, the unused portion of the revolving credit facility is subject to a commitment fee equal to the amount of the unused portion times an applicable margin ranging from 0.375% to 0.500% depending on our consolidated total leverage ratio. As a result, we have assumed interest rates of 3.6% and 0.5% on drawn and undrawn portions of our revolving credit facility, respectively, during the forecast period. The 3.6% assumed interest rate for outstanding borrowings is based on the Adjusted LIBO Rate plus the applicable margin of 3.0%. However, if there is a 0.125% change in our assumed interest rate on drawn portions of the revolving credit facility, we expect our net income to change by $0.2 million.

 

We also expect to fund a portion of our distributions to our unitholders relating to the second and third quarters of 2015 with borrowings under our revolving credit facility.

 

Regulatory, Industry and Economic Factors

 

Our forecast for the twelve months ending June 30, 2016 is based on the following significant assumptions related to regulatory, industry and economic factors:

 

   

There will not be any new federal, state or local regulation of the relevant portions of the midstream energy industry, or any new interpretation of existing regulations, that will be materially adverse to our business.

 

   

There will not be any material adverse change in the midstream energy industry, commodity prices, capital or insurance markets or in general economic conditions.

 

   

There will not be any material accidents, weather-related incidents, unscheduled downtime or similar unanticipated events with respect to our facilities or those of third parties on which we depend.

 

   

There will not be a shortage of skilled labor.

 

While we believe that our assumptions supporting our estimated cash available for distribution for the twelve months ending June 30, 2016 are reasonable in light of our current beliefs concerning future events, the assumptions are inherently uncertain and are subject to significant business, economic, regulatory and competitive risks and uncertainties that could cause actual results to differ materially from those we anticipate. If our assumptions are not realized, the actual cash available for distribution that we generate could be substantially less than the amounts that we currently expect to generate and could, therefore, be insufficient to permit us to make the full minimum quarterly distribution on all of our units, in which event the market price of our common units could decline materially.

 

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PROVISIONS OF OUR PARTNERSHIP AGREEMENT RELATING TO CASH DISTRIBUTIONS

 

Set forth below is a summary of the significant provisions of our partnership agreement that relate to cash distributions.

 

Distributions of Available Cash

 

General

 

Our partnership agreement requires that, within 45 days after the end of each quarter, beginning with the quarter ending June 30, 2015, we distribute all of our available cash to unitholders of record on the applicable record date. We will adjust the amount of our distribution for the period from the completion of this offering through June 30, 2015, based on the actual length of the period.

 

Definition of Available Cash

 

Available cash generally means, for any quarter, all cash and cash equivalents (including cash from changes in deferred revenue) on hand at the end of that quarter:

 

   

less, the amount of cash reserves established by our general partner to:

 

   

provide for the proper conduct of our business (including, but not limited to, reserves for our future capital expenditures, future acquisitions and anticipated future debt service requirements);

 

   

comply with applicable law, any of our or our subsidiaries’ debt instruments or other agreements; or

 

   

provide funds for distributions to our unitholders and to our general partner for any one or more of the next four quarters (provided that our general partner may not establish cash reserves for distributions if the effect of the establishment of such reserves will prevent us from distributing the minimum quarterly distribution on all common units and any cumulative arrearages on such common units for the current quarter);

 

   

plus, if our general partner so determines, all or any portion of the cash on hand on the date of determination of available cash for the quarter resulting from (i) working capital borrowings made subsequent to the end of such quarter and (ii) cash distributions received after the end of the quarter from any equity interest in any person (other than a subsidiary of us), which distributions are paid by such person in respect of operations conducted by such person during such quarter.

 

The purpose and effect of the last bullet point above is to allow our general partner, if it so decides, to use cash from working capital borrowings made after the end of the quarter but on or before the date of determination of available cash for that quarter to pay distributions to unitholders. Under our partnership agreement, working capital borrowings are generally borrowings that are made under a credit facility, commercial paper facility or similar financing arrangement, and in all cases are used solely for working capital purposes or to pay distributions to partners and with the intent of the borrower to repay such borrowings within twelve months with funds other than from additional working capital borrowings.

