UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

x

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

 

 

 

For the Quarterly Period Ended June 30, 2006

 

 

 

 

 

OR

 

 

 

o

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

 

 

 

For the transition period from               to               

 

 

 

 

 

Commission File Numbers:

 001-15843

 

 

 

 333-48279

 

UNIVERSAL COMPRESSION HOLDINGS, INC.

UNIVERSAL COMPRESSION, INC.

(Exact name of registrants as specified in their charters)

 

DELAWARE

 

13-3989167

TEXAS

 

74-1282680

(States or Other Jurisdictions of

 

(I.R.S. Employer

Incorporation or Organization)

 

Identification

 

 

Nos.)

 

 

 

4444 BRITTMOORE ROAD

 

 

HOUSTON, TEXAS

 

77041

(Address of Principal Executive
Offices)

 

(Zip Code)

 

(713) 335-7000

(Registrants’ telephone number, including area code)

 

Indicate by check mark whether the registrants (1) have filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrants were required to file such reports), and (2) have been subject to such filing requirements for the past 90 days.

 

Yes x No o

 

Indicate by check mark whether the registrants are large accelerated filers, accelerated filers, or non-accelerated filers (as defined in Rule 12b-2 of the Exchange Act).

 

Large Accelerated Filer x

 

Accelerated Filer o

 

Non-Accelerated Filer o (Universal Compression Holdings, Inc.)

Large Accelerated Filer o

 

Accelerated Filer o

 

Non-Accelerated Filer x (Universal Compression, Inc.)

 

Indicate by check mark whether the registrants are a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o No x

 

UNIVERSAL COMPRESSION, INC. MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION H(1)(a) AND (b) OF FORM 10-Q AND IS THEREFORE FILING THIS FORM 10-Q WITH THE REDUCED DISCLOSURE FORMAT.

 

As of August 3, 2006, there were 30,371,625 shares of Universal Compression Holdings, Inc.’s common stock, $0.01 par value, outstanding and 4,910 shares of Universal Compression, Inc.’s common stock, $10.00 par value, outstanding.

 

 



 

PART I. FINANCIAL INFORMATION

 

ITEM 1. Financial Statements

 

UNIVERSAL COMPRESSION HOLDINGS, INC.

CONSOLIDATED BALANCE SHEETS

(In thousands)

(unaudited)

 

 

 

June 30, 2006

 

December 31, 2005

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

24,646

 

$

39,262

 

Restricted cash

 

3,995

 

4,187

 

Accounts receivable, net of allowance for bad debts of $4,343 and $3,616 as of June 30, 2006 and December 31, 2005, respectively

 

171,756

 

121,642

 

Inventories, net of reserve for obsolescence of $10,702 and $10,896 as of June 30, 2006 and December 31, 2005, respectively

 

129,316

 

108,273

 

Deferred income taxes

 

7,610

 

7,447

 

Other

 

22,491

 

19,787

 

Total current assets

 

359,814

 

300,598

 

Contract compression equipment

 

1,643,524

 

1,567,470

 

Other property

 

190,904

 

167,946

 

Accumulated depreciation and amortization

 

(433,450

)

(375,575

)

Net property, plant and equipment

 

1,400,978

 

1,359,841

 

Goodwill

 

404,419

 

403,261

 

Derivative financial instruments

 

15,984

 

6,954

 

Other assets

 

34,499

 

24,641

 

Total assets

 

$

2,215,694

 

$

2,095,295

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable, trade

 

$

78,953

 

$

55,014

 

Accrued liabilities

 

45,299

 

43,796

 

Unearned revenue

 

65,342

 

36,367

 

Accrued interest

 

2,534

 

2,458

 

Current portion of long-term debt and capital lease obligations

 

19,454

 

18,249

 

Total current liabilities

 

211,582

 

155,884

 

Capital lease obligations

 

243

 

285

 

Long-term debt

 

879,158

 

904,807

 

Deferred income taxes

 

201,805

 

186,632

 

Derivative financial instruments

 

5,923

 

6,006

 

Other liabilities

 

12,675

 

10,369

 

Total liabilities

 

1,311,386

 

1,263,983

 

Commitments and contingencies (Note 9)

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Common stock

 

327

 

323

 

Treasury stock

 

(100,528

)

(100,011

)

Additional paid-in capital

 

771,000

 

759,105

 

Deferred compensation

 

 

(6,065

)

Accumulated other comprehensive income (loss)

 

430

 

(12,428

)

Retained earnings

 

233,079

 

190,388

 

Total stockholders’ equity

 

904,308

 

831,312

 

Total liabilities and stockholders’ equity

 

$

2,215,694

 

$

2,095,295

 

 

See accompanying notes to unaudited consolidated financial statements.

