Star Group - 10-Q quarterly report FY

Indicate the number of shares outstanding of each issuer’s classes of common stock, as of July 25, 2002:

Star Gas Partners, L.P. (“Star Gas Partners” or the “Partnership”) is a diversified home energy distributor and services provider, specializing in heating oil, propane, natural gas and electricity. Star Gas Partners is a Master Limited Partnership, which at June 30, 2002 had outstanding 27.1 million common limited partner units (trading symbol “SGU”) representing an 87.7% limited partner interest in Star Gas Partners and 3.1 million senior subordinated units (trading symbol “SGH”) representing a 10.1% limited partner interest in Star Gas Partners, which are traded on the New York Stock Exchange. Additional interest in Star Gas Partners is comprised of 0.3 million junior subordinated units (representing a 1.1% limited partner interest in Star Gas Partners) and 0.3 million general partner units (representing a 1.1% general partner interest in Star Gas Partners).

Operationally, the Partnership is organized as follows:

The Consolidated Financial Statements include the accounts of Star Gas Partners, L.P., and its subsidiaries. All material intercompany items and transactions have been eliminated in consolidation.

In June 2002, the Partnership entered into an agreement that resolved certain disputes between the Partnership and the minority interest shareholders of TG&E relating to the initial purchase of TG&E by the Partnership. This agreement provided for the transfer of the entire minority shareholder’s equity interest in TG&E and the surrender to the Partnership of certain notes payable to the minority shareholders in the amount of $0.6 million. This transaction was accounted for as the acquisition of a minority interest and the result was to reduce recorded goodwill by $0.6 million. The book value of all other assets and liabilities of TG&E approximated their fair values.

The financial information included herein is unaudited; however, such information reflects all adjustments (consisting solely of normal recurring adjustments), which are, in the opinion of management, necessary for the fair statement of financial condition and results for the interim periods. The results of operations for the three and nine month periods ended June 30, 2001 and June 30, 2002 are not necessarily indicative of the results to be expected for the full year.

Inventories are stated at the lower of cost or market and are computed on a first-in, first-out basis. At the dates indicated, the components of inventory were as follows:

Certain prior year amounts have been reclassified to conform with the current year presentation.

Since the acquisition of TG&E, the Partnership has encountered customer credit deficiencies and problems with collecting TG&E receivables. At September 30, 2001, TG&E had more than 50,000 terminated customers who collectively owed $16.2 million, virtually all of which was greater than 90 days old. The September 30, 2001 balance included $5.3 million of accounts receivable that predated TG&E’s acquisition by the Partnership, which were assigned no value and were not reflected in the financial statements. At September 30, 2001, the gross amount of receivables from terminated accounts on the Partnership’s books (before bad debt reserves) was approximately $10.9 million, against which the Partnership has a bad debt reserve of $6.2 million. Consequently, out of approximately $16.2 million owed TG&E by terminated accounts all but $4.7 million had been reserved, or assigned no value at the date of the acquisition.

During fiscal 2002, TG&E implemented the personnel and systems necessary to proceed with a collection effort targeting these terminated accounts. This effort included reconstructing account histories and implementing software enhancements that allowed TG&E to fully pursue the collection of these terminated accounts during the third fiscal quarter. Based upon collection information and results obtained to date, an additional $0.9 million of reserve was provided during the fiscal third quarter for those terminated accounts, leaving an unreserved accounts receivable balance of approximately $2.4 million. The Partnership believes that the reserve established as of June 30, 2002 is appropriate but will continue to review it as further information becomes available.

The Partnership periodically hedges a portion of its home heating oil, propane and natural gas purchases through the use of futures, options, collars and swap agreements. The purpose of the hedges is to provide a measure of stability in the volatile markets for home heating oil, propane and natural gas prices and to manage its exposure to commodity price risk under certain existing sales commitments. The Partnership also has derivative agreements that management has decided not to designate as hedge transactions for accounting purposes and as such, mark-to-market adjustments are recognized currently in earnings.