 

Intent to Distribute the Minimum Quarterly Distribution

 

Under our current cash distribution policy, we intend to make a minimum quarterly distribution to the holders of our common units and subordinated units of $0.2750 per unit, or $1.10 per unit on an annualized basis, to the extent we have sufficient available cash after the establishment of cash reserves and the payment of costs and expenses, including reimbursements of expenses to our general partner. However, there is no guarantee that we will pay the minimum quarterly distribution on our units in any quarter. The amount of distributions paid under our cash distribution policy and the decision to make any distribution will be determined by our general partner, taking into consideration the terms of our partnership agreement. Please read “Management’s Discussion

 

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and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Revolving Credit Facility” for a discussion of the restrictions that we expect to be included in our credit facility that may restrict our ability to make distributions.

 

General Partner Interest and Incentive Distribution Rights

 

Our general partner will own a non-economic partner interest in us.

 

Our incentive distribution rights represent the right to receive increasing percentages, up to a maximum of 50%, of the available cash we distribute from operating surplus (as defined below) in excess of $0.3163 per unit per quarter. The aggregate maximum distribution of 50% does not include any distributions that holders of our incentive distribution rights may receive on common or subordinated units that they own.

 

Operating Surplus and Capital Surplus

 

General

 

All cash distributed to unitholders will be characterized as either being paid from “operating surplus” or “capital surplus.” We treat distributions of available cash from operating surplus differently than distributions of available cash from capital surplus.

 

Operating Surplus

 

We define operating surplus as:

 

   

$33.0 million (as described below); plus

 

   

all of our cash receipts after the closing of this offering, excluding cash from interim capital transactions (as defined below), provided that cash receipts from the termination of any interest rate hedge contract or commodity hedge contract prior to its specified termination date will be included in operating surplus in equal quarterly installments over the remaining scheduled life of such interest rate hedge contract or commodity hedge contract; plus

 

   

working capital borrowings made after the end of a quarter but on or before the date of determination of operating surplus for that quarter; plus

 

   

cash distributions (including incremental distributions on incentive distribution rights) paid in respect of equity issued, other than equity issued in this offering, to finance all or a portion of expansion capital expenditures in respect of the period from the date that we enter into a binding obligation to commence the construction, replacement, improvement or expansion of a capital asset and ending on the earlier to occur of the date the capital asset commences commercial service and the date that it is abandoned or disposed of; plus

 

   

cash distributions (including incremental distributions on incentive distribution rights) paid in respect of equity issued, other than equity issued in this offering, to pay interest and related fees on debt incurred, or to pay distributions on equity issued, to finance the expansion capital expenditures referred to in the prior bullet; less

 

   

all of our operating expenditures (as defined below) after the closing of this offering; less

 

   

the amount of cash reserves established by our general partner to provide funds for future operating expenditures; less

 

   

all working capital borrowings not repaid within twelve months after having been incurred, or repaid within such twelve-month period with the proceeds of additional working capital borrowings.

 

As described above, operating surplus does not reflect actual cash on hand that is available for distribution to our unitholders and is not limited to cash generated by operations. For example, it includes a provision that

 

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will enable us, if we choose, to distribute as operating surplus up to $33.0 million of cash we receive in the future from non-operating sources such as asset sales, issuances of securities and long-term borrowings that would otherwise be distributed as capital surplus. In addition, the effect of including, as described above, certain cash distributions on equity interests in operating surplus will be to increase operating surplus by the amount of any such cash distributions. As a result, we may also distribute as operating surplus up to the amount of any such cash that we receive from non-operating sources.

 

The proceeds of working capital borrowings increase operating surplus and repayments of working capital borrowings are generally operating expenditures (as described below) and thus reduce operating surplus when repayments are made. However, if working capital borrowings, which increase operating surplus, are not repaid during the twelve-month period following the borrowing, they will be deemed repaid at the end of such period, thus decreasing operating surplus at such time. When such working capital borrowings are in fact repaid, they will not be treated as a further reduction in operating surplus because operating surplus will have been previously reduced by the deemed repayment.

 

We define interim capital transactions as (1) borrowings, refinancings or refundings of indebtedness (other than working capital borrowings, like those under our new credit facility and items purchased on open account or for a deferred purchase price in the ordinary course of business) and sales of debt securities, (2) sales of equity securities and (3) sales or other dispositions of assets, other than sales or other dispositions of inventory, accounts receivable and other assets in the ordinary course of business and sales or other dispositions of assets as part of normal asset retirements or replacements.