 

2



 

UNIVERSAL COMPRESSION HOLDINGS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share amounts)

(unaudited)

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

2006

 

2005

 

Revenue:

 

 

 

 

 

 

 

 

 

Domestic contract compression

 

$

101,460

 

$

79,672

 

$

195,505

 

$

156,590

 

International contract compression

 

35,010

 

30,300

 

68,303

 

59,039

 

Fabrication

 

38,528

 

55,836

 

94,837

 

103,873

 

Aftermarket services

 

43,718

 

41,876

 

89,139

 

81,818

 

Total revenue

 

218,716

 

207,684

 

447,784

 

401,320

 

Costs and expenses:

 

 

 

 

 

 

 

 

 

Cost of sales (excluding depreciation and amortization expense):

 

 

 

 

 

 

 

 

 

Domestic contract compression

 

35,792

 

27,776

 

68,706

 

57,016

 

International contract compression

 

8,430

 

7,907

 

16,827

 

14,874

 

Fabrication

 

33,797

 

52,972

 

83,902

 

97,968

 

Aftermarket services

 

36,359

 

33,047

 

72,166

 

66,328

 

Depreciation and amortization

 

30,013

 

25,633

 

59,812

 

50,023

 

Selling, general and administrative

 

29,461

 

20,438

 

56,042

 

40,510

 

Interest expense, net

 

14,605

 

12,460

 

28,662

 

26,856

 

Debt extinguishment costs

 

 

 

 

26,068

 

Asset impairment expense

 

 

 

 

3,080

 

Foreign currency (gain) loss

 

299

 

(837

)

(310

)

(734

)

Other (income) loss, net

 

(360

)

352

 

(1,093

)

(545

)

Total costs and expenses

 

188,396

 

179,748

 

384,714

 

381,444

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

30,320

 

27,936

 

63,070

 

19,876

 

Income tax expense

 

8,504

 

9,800

 

20,379

 

6,230

 

Net income

 

$

21,816

 

$

18,136

 

$

42,691

 

$

13,646

 

 

 

 

 

 

 

 

 

 

 

Weighted average common and common equivalent shares outstanding:

 

 

 

 

 

 

 

 

 

Basic

 

29,891

 

31,800

 

29,762

 

31,873

 

Diluted

 

31,040

 

32,563

 

30,874

 

32,900

 

 

 

 

 

 

 

 

 

 

 

Earnings per share—Basic

 

$

0.73

 

$

0.57

 

$

1.43

 

$

0.43

 

Earnings per share—Diluted

 

$

0.70

 

$

0.56

 

$

1.38

 

$

0.41

 

 

See accompanying notes to unaudited consolidated financial statements.

 

3



 

UNIVERSAL COMPRESSION HOLDINGS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(unaudited)

 

 

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

Cash flows from operating activities:

 

 

 

 

 

Net income

 

$

42,691

 

$

13,646

 

Adjustments to reconcile net income to cash provided by operating activities, net of effect of acquisitions:

 

 

 

 

 

Depreciation and amortization

 

59,812

 

50,023

 

Loss on early extinguishment of debt

 

 

26,068

 

Loss on asset impairment

 

 

3,080

 

(Gain) loss on asset sales

 

(346

)

(105

)

Amortization of debt issuance costs

 

937

 

1,307

 

Stock-based compensation expense

 

3,593

 

803

 

Increase (decrease) in deferred taxes

 

15,507

 

1,032

 

(Increase) decrease in other assets

 

(5,028

)

(1,495

)

(Increase) decrease in receivables

 

(46,519

)

(10,933

)

(Increase) decrease in inventories

 

(20,836

)

(5,070

)

Increase (decrease) in accounts payable

 

22,079

 

7,649

 

Increase (decrease) in accrued liabilities

 

(1,571

)

443

 

Increase (decrease) in unearned revenue

 

28,975

 

(5,369

)

Increase (decrease) in accrued interest

 

77

 

(14,686

)

Net cash provided by operating activities

 

99,371

 

66,393

 

Cash flows from investing activities:

 

 

 

 

 

Additions to property, plant and equipment

 

(98,134

)

(80,169

)

Proceeds from sale of property, plant and equipment

 

5,755

 

10,403

 

Cash paid for acquisitions, net of cash acquired

 

(6,285

)

(1,922

)

(Increase) decrease in restricted cash

 

192

 

 

Net cash used in investing activities

 

(98,472

)

(71,688

)

Cash flows from financing activities:

 

 

 

 

 

Principal repayments of long-term debt

 

(62,899

)

(689,804

)

Proceeds from issuance of debt

 

39,994

 

693,225

 

Debt extinguishment premium and costs

 

 

(19,527

)

Debt issuance costs

 

 

(2,456

)

Proceeds from common stock issuance

 

8,685

 

6,621

 

Purchase of treasury stock

 

(517

)

 

Payments on capital lease agreements

 

(46

)

(156

)

Net cash used in financing activities

 

(14,783

)

(12,097

)

Effect of exchange rate changes on cash and cash equivalents

 

(732

)

(67

)

Net increase (decrease) in cash and cash equivalents

 

(14,616

)

(17,459

)

Cash and cash equivalents at beginning of period

 

39,262

 

53,958

 

Cash and cash equivalents at end of period

 

$

24,646

 

$

36,499

 

 

See accompanying notes to unaudited consolidated financial statements.

 

4



 

UNIVERSAL COMPRESSION, INC.