The accounting treatment of changes in fair value is dependent upon whether or not a derivative instrument is designated as a hedge, and if so, the type of hedge. For derivatives designated as cash flow hedges, changes in fair value are recognized in other comprehensive income until the hedged item is recognized in earnings. All of the Partnership’s derivative instruments entered into for the purchase of heating oil, propane and natural gas to be sold to price plan customers are designated as cash flow hedges. For derivatives recognized as fair value hedges, changes in fair value are recognized in the statement of operations and may be offset by related changes in fair value of the hedged item. Substantially all of the derivative instruments entered into in order to mitigate the price exposure for firm commitments relating to the purchase of heating oil, propane and natural gas to be sold to price plan customers are designated as fair value hedges. The ineffective portion of changes in a hedge’s fair value, together with changes in the fair value of derivative instruments that are not designated as hedges or which do not qualify for hedge accounting are recognized currently in earnings.

For the three months ended June 30, 2002, the change in accumulated other comprehensive income (loss) is principally attributable to the increase in fair value of additional hedging instruments entered into during the period, designated as cash flow hedges. For the nine month period ended June 30, 2002, the change is principally attributable to the reclassification of accumulated losses on cash flow hedges that settled during the period offset in part by the increase in the effective portion of certain cash flow hedges in the first fiscal quarter.

In July 2001, the FASB issued Statement No. 141, “Business Combinations” and Statement No. 142, “Goodwill and Other Intangible Assets.” Statement No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001 as well as for all purchase method business combinations completed after June 30, 2001. Statement No. 141 also specifies criteria that intangible assets acquired in a purchase method business combination must meet to be recognized and reported apart from goodwill. Statement No. 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead be tested for impairment at least annually in accordance with the provisions of Statement No. 142. Statement No. 142 will also require that intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”

The Partnership adopted the provisions of Statement No. 141 effective July 1, 2001 and Statement No. 142 is required to be adopted effective October 1, 2002. Futhermore, any goodwill or any intangible asset determined to have an indefinite useful life that are acquired in a purchase method business combination completed after June 30, 2001 will not be amortized, but will continue to be evaluated for impairment in accordance with the appropriate pre-Statement No. 142 accounting literature. Goodwill and intangible assets acquired in business combinations completed before July 1, 2001 will continue to be amortized prior to the adoption of Statement No. 142.

Statement No. 141 will require upon adoption of Statement No. 142, that the Partnership evaluate its existing intangible assets and goodwill that were acquired in a prior purchase method business combination, and to make any necessary reclassifications in order to conform with the new criteria in Statement No. 141 for recognition apart from goodwill. Upon adoption of Statement No. 142, the Partnership will be required to reassess the useful lives and residual values of all intangible assets acquired in purchase business combinations, and make any necessary amortization period adjustments by the end of the first interim period after adoption. In addition, to the extent an intangible asset is identified as having an indefinite useful life, the Partnership will be required to test the intangible asset for impairment in accordance with the provisions of Statement No. 142 within the first quarter of fiscal 2003. Any impairment loss will be measured as of the date of adoption and recognized as the cumulative effect of a change in accounting principle in that period.

In connection with the transitional goodwill impairment evaluation, Statement No. 142 will require the Partnership to perform an assessment of whether there is an indication that goodwill is impaired as of the date of adoption. To accomplish this the Partnership must identify its reporting units and determine the carrying value of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units as of the date of adoption. The Partnership will then have up to six months from the date of adoption to determine the fair value of each reporting unit and compare it with the reporting unit’s carrying amount.

To the extent a reporting unit’s carrying amount exceeds its fair value, an indication exists that the reporting unit’s goodwill may be impaired and the Partnership must perform the second step of the transitional impairment test. In the second step, the Partnership must compare the implied fair value of the reporting unit’s goodwill, determined by allocating the reporting unit’s fair value to all of its assets (recognized and unrecognized) and liabilities in a manner similar to a purchase price allocation in accordance with Statement No. 141, with its carrying amount, both of which would be measured as of the date of adoption. This second step is required to be completed as soon as possible, but no later than the end of the year of adoption. Any transitional impairment loss will be recognized as the cumulative effect of a change in accounting principle in the Partnership’s statement of operations.