 

We define operating expenditures as all of our cash expenditures, including, but not limited to, taxes, reimbursements of expenses of our general partner and its affiliates, officer, director and employee compensation, debt service payments, payments made in the ordinary course of business under interest rate hedge contracts and commodity hedge contracts (provided that payments made in connection with the termination of any interest rate hedge contract or commodity hedge contract prior to the expiration of its settlement or termination date specified therein will be included in operating expenditures in equal quarterly installments over the remaining scheduled life of such interest rate hedge contract or commodity hedge contract and amounts paid in connection with the initial purchase of an interest rate hedge contract or a commodity hedge contract will be amortized over the life of such interest rate hedge contract or commodity hedge contract), maintenance capital expenditures (as discussed in further detail below) and repayment of working capital borrowings; provided, however, that operating expenditures will not include:

 

   

repayments of working capital borrowings where such borrowings have previously been deemed to have been repaid (as described above);

 

   

payments (including prepayments and prepayment penalties) of principal of and premium on indebtedness other than working capital borrowings;

 

   

expansion capital expenditures;

 

   

payment of transaction expenses (including taxes) relating to interim capital transactions;

 

   

distributions to our partners;

 

   

repurchases of partnership interests (excluding repurchases we make to satisfy obligations under employee benefit plans); or

 

   

any other expenditures or payments using the proceeds of this offering that are described in “Use of Proceeds.”

 

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Capital Surplus

 

Capital surplus is defined in our partnership agreement as any distribution of available cash in excess of our cumulative operating surplus. Accordingly, except as described above, capital surplus would generally be generated by:

 

   

borrowings other than working capital borrowings;

 

   

sales of our equity and debt securities;

 

   

sales or other dispositions of assets, other than inventory, accounts receivable and other assets sold in the ordinary course of business or as part of ordinary course retirement or replacement of assets; and

 

   

capital contributions received.

 

Characterization of Cash Distributions

 

All available cash distributed by us on any date from any source will be treated as distributed from operating surplus until the sum of all available cash distributed by us since the closing of this offering equals the operating surplus from the closing of this offering through the end of the quarter immediately preceding that distribution. As described above, operating surplus, as defined in our partnership agreement, includes certain components, including a $33.0 million cash basket, that represent non-operating sources of cash. Any available cash distributed by us in excess of our cumulative operating surplus will be deemed to be capital surplus under our partnership agreement. Our partnership agreement treats a distribution of capital surplus as the repayment of the initial unit price from this initial public offering. We do not anticipate that we will make any distributions from capital surplus.

 

Capital Expenditures

 

We distinguish between maintenance capital expenditures and expansion capital expenditures. Maintenance capital expenditures are cash expenditures (including expenditures for the construction of new capital assets or the replacement or improvement of existing capital assets) made to maintain, over the long term, our operating capacity, throughput or revenue. Maintenance capital expenditures do not include normal repairs and maintenance, which are expensed as incurred, or significant replacement capital expenditures, as described in detail in the next paragraph. Examples of maintenance capital expenditures are expenditures to repair, refurbish and replace pipelines and processing equipment, to maintain equipment reliability, integrity and safety and to address environmental laws and regulations. The board of directors of our general partner will review our maintenance capital expenditure policies on an annual basis as the scope and nature of our business changes in the future. Maintenance capital expenditures will reduce operating surplus.

 

Expansion capital expenditures are cash expenditures incurred to construct or acquire new midstream infrastructure and to extend the useful lives of our assets, reduce costs, increase revenues or increase system throughput or capacity from the levels existing immediately prior to such expenditure. Examples of expansion capital expenditures include the acquisition of equipment, or the construction, development or acquisition of additional processing facilities, transportation pipelines and related infrastructure, in each case to the extent such capital expenditures are expected to expand our operating capacity, throughput or revenue. Expansion capital expenditures include interest payments (and related fees) on debt incurred to finance all or a portion of expansion capital expenditures in respect of the period from the date that we enter into a binding obligation to commence the construction, replacement, improvement or expansion of a capital asset and ending on the earlier to occur of the date that such capital improvement commences commercial service and the date that such capital improvement is abandoned or disposed of. Because expansion capital expenditures include interest payments (and related fees) on debt incurred to finance all or a portion of the construction of a capital asset in respect of a period that (l) begins when we enter into a binding obligation to commence construction of a capital improvement and (2) ends on the earlier to occur of the date any such capital asset commences commercial service and the date that it is abandoned or disposed of, such interest payments also do not reduce operating surplus.

 

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Capital expenditures that are made in part for maintenance capital purposes and in part for expansion capital purposes will be allocated as maintenance capital expenditures or expansion capital expenditures by our general partner.