CONSOLIDATED BALANCE SHEETS

(In thousands)

(unaudited)

 

 

 

June 30, 2006

 

December 31, 2005

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

24,646

 

$

39,262

 

Restricted cash

 

3,995

 

4,187

 

Accounts receivable, net of allowance for bad debts of $4,343 and $3,616 as of June 30, 2006 and December 31, 2005, respectively

 

171,756

 

121,642

 

Inventories, net of reserve for obsolescence of $10,702 and $10,896 as of June 30, 2006 and December 31, 2005, respectively

 

129,316

 

108,273

 

Deferred income taxes

 

7,610

 

7,447

 

Other

 

22,491

 

19,787

 

Total current assets

 

359,814

 

300,598

 

 

 

 

 

 

 

Contract compression equipment

 

1,643,524

 

1,567,470

 

Other property

 

190,904

 

167,946

 

Accumulated depreciation and amortization

 

(433,450

)

(375,575

)

Net property, plant and equipment

 

1,400,978

 

1,359,841

 

 

 

 

 

 

 

Goodwill

 

404,419

 

403,261

 

Notes receivable - affiliate

 

89,906

 

100,277

 

Derivative financial instruments

 

15,984

 

6,954

 

Other assets

 

34,499

 

24,641

 

Total assets

 

$

2,305,600

 

$

2,195,572

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDER’S EQUITY

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable, trade

 

$

78,953

 

$

55,014

 

Accrued liabilities

 

45,299

 

43,796

 

Unearned revenue

 

65,342

 

36,367

 

Accrued interest

 

2,534

 

2,458

 

Current portion of long-term debt and capital lease obligations

 

19,454

 

18,249

 

Total current liabilities

 

211,582

 

155,884

 

 

 

 

 

 

 

Capital lease obligations

 

243

 

285

 

Long-term debt

 

879,158

 

904,807

 

Deferred income taxes

 

202,967

 

186,729

 

Derivative financial instruments

 

5,923

 

6,006

 

Other liabilities

 

12,675

 

10,369

 

Total liabilities

 

1,312,548

 

1,264,080

 

 

 

 

 

 

 

Commitments and contingencies (Note 9)

 

 

 

 

 

Stockholder’s equity:

 

 

 

 

 

Common stock

 

49

 

49

 

Additional paid-in capital

 

749,962

 

745,876

 

Accumulated other comprehensive income (loss)

 

430

 

(12,428

)

Retained earnings

 

242,611

 

197,995

 

Total stockholder’s equity

 

993,052

 

931,492

 

Total liabilities and stockholder’s equity

 

$

2,305,600

 

$

2,195,572

 

 

See accompanying notes to unaudited consolidated financial statements.

 

5



 

UNIVERSAL COMPRESSION, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands)

(unaudited)

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

2006

 

2005

 

Revenue:

 

 

 

 

 

 

 

 

 

Domestic contract compression

 

$

101,460

 

$

79,672

 

$

195,505

 

$

156,590

 

International contract compression

 

35,010

 

30,300

 

68,303

 

59,039

 

Fabrication

 

38,528

 

55,836

 

94,837

 

103,873

 

Aftermarket services

 

43,718

 

41,876

 

89,139

 

81,818

 

Total revenue

 

218,716

 

207,684

 

447,784

 

401,320

 

 

 

 

 

 

 

 

 

 

 

Costs and expenses:

 

 

 

 

 

 

 

 

 

Cost of sales (excluding depreciation and amortization expense):

 

 

 

 

 

 

 

 

 

Domestic contract compression

 

35,792

 

27,776

 

68,706

 

57,016

 

International contract compression

 

8,430

 

7,907

 

16,827

 

14,874

 

Fabrication

 

33,797

 

52,972

 

83,902

 

97,968

 

Aftermarket services

 

36,359

 

33,047

 

72,166

 

66,328

 

Depreciation and amortization

 

30,013

 

25,633

 

59,812

 

50,023

 

Selling, general and administrative

 

29,461

 

20,438

 

56,042

 

40,510

 

Interest expense, net

 

14,605

 

12,460

 

28,662

 

26,856

 

Interest income from affiliate

 

(1,543

)

 

(2,990

)

 

Debt extinguishment costs

 

 

 

 

26,068

 

Asset impairment expense

 

 

 

 

3,080

 

Foreign currency (gain) loss

 

299

 

(837

)

(310

)

(734

)

Other (income) loss, net

 

(360

)

352

 

(1,093

)

(545

)

Total costs and expenses

 

186,853

 

179,748

 

381,724

 

381,444

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

31,863

 

27,936

 

66,060

 

19,876

 

Income tax expense

 

9,044

 

9,800

 

21,444

 

6,230

 

Net income

 

$

22,819

 

$

18,136

 

$

44,616

 

$

13,646

 

 

See accompanying notes to unaudited consolidated financial statements.

 

6



 

UNIVERSAL COMPRESSION, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(unaudited)

 

 

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

Cash flows from operating activities:

 

 

 

 

 

Net income

 

$

44,616

 

$

13,646

 

Adjustments to reconcile net income to cash provided by operating activities, net of effect of acquisitions:

 

 

 

 

 

Depreciation and amortization

 

59,812

 

50,023

 

Loss on early extinguishment of debt

 

 

26,068

 

Loss on asset impairment

 

 

3,080

 

(Gain) loss on asset sales

 

(346

)

(105

)

Amortization of debt issuance costs

 

937

 

1,307

 

Stock-based compensation expense

 

3,593

 

803

 

Increase (decrease) in deferred taxes

 

16,572

 

1,032

 

(Increase) decrease in other assets

 

(5,028

)

(1,495

)

(Increase) decrease in receivables

 

(46,519

)

(10,933

)

(Increase) decrease in inventories

 

(20,836

)

(5,070

)