As of June 30, 2002, the Partnership had unamortized goodwill in the amount of $266.0 million. The Partnership also has $200.6 million of unamortized identifiable intangible assets, which will be subject to the transition provisions of Statements No. 141 and No. 142. Amortization expense related to goodwill was $5.9 million and $6.2 million for the nine months ended June 30, 2001 and 2002, respectively. Since July 1, 2001, the Partnership’s adoption date of Statement No. 141, the Partnership acquired $87.3 million of goodwill subject to Statement No. 142. As a result, these assets were not amortized; however, amortization expense would have been increased approximately $0.9 million and $2.5 million, if this goodwill had been amortized for the three and nine months ended June 30, 2002, respectively. Because of the extensive effort needed to comply with adopting Statements No. 141 and No. 142, it is not practicable to reasonably estimate the impact of adopting these Statements on the Partnership’s financial statements at the date of this report, including whether any transitional impairment losses will be required to be recognized as the cumulative effect of a change in accounting principle.

In August 2001, the FASB issued Statement No. 143, “Accounting for Asset Retirement Obligations”. Statement No. 143 requires recording the fair market value of an asset retirement obligation as a liability in the period in which a legal obligation associated with the retirement of tangible long-lived assets is incurred. Statement No. 143 also requires the recording of a corresponding asset, and to depreciate that amount over the life of the asset. The liability is then increased at the end of each period to reflect the passage of time and changes in the initial fair value measurement. The Partnership is required to adopt the provisions of Statement No. 143, effective October 1, 2002 and has not yet determined the extent of its impact, if any.

In October 2001, the FASB issued Statement No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”. Statement No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets. It also extends the reporting requirements to report separately as discontinued operations, components of an entity that have either been disposed of or classified as held for sale. The Partnership is required to adopt the provisions of Statement No. 144, effective October 1, 2002 and has not yet determined the extent of its impact, if any.

In March 2002, the heating oil segment entered into two interest rate swap agreements designed to hedge $73.0 million in underlying fixed rate senior note obligations, in order to reduce overall interest expense. The swap agreements, which expire August 1, 2006, require the counterparties to pay an amount based on the stated fixed interest rate (annual rate 8.05%) pursuant to the senior notes for an aggregate $2.9 million due every six months on August 1 and February 1. In exchange, the heating oil segment is required to make semi-annual floating interest rate payments on the first of August and February based on an annual interest rate equal to the 6 month LIBOR interest rate plus 2.83% applied to the same notional amount of $73.0 million. The swap agreements have been recognized as fair value hedges. Amounts to be paid or received under the interest rate swap agreements are accrued and recognized over the life of the agreements as an adjustment to interest expense. At June 30, 2002, the Partnership recognized an approximate $2.3 million increase in the fair market value of its interest rate swaps which is recorded in other assets. In addition, the fair value of long term debt increased by a corresponding amount.

In accordance with SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information”, the Partnership has four reportable segments: a retail distributor of heating oil, a retail distributor of propane, a reseller of natural gas and electricity and the public master limited partnership, Star Gas Partners. Management has chosen to organize the enterprise under these four segments in order to leverage the expertise it has in each industry, allow each segment to continue to strengthen its core competencies and provide a clear means for evaluation of operating results.

The heating oil segment is primarily engaged in the retail distribution of home heating oil, related equipment services, and equipment sales to residential and commercial customers. It operates primarily in the Northeast and Mid-Atlantic states. Home heating oil is principally used by the Partnership’s residential and commercial customers to heat their homes and buildings, and as a result, weather conditions have a significant impact on the demand for home heating oil.

The propane segment is primarily engaged in the retail distribution of propane and related supplies and equipment to residential, commercial, industrial, agricultural and motor fuel customers, in the Midwest, Northeast, Florida and Georgia. Propane is used primarily for space heating, water heating and cooking by the Partnership’s residential and commercial customers and as a result, weather conditions also have a significant impact on the demand for propane.

The natural gas and electric reseller segment is primarily engaged in offering natural gas and electricity to residential consumers in deregulated energy markets. In deregulated energy markets, customers have a choice in selecting energy suppliers to power and / or heat their homes. As a result, a significant portion of this segment’s revenue is directly related to weather conditions. TG&E operates in nine markets in the Northeast, Mid-Atlantic and Florida, where competitors range from independent resellers, like TG&E, to large public utilities.

The public master limited partnership segment includes the office of the Chief Executive Officer and has the responsibility for maintaining investor relations and investor reporting for the Partnership.

The following are the condensed statements of operations and balance sheets for each segment as of and for the periods indicated. There were no inter-segment sales.