 

Subordinated Units and Subordination Period

 

General

 

Our partnership agreement provides that, during the subordination period (which we define below), the common units will have the right to receive distributions of available cash from operating surplus each quarter in an amount equal to $0.2750 per common unit, which amount is defined in our partnership agreement as the minimum quarterly distribution, plus any arrearages in the payment of the minimum quarterly distribution on the common units from prior quarters, before any distributions of available cash from operating surplus may be made on the subordinated units. These units are deemed “subordinated” because for a period of time, referred to as the subordination period, the subordinated units will not be entitled to receive any distributions until the common units have received the minimum quarterly distribution plus any arrearages from prior quarters. Furthermore, no arrearages will be paid on the subordinated units. The practical effect of the subordinated units is to increase the likelihood that, during the subordination period, there will be available cash to be distributed on the common units.

 

Determination of Subordination Period

 

Except as described below, the subordination period will begin on the closing date of this offering and will extend until the first business day following the distribution of available cash in respect of any quarter beginning after September 30, 2018, that each of the following tests are met:

 

   

distributions of available cash from operating surplus on each of the outstanding common units and subordinated units equaled or exceeded $1.10 (the annualized minimum quarterly distribution), for each of the three consecutive, non-overlapping four-quarter periods immediately preceding that date;

 

   

the adjusted operating surplus (as defined below) generated during each of the three consecutive, non-overlapping four-quarter periods immediately preceding that date equaled or exceeded the sum of $1.10 (the annualized minimum quarterly distribution) on all of the outstanding common units and subordinated units during those periods on a fully diluted basis; and

 

   

there are no arrearages in payment of the minimum quarterly distribution on the common units.

 

For the period after the closing of this offering through June 30, 2015, the minimum quarterly distribution will be based on the actual length of the period, and we will use such prorated distribution for all purposes, including in determining whether the test described above has been satisfied.

 

Early Termination of the Subordination Period

 

Notwithstanding the foregoing, the subordination period will automatically terminate on the first business day following the distribution of available cash in respect of any quarter, beginning with the quarter ending September 30, 2016, that each of the following tests are met:

 

   

distributions of available cash from operating surplus on each of the outstanding common units and subordinated units equaled or exceeded $1.65 (150% of the annualized minimum quarterly distribution), plus the related distributions on the incentive distribution rights, for the four-quarter period immediately preceding that date;

 

   

the adjusted operating surplus (as defined below) generated during the four-quarter period immediately preceding that date equaled or exceeded the sum of (1) $1.65 (150% of the annualized minimum quarterly distribution) on all of the outstanding common units and subordinated units during that period on a fully diluted basis and (2) the corresponding distributions on the incentive distribution rights; and

 

   

there are no arrearages in payment of the minimum quarterly distributions on the common units.

 

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Expiration of the Subordination Period

 

When the subordination period ends, each outstanding subordinated unit will convert into one common unit and will thereafter participate pro rata with the other common units in distributions of available cash.

 

Adjusted Operating Surplus

 

Adjusted operating surplus is intended to reflect the cash generated from operations during a particular period and therefore excludes net increase in working capital borrowings and net drawdowns of reserves of cash established in prior periods. Adjusted operating surplus for a period consists of:

 

   

operating surplus generated with respect to that period (excluding any amounts attributable to the item described in the first bullet under the caption “—Operating Surplus and Capital Surplus—Operating Surplus” above); less

 

   

any net increase in working capital borrowings with respect to that period; less

 

   

any net decrease in cash reserves for operating expenditures with respect to that period not relating to an operating expenditure made with respect to that period; plus

 

   

any net decrease in working capital borrowings with respect to that period; plus

 

   

any net decrease made in subsequent periods to cash reserves for operating expenditures initially established with respect to that period to the extent such decrease results in a reduction in adjusted operating surplus in subsequent periods; plus

 

   

any net increase in cash reserves for operating expenditures with respect to that period required by any debt instrument for the repayment of principal, interest or premium.

 

Distributions of Available Cash From Operating Surplus During the Subordination Period

 

We will make distributions of available cash from operating surplus for any quarter during the subordination period in the following manner:

 

   

first, to the common unitholders, pro rata, until we distribute for each outstanding common unit an amount equal to the minimum quarterly distribution for that quarter;

 

   

second, to the common unitholders, pro rata, until we distribute for each outstanding common unit an amount equal to any arrearages in payment of the minimum quarterly distribution on the common units for any prior quarters during the subordination period;

 

   

third, to the subordinated unitholders, pro rata, until we distribute for each outstanding subordinated unit an amount equal to the minimum quarterly distribution for that quarter; and

 

   

thereafter, in the manner described in “—General Partner Interest and Incentive Distribution Rights” below.