Increase (decrease) in accounts payable

 

22,079

 

7,649

 

Increase (decrease) in accrued liabilities

 

(1,571

)

443

 

Increase (decrease) in unearned revenue

 

28,975

 

(5,369

)

Increase (decrease) in accrued interest

 

77

 

(14,686

)

Net cash provided by operating activities

 

102,361

 

66,393

 

Cash flows from investing activities:

 

 

 

 

 

Additions to property, plant and equipment

 

(98,134

)

(80,169

)

Proceeds from sale of property, plant and equipment

 

5,755

 

10,403

 

Cash paid for acquisitions, net of cash acquired

 

(6,285

)

(1,922

)

Repayment of loan to affiliate

 

5,178

 

 

(Increase) decrease in restricted cash

 

192

 

 

Net cash used in investing activities

 

(93,294

)

(71,688

)

Cash flows from financing activities:

 

 

 

 

 

Principal repayments of long-term debt

 

(62,899

)

(689,804

)

Proceeds from issuance of debt

 

39,994

 

693,225

 

Debt extinguishment premium and costs

 

 

(19,527

)

Debt issuance costs

 

 

(2,456

)

Capital contributions from stockholder

 

 

6,621

 

Payments on capital lease agreements

 

(46

)

(156

)

Net cash used in financing activities

 

(22,951

)

(12,097

)

Effect of exchange rate changes on cash and cash equivalents

 

(732

)

(67

)

Net increase (decrease) in cash and cash equivalents

 

(14,616

)

(17,459

)

Cash and cash equivalents at beginning of period

 

39,262

 

53,958

 

Cash and cash equivalents at end of period

 

$

24,646

 

$

36,499

 

 

See accompanying notes to unaudited consolidated financial statements.

 

7



 

UNIVERSAL COMPRESSION HOLDINGS, INC.

UNIVERSAL COMPRESSION, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

June 30, 2006

 

1.     Basis of Presentation

 

These notes apply to the unaudited consolidated financial statements of both Universal Compression Holdings, Inc. (“Holdings”) and Universal Compression, Inc. (“Universal”) and their subsidiaries. The term “Company” will be used if a statement is applicable to both Holdings and Universal. These unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements presented in the Company’s Transition Report on Form 10-K for the nine months ended December 31, 2005. That report contains a more comprehensive summary of the Company’s major accounting policies. In the opinion of management, the accompanying unaudited consolidated financial statements contain all appropriate adjustments, all of which are normally recurring adjustments unless otherwise noted, considered necessary to present fairly the financial position of the Company and its consolidated subsidiaries and the results of operations and cash flows for the respective periods. Operating results for the three-month and six-month periods ended June 30, 2006 are not necessarily indicative of the results that may be expected for the twelve months ending December 31, 2006.

 

Proposed Initial Public Offering of Subsidiary Company

 

On June 27, 2006, a subsidiary of the Company, Universal Compression Partners, L.P. (“Universal Compression Partners”), filed a registration statement on Form S-1 with the Securities and Exchange Commission relating to a proposed initial public offering of 5.5 million common units, representing limited partner interests in Universal Compression Partners, plus an option for the underwriters to purchase up to an additional 825,000 common units. All of the units will be issued by Universal Compression Partners. The Company anticipates using the aggregate net proceeds from the offering to repay debt.

 

Universal Compression Partners was formed to provide natural gas contract compression services to customers throughout the United States. A subsidiary of the Company will be the general partner of Universal Compression Partners. Universal Compression Partners is anticipated to own a fleet of approximately 850 compressor units, comprising approximately 330,000 horsepower, or approximately 17% (by available horsepower) of the Company’s domestic contract compression business.

 

As currently filed, the common units offered to the public will represent a 42.6% limited partner interest in Universal Compression Partners, or approximately 49% if the underwriters exercise in full their over-allotment option. the Company will own the remaining equity interests in Universal Compression Partners.

 

Earnings per share

 

Net income per share, basic and diluted, is calculated for Holdings in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 128, “Earnings per Share.”

 

The only potentially dilutive securities issued by Holdings are stock options and unvested restricted stock grants, neither of which would impact the calculation of net income for dilutive earnings per share purposes.

 

The dilutive effect of stock options and unvested restricted stock grants outstanding for the three and six months ended June 30, 2006 was 1,149,000 shares and 1,112,000 shares, respectively. The dilutive effect of stock options and unvested restricted stock grants outstanding for the three and six months ended June 30, 2005 was 763,000 shares and 1,027,000 shares, respectively. For the three and six months ended June 30, 2006, outstanding stock options of zero and 16,000 shares, respectively, were excluded from the computation of diluted earnings per share as the options’ exercise prices were greater than the average market price of the common stock for such periods. For the three and six months ended June 30, 2005, outstanding stock options of 192,000 and 191,000 shares, respectively, were excluded from the computation of diluted earnings per share as the options’ exercise prices were greater than the average market price of the common stock for such periods.

 

Goodwill

 

Goodwill and intangible assets acquired in connection with business combinations represent the excess of consideration over the fair value of tangible net assets acquired. Certain assumptions and estimates are employed in determining the fair value of assets acquired and liabilities assumed, as well as in determining the allocation of goodwill to the appropriate reporting unit.