 

The preceding discussion is based on the assumption that we do not issue additional classes of equity securities.

 

Distributions of Available Cash From Operating Surplus After the Subordination Period

 

We will make distributions of available cash from operating surplus for any quarter after the subordination period in the following manner:

 

   

first, to all unitholders, pro rata, until we distribute for each outstanding unit an amount equal to the minimum quarterly distribution for that quarter; and

 

   

thereafter, in the manner described in “—General Partner Interest and Incentive Distribution Rights” below.

 

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The preceding discussion is based on the assumption that that we do not issue additional classes of equity securities.

 

General Partner Interest and Incentive Distribution Rights

 

Our partnership agreement provides that our general partner will own a non-economic general partner interest in us, which does not entitle it to receive cash distributions. However, our general partner may in the future own common units or other equity interest in us and will be entitled to receive distributions on such interests.

 

Incentive distribution rights represent the right to receive an increasing percentage (15%, 25% and 50%) of quarterly distributions of available cash from operating surplus after the minimum quarterly distribution and the target distribution levels have been achieved. PennTex Development and MRD WHR LA currently hold the incentive distribution rights, but may transfer these rights subject to restrictions in our partnership agreement.

 

The following discussion assumes that we do not issue any additional classes of equity securities.

 

If for any quarter:

 

   

we have distributed available cash from operating surplus to the common unitholders and subordinated unitholders in an amount equal to the minimum quarterly distribution; and

 

   

we have distributed available cash from operating surplus on outstanding common units in an amount necessary to eliminate any cumulative arrearages in payment of the minimum quarterly distribution;

 

then, we will distribute any additional available cash from operating surplus for that quarter among the unitholders and the holders of our incentive distribution rights in the following manner:

 

   

first, to all unitholders, pro rata, until each unitholder receives a total of $0.3163 per unit for that quarter (the “first target distribution”);

 

   

second, 85% to all unitholders, pro rata, and 15% to the holders of our incentive distribution rights, pro rata, until each unitholder receives a total of $0.3438 per unit for that quarter (the “second target distribution”);

 

   

third, 75% to all unitholders, pro rata, and 25% to the holders of our incentive distribution rights, pro rata, until each unitholder receives a total of $0.4125 per unit for that quarter (the “third target distribution”); and

 

   

thereafter, 50% to all unitholders, pro rata, and 50% to the holders of our incentive distribution rights, pro rata.

 

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Percentage Allocations of Available Cash from Operating Surplus

 

The following table illustrates the percentage allocations of available cash from operating surplus between the unitholders and PennTex Development and MRD WHR LA, as the initial holders of our incentive distribution rights, based on the specified target distribution levels. The amounts set forth under “Marginal Percentage Interest in Distributions” are the percentage interests of our unitholders and PennTex Development and MRD WHR LA in any available cash from operating surplus we distribute up to and including the corresponding amount in the column “Total Quarterly Distribution per Unit Target Amount” until available cash we distribute reaches the next target distribution level, if any. The percentage interests shown for our unitholders and PennTex Development and MRD WHR LA for the minimum quarterly distribution are also applicable to quarterly distribution amounts that are less than the minimum quarterly distribution. The percentage interests set forth below assume that there are no arrearages on common units.

 

         Total Quarterly Distribution    
per Unit Target Amount
   Marginal Percentage Interest in
Distributions
 
        Unitholders     Incentive
Distribution
Rights(1)
 

Minimum Quarterly Distribution

   $0.2750      100     0

First Target Distribution

   above $0.2750 up to $0.3163      100     0

Second Target Distribution

   above $0.3163 up to $0.3438      85     15

Third Target Distribution

   above $0.3438 up to $0.4125      75     25

Thereafter

   above $0.4125      50     50

 

(1)   Upon the closing of this offering, PennTex Development and MRD WHR LA will own 92.5% and 7.5% of our incentive distribution rights, respectively.