 

8



 

The Company performs an impairment test for goodwill assets annually or earlier if indicators of potential impairment exist. The Company’s goodwill impairment test involves a comparison of the fair value of each of its reporting units with their carrying value. The fair value is determined using discounted cash flows and other market-related valuation models. Certain estimates and judgments are required in the application of the fair value models. As of February 2006, the Company performed its annual impairment analysis in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets,” and determined that no impairment had occurred.  If for any reason the fair value of the Company’s goodwill or that of any of its reporting units declines below the carrying value in the future, the Company may incur charges for the impairment.

 

Stock-Based Compensation

 

Effective January 1, 2006, the Company adopted SFAS No. 123R, “Share-Based Payment,” which requires that compensation cost relating to share-based payment transactions be recognized in the financial statements. That cost will be measured based on the fair value of the equity or liability instruments issued. Prior to 2006, the Company accounted for stock options in accordance with Accounting Principles Board Opinion No. 25 (“APB 25”), “Accounting for Stock Issued to Employees”. Under APB 25, stock option expense was not recognized in net income as the exercise price of stock options granted was equal to the market value of the stock on the date of grant. The Company has previously provided footnote disclosure of pro forma net income and earnings per share amounts as if stock option expense had been recognized based on fair value.

 

The Company adopted SFAS No. 123R utilizing the modified prospective transition method. As a result, prior periods have not been restated to reflect the impact of SFAS No. 123R. For the three and six months ended June 30, 2006, the adoption of SFAS No. 123R impacted our results of operation by increasing stock-based compensation expense by $1.3 million ($0.9 million, net of tax) and $2.5 million ($1.7 million, net of tax), respectively, as compared to the expense that would have been recognized under APB 25. The adoption of SFAS No. 123R decreased Holdings’ basic and diluted earnings per share for the three months ended June 30, 2006 by $0.03 and $0.03 per share, respectively. The adoption of SFAS No. 123R decreased Holdings’ basic and diluted earnings per share for the six months ended June 30, 2006 by $0.07 and $0.06 per share, respectively.

 

2. Recent Accounting Pronouncements

 

In November 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 151, “Inventory Costs - an amendment of ARB 43, Chapter 4.”  SFAS No. 151 provides clarification that abnormal amounts of idle facility expense, freight, handling costs and wasted material be recognized as current period charges. In addition, SFAS No. 151 requires the allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. The adoption of SFAS No. 151 did not have a material impact on the Company’s financial statements.

 

In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections—a replacement of APB Opinion No. 20 and FASB Statement No. 3.” SFAS No. 154 requires retrospective application to prior periods’ financial statements for changes in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. SFAS No. 154 also requires that a change in depreciation, amortization, or depletion method for long-lived, non-financial assets be accounted for as a change in accounting estimate effected by a change in accounting principle. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The adoption of SFAS No. 154 did not have a material impact on the Company’s financial statements.

 

In June 2006, the FASB issued FASB Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109.”  FIN 48 was issued to clarify the accounting for uncertainty in income taxes recognized in an entity’s financial statements by prescribing a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company is currently evaluating the impact that the adoption of FIN 48 will have on its financial statements.

 

9



 

3. Inventories, Net

 

Inventories, net consisted of the following (in thousands):

 

 

 

June 30,
2006

 

December 31,
2005

 

 

 

 

 

 

 

Raw materials

 

$

71,591

 

$

67,125

 

Work-in-progress

 

67,576

 

50,810

 

Finished goods

 

851

 

1,234

 

Total inventories

 

140,018

 

119,169

 

Reserve for obsolescence

 

(10,702

)

(10,896

)

Inventories, net

 

$

129,316

 

$

108,273

 

 

4. Long-Term Debt

 

As of June 30, 2006, the Company had approximately $898.5 million in outstanding debt consisting of $469.4 million outstanding under the seven-year term loan, $169.1 million outstanding under the 7 1/4 % senior notes, $194.0 million outstanding under the asset-backed securitization facility (the “ABS Facility”) and $66.0 million outstanding under the revolving credit facility. Covenants in the credit facilities require that the Company maintain various financial ratios. As of June 30, 2006, the Company was in compliance with all financial covenants.

 

5. Stock-Based Compensation

 

The following table presents the stock-based compensation expense included in the Company’s results of operations (in thousands):

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

2006

 

2005

 

Stock options

 

$

1,133

 

$

 

$

2,246

 

$

 

Restricted stock

 

628

 

499

 

1,097

 

803

 

Employee Stock Purchase Plan

 

150

 

 

250

 

 

Total stock-based compensation expense

 

1,911

 

499

 

3,593

 

803

 

Income tax benefit

 

(624

)

(175

)

(1,138

)

(281

)

Total after-tax stock-based compensation expense

 

$

1,287

 

$

324

 

$

2,455

 

$

522

 

 

There was no stock-based compensation cost capitalized during the three or six month periods ended June 30, 2006 or 2005.

 

Stock options

 

The Company utilizes stock options under its incentive stock option plan in order to motivate and retain key employees. Stock options granted under the plan are exercisable over a ten-year period. Options generally vest over the following time period:

 

Year 1

 

331/3

%

Year 2

 

331/3

%

Year 3

 

331/3

%

 

Under the incentive stock option plan, options to purchase common stock may be granted until 2011. Options are granted at fair market value at the date of grant, are exercisable in installments beginning one year from the date of grant, and expire 10 years after the date of grant.

 

10



 

The weighted average fair values at date of grant for options granted during the six months ended June 30, 2006 and 2005 were $18.22 and  $16.82, respectively, and were estimated using the Black-Scholes option valuation model with the following weighted average assumptions:

 

 

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

Expected life in years

 

6.0

 

5.9

 

Risk-free interest rate

 

4.72

%

4.25

%

Volatility

 

33.15

%

38.54

%

Dividend yield

 

0.00

%

0.00

%

 

The expected life represents the period of time the stock options are expected to be outstanding prior to exercise and is based on the simplified model. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of the grant for a period commensurate with the estimated expected life of the stock options. Expected volatility is based on the historical volatility of the Company’s stock over the most recent period commensurate with the expected life of the stock options and other factors. The Company has not historically paid a dividend and does not expect to pay a dividend during the expected life of the stock options. Under SFAS No. 123R, the Company is required to record compensation cost from stock-based compensation utilizing an estimated forfeiture rate. Historical data related to forfeitures experienced by the Company was used to estimate forfeiture rates.

 

The following table presents stock option activity for the six months ended June 30, 2006 (remaining life in years, intrinsic value in thousands):

 

 

 

Stock
Options

 

Weighted
Average
Exercise Price

 

Weighted
Average
Remaining
Life

 

Aggregate
Intrinsic
Value

 

Options outstanding, December 31, 2005

 

2,219,014

 

$

25.92

 

 

 

 

 

Granted

 

318,550

 

43.87

 

 

 

 

 

Exercised

 

(332,332

)

23.56

 

 

 

 

 

Cancelled

 

(11,039

)

27.03

 

 

 

 

 

Options outstanding, June 30, 2006

 

2,194,193

 

$

28.88

 

6.6

 

$

74,810

 

Options exercisable at June 30, 2006

 

1,679,708

 

$

25.45

 

5.8

 

$

63,026

 

 

Intrinsic value is the difference between the market value of the Company’s stock and the exercise price of each option multiplied by the number of options outstanding. The total intrinsic value of stock options exercised during the six months ended June 30, 2006 and 2005 was $10.7 million and $6.6 million, respectively. The total grant date fair value of stock options that vested during the six months ended June 30, 2006 and 2005 was $4.5 million and $6.0 million, respectively. As of June 30, 2006, $7.6 million of unrecognized compensation cost related to non-vested stock options is expected to be recognized over the weighted-average period of 2.1 years.

 

Cash received from stock option exercises during the six months ended June 30, 2006 and 2005 was $7.8 million and $6.2 million, respectively.

 

Restricted Stock

 

The Company utilizes grants of restricted stock as long-term compensation for designated employees. The Company’s restricted stock plan provides for the award of up to 1,350,000 shares of the Company’s common stock to certain officers and designated employees. Generally, common stock subject to restricted stock grants will vest 0% upon the first anniversary of the grant and 25% on each anniversary thereafter through the fifth anniversary.

 

Under APB 25, prior to January 1, 2006, deferred compensation was charged for the market value of restricted shares granted. The deferred compensation balance is shown as a reduction to Holdings’ stockholders’ equity in the accompanying consolidated balance sheet at December 31, 2005. Upon adoption of SFAS No. 123R, the deferred compensation balance at January 1, 2006 was reversed and recorded to additional paid-in capital. Under both APB 25 and SFAS No. 123R, the market value of the restricted shares granted is amortized ratably over the restricted period of five years.

 

Prior to January 1, 2006, under APB 25, the Company recorded the effect of forfeitures on compensation expense related to restricted stock as it actually occurred. Effective January 1, 2006, under SFAS No. 123R, the Company is required to record

 

11



 

compensation cost from stock-based compensation utilizing an estimated forfeiture rate. Historical data related to forfeitures experienced by the Company was used to estimate forfeiture rates. The impact on previously recognized expense from the change in forfeiture rates was immaterial.

 

The following table presents restricted stock activity for the six months ended June 30, 2006:

 

 

 

Shares

 

Weighted
Average
Grant-Date
Fair Value

 

Non-vested restricted stock, December 31, 2005

 

242,194

 

$

33.01

 

Granted

 

137,050

 

44.00

 

Vested

 

(36,750

)

26.70

 

Cancelled

 

(2,725

)

38.90

 

Non-vested restricted stock, June 30, 2006

 

339,769

 

$

38.08

 

 

The total grant date fair value of restricted stock that vested during the six months ended June 30, 2006 and 2005 was $1.0 million and $0.6 million, respectively. As of June 30, 2006, $10.0 million of unrecognized compensation cost related to non-vested restricted stock is expected to be recognized over the weighted-average period of 4.1 years.

 

Employee Stock Purchase Plan

 

The Employee Stock Purchase Plan (“ESPP”) is intended to encourage employees to participate in the Company’s growth by providing them the opportunity to acquire an interest in the Company’s long-term performance and success through the purchase of shares of common stock at a price typically less than fair market value. An employee is eligible to participate after completing 90 days of employment. Each quarter, an eligible employee may elect to withhold up to 10% of his or her eligible pay to purchase shares of the Company’s common stock at a price equal to 85% to 100% of the fair market value of the stock as of the first trading day of the quarter or the last trading day of the quarter, whichever is lower. The ESPP will terminate on the date that all shares of common stock authorized for sale under the ESPP have been purchased, except as otherwise extended by authorizing additional shares under the ESPP. At June 30, 2006, 304,584 shares remained available for purchase under the ESPP. Under SFAS No. 123R, the Company’s ESPP plan is compensatory, and as a result, the amount of the discount from the fair market value of the stock price at the end of the quarter received by the employee upon purchase of the stock is recorded as expense in that quarter.