 

PennTex Development’s Right to Reset Incentive Distribution Levels

 

PennTex Development, as the holder of a majority of our incentive distribution rights, has the right under our partnership agreement, subject to certain conditions, to elect to relinquish the right to receive incentive distribution payments based on the initial target distribution levels and to reset, at higher levels, the minimum quarterly distribution amount and target distribution levels upon which the incentive distribution payments to holders of our incentive distribution rights would be set. If PennTex Development transfers all or a portion of its incentive distribution rights in the future, then the holder or holders of a majority of our incentive distribution rights will be entitled to exercise this right. The following discussion assumes that PennTex Development holds a majority of the incentive distribution rights at the time that a reset election is made. PennTex Development’s right to reset the minimum quarterly distribution amount and the target distribution levels upon which the incentive distributions payable to PennTex Development are based may be exercised, without approval of our unitholders or the conflicts committee, at any time when there are no subordinated units outstanding, we have made cash distributions to the holders of the incentive distribution rights at the highest level of incentive distributions for each of the four consecutive fiscal quarters immediately preceding such time and the amount of each such distribution did not exceed adjusted operating surplus for such quarters. If PennTex Development and its affiliates are not the holders of a majority of the incentive distribution rights at the time an election is made to reset the minimum quarterly distribution amount and the target distribution levels, then the proposed reset will be subject to the prior written concurrence of PennTex Development that the conditions described above have been satisfied. The reset minimum quarterly distribution amount and target distribution levels will be higher than the minimum quarterly distribution amount and the target distribution levels prior to the reset such that PennTex Development will not receive any incentive distributions under the reset target distribution levels until cash distributions per unit following this event increase as described below. We anticipate that PennTex Development would exercise this reset right in order to facilitate acquisitions or internal growth projects that would otherwise not be sufficiently accretive to cash distributions per common unit, taking into account the existing levels of incentive distribution payments being made to PennTex Development.

 

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In connection with the resetting of the minimum quarterly distribution amount and the target distribution levels and the corresponding relinquishment by the holders of our incentive distribution rights of incentive distribution payments based on the target distributions prior to the reset, the holders of our incentive distribution rights will be entitled to receive a number of newly issued common units based on a predetermined formula described below that takes into account the “cash parity” value of the average cash distribution related to the incentive distribution rights received by the holders of our incentive distribution rights for the two quarters immediately preceding the reset event as compared to the average cash distribution per common unit during that two quarter period.

 

The number of common units that the holders of our incentive distribution rights (including PennTex Development and MRD WHR LA) would be entitled to receive from us in connection with a resetting of the minimum quarterly distribution amount and the target distribution levels then in effect would be equal to the quotient determined by dividing (x) the average aggregate amount of cash distributions received by the holders of our incentive distribution rights in respect of their incentive distribution rights during the two consecutive fiscal quarters ended immediately prior to the date of such reset election by (y) the average of the aggregate amount of cash distributed per common unit during each of these quarters.

 

Following a reset election, the minimum quarterly distribution amount will be reset to an amount equal to the average cash distribution amount per common unit for the two fiscal quarters immediately preceding the reset election (which amount we refer to as the “reset minimum quarterly distribution”) and the target distribution levels will be reset to be correspondingly higher such that we would distribute all of our available cash from operating surplus for each quarter thereafter as follows:

 

   

first, to all unitholders, pro rata, until each unitholder receives an amount equal to 115% of the reset minimum quarterly distribution for that quarter;

 

   

second, 85% to all unitholders, pro rata, and 15% to the holders of our incentive distribution rights, pro rata, until each unitholder receives an amount per unit equal to 125% of the reset minimum quarterly distribution for the quarter;

 

   

third, 75% to all unitholders, pro rata, and 25% to the holders of our incentive distribution rights, pro rata, until each unitholder receives an amount per unit equal to 150% of the reset minimum quarterly distribution for the quarter; and

 

   

thereafter, 50% to all unitholders, pro rata, and 50% to the holders of our incentive distribution rights, pro rata.

 

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The following table illustrates the percentage allocations of available cash from operating surplus between the unitholders and the holders of our incentive distribution rights (including PennTex Development and MRD WHR LA) at various cash distribution levels (1) pursuant to the cash distribution provisions of our partnership agreement in effect at the completion of this offering and (2) following a hypothetical reset of the minimum quarterly distribution and target distribution levels based on the assumption that the average quarterly cash distribution amount per common unit during the two fiscal quarters immediately preceding the reset election was $0.5000.

 

    Quarterly Distribution per Unit
Prior to Reset
  Marginal Percentage
Interest in Distributions
     
      Unitholders     Incentive
Distribution
Rights(1)
    Quarterly Distribution per  Unit
Following Hypothetical Reset

Minimum Quarterly Distribution

  $0.2750     100     0   $0.5000

First Target Distribution

  above $0.2750 up to $0.3163     100     0   above $0.5000 up to $0.5750(2)

Second Target Distribution

  above $0.3163 up to $0.3438     85     15   above $0.5750 up to $0.6250(3)

Third Target Distribution

  above $0.3438 up to $0.4125