 

2005 Pro Forma Results

 

The following table summarizes results as if the Company had recorded compensation expense under the provisions of SFAS No. 123 (earnings per share information is for Holdings only) (in thousands, except per share amounts):

 

 

 

Three Months Ended
June 30, 2005

 

Six Months Ended
June 30, 2005

 

Net income, as reported

 

$

18,136

 

$

13,646

 

Add: Stock-based compensation for restricted stock awards included in reported net income, net of tax

 

324

 

522

 

Deduct: Stock-based compensation determined under the fair value method, net of tax

 

(1,063

)

(2,078

)

Pro forma net income

 

$

17,397

 

$

12,090

 

Basic earnings per share:

 

 

 

 

 

As reported

 

$

0.57

 

$

0.43

 

Pro forma

 

$

0.55

 

$

0.38

 

Diluted earnings per share:

 

 

 

 

 

As reported

 

$

0.56

 

$

0.41

 

Pro forma

 

$

0.53

 

$

0.37

 

 

12



 

6. Accounting for Interest Rate Swaps

 

In accordance with SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended, all derivative instruments must be recognized on the balance sheet at fair value, and changes in such fair values are recognized in earnings unless specific hedging criteria are met. Changes in the values of derivatives that meet these hedging criteria will ultimately offset related earnings effects of the hedged item pending recognition in earnings.

 

As of June 30, 2006, the Company had interest rate swap agreements with a notional amount of $174.5 million related to the $194.0 million outstanding under the ABS Facility. The swaps outstanding at June 30, 2006 amortize ratably through 2019 and have a weighted average fixed rate of 4.94%. In accordance with SFAS No. 133, the Company’s balance sheet at June 30, 2006 included a $6.0 million derivative asset related to the interest rate swap agreements.

 

As of June 30, 2006, the Company had interest rate swap agreements with a notional amount of $300.0 million related to the $469.4 million outstanding under the seven-year term loan. The swaps outstanding at June 30, 2006 amortize ratably from June 2007 through March 2010 and have a weighted average fixed rate of 4.02%. In accordance with SFAS No. 133, the Company’s balance sheet at June 30, 2006 included a $10.0 million derivative asset related to the interest rate swap agreements.

 

These swaps, which the Company has designated as cash flow hedging instruments, meet the specific hedge criteria and any changes in their fair values were recognized in accumulated other comprehensive income or loss. Because the terms of the hedged item and the swaps substantially coincide, the hedge is expected to exactly offset changes in expected cash flows due to fluctuations in the variable rate and, therefore, the Company currently does not expect any ineffectiveness.

 

As of June 30, 2006, the Company had interest rate swap agreements to hedge $100.0 million of its 7 1/4% senior notes. The swaps are used to hedge the change in fair value of the debt and, in effect, convert the fixed interest payment to a variable interest payment based on six-month LIBOR in arrears. The swaps are accounted for in accordance with SFAS No. 133 and, as such, are recorded at fair value on the balance sheet. The Company’s balance sheet at June 30, 2006, included a $5.9 million derivative liability related to the interest rate swap agreements. The change in the debt’s fair value for that portion which is hedged is recorded as an adjustment to the carrying value of debt with the offset being recorded to interest expense. The swaps, which the Company has designated as fair value hedging instruments, meet the specific hedge criteria and any changes in their fair values were recognized in interest expense. For the three and six months ended June 30, 2006, the change in the debt’s fair value and the change in the swaps’ fair value exactly offset and did not impact net income. Because the terms of the hedged item and the swaps substantially coincide, the hedge is expected to exactly offset changes in fair values due to fluctuations in the variable rate and, therefore, the Company currently does not expect any ineffectiveness.

 

The counterparties to the Company’s interest rate swap agreements are major international financial institutions. The Company monitors the credit quality of these financial institutions and does not expect non-performance by them.

 

7. Comprehensive Income

 

Comprehensive income consisted of the following (in thousands):

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

2006

 

2005

 

Net income

 

$

21,816

 

$

18,136

 

$

42,691

 

$

13,646

 

Other comprehensive income, net of tax:

 

 

 

 

 

 

 

 

 

Interest rate swap gain (loss)

 

2,738

 

(6,446

)

6,970

 

(782

)

Cumulative translation adjustment

 

5,276

 

581

 

5,888

 

(1,067

)

Comprehensive income

 

$

29,830

 

$

12,271

 

$

55,549

 

$

11,797

 

 

The components of comprehensive income were identical for Holdings and Universal, except for the three and six months ended June 30, 2006, Universal’s net income was $22.8 million and $44.6 million, respectively, and total comprehensive net income was $30.8 million and $57.5 million, respectively.

 

8. Industry Segments

 

The Company has four principal business segments: domestic contract compression, international contract compression, fabrication and aftermarket services. The domestic contract compression segment provides natural gas compression services to customers in the United States. The international contract compression segment provides natural gas compression services to international customers, including those in Canada. The fabrication segment provides services related to the design, engineering and assembly of

 

13



 

natural gas compressors for sale to third parties in addition to those that the Company uses in its contract compression fleet. The aftermarket services segment sells parts and components and provides maintenance, operations and repair services to customers who own compression equipment and customers who use equipment provided by other companies. Fabrication and aftermarket services revenue presented in the table below include only sales to third parties.

 

The Company’s reportable segments are strategic business units that offer distinct products and services. They are managed separately since each business segment requires different marketing strategies due to customer specifications. The Company evaluates the performance of its reportable segments based on segment gross margin. Gross margin is defined as total revenue less cost of sales (excluding depreciation and amortization expense). The segment gross margin measure used by management for evaluation purposes excludes inter-segment transactions and, accordingly, there is no inter-segment revenue to be reported.

 

The following table presents unaudited revenue and gross margin by business segment (in thousands):

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

2006

 

2005

 

Revenue:

 

 

 

 

 

 

 

 

 

Domestic contract compression

 

$

101,460

 

$

79,672

 

$

195,505

 

$

156,590

 

International contract compression

 

35,010

 

30,300

 

68,303

 

59,039

 

Fabrication

 

38,528

 

55,836

 

94,837

 

103,873

 

Aftermarket services

 

43,718

 

41,876

 

89,139

 

81,818

 

Total

 

$

218,716

 

$

207,684

 

$

447,784

 

$

401,320

 

Gross Margin:

 

 

 

 

 

 

 

 

 

Domestic contract compression

 

$

65,668

 

$

51,896

 

$

126,799

 

$

99,574

 

International contract compression

 

26,580

 

22,393

 

51,476

 

44,165

 

Fabrication

 

4,731

 

2,864

 

10,935

 

5,905

 

Aftermarket services

 

7,359

 

8,829

 

16,973

 

15,490

 

Total

 

$

104,338

 

$

85,982

 

$

206,183

 

$

165,134

 

 

No one customer accounted for more than 10% of total revenue for any of the periods presented.

 

The table below presents unaudited revenue and gross margin by geographic location (in thousands). The basis of attributing revenue and gross margin to specific geographic locations is primarily based upon the geographic location of the sale, service or where the assets are utilized.

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

2006

 

2005

 

Revenue:

 

 

 

 

 

 

 

 

 

United States

 

$

152,742

 

$

140,522

 

$

308,944

 

$

283,558

 

Canada

 

27,287

 

19,638

 

57,716

 

37,109

 

Argentina

 

16,711

 

26,745

 

34,363

 

38,569

 

Other international

 

21,976

 

20,779

 

46,761

 

42,084

 

Total

 

$

218,716

 

$

207,684

 

$

447,784

 

$

401,320

 

Gross Margin:

 

 

 

 

 

 

 

 

 

United States

 

$

72,157

 

$

59,314

 

$

143,389

 

$

115,714

 

Canada

 

7,648

 

6,643

 

14,572

 

11,635

 

Argentina

 

11,097

 

9,210

 

22,875

 

17,315

 

Other international

 

13,436

 

10,815

 

25,347

 

20,470

 

Total

 

$

104,338

 

$

85,982

 

$

206,183

 

$

165,134

 

 

14



 

The following table reconciles Holdings’ net income to gross margin (in thousands):

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

2006

 

2005

 

Net income

 

$

21,816

 

$

18,136

 

$

42,691

 

$

13,646

 

Depreciation and amortization

 

30,013

 

25,633

 

59,812

 

50,023

 

Selling, general and administrative expense

 

29,461

 

20,438

 

56,042

 

40,510

 

Interest expense, net

 

14,605

 

12,460

 

28,662

 

26,856

 

Debt extinguishment costs

 

 

 

 

26,068

 

Asset impairment expense

 

 

 

 

3,080

 

Foreign currency (gain) loss

 

299

 

(837

)

(310

)

(734

)

Other (income) loss, net

 

(360

)

352

 

(1,093

)

(545

)

Income tax expense

 

8,504

 

9,800

 

20,379

 

6,230

 

Gross margin

 

$

104,338

 

$

85,982

 

$

206,183

 

$

165,134

 

 

Amounts for the three months ended June 30, 2006 are for both Holdings and Universal with the following exceptions:  Universal had interest income from an affiliate of $1.5 million, income tax expense of $9.0 million and net income of $22.8 million. Amounts for the six months ended June 30, 2006 are for both Holdings and Universal with the following exceptions:  Universal had interest income from an affiliate of $3.0 million, income tax expense of $21.4 million and net income of $44.6 million. The results of operations for Holdings and Universal were identical for the three and six months ended June 30, 2005.

 

9. Commitments and Contingencies

 

In the ordinary course of business, the Company is involved in various pending or threatened legal actions. In the opinion of management, the amount of ultimate liability, if any, with respect to these actions will not have a material adverse effect on the Company’s financial position, results of operations or cash flows.

 

On May 1, 2006, the Bolivian government announced the nationalization of the country’s hydrocarbon reserves. The Company owns and operates a natural gas liquids extraction facility in Bolivia that processes natural gas owned by its customer. The Company currently believes that the nationalization includes the ownership of the natural gas reserves of its customer but does not impact the Company’s ownership or control of its facility. To date, there has been no impact on our operations or cash flows. The Company cannot currently estimate the future impact, if any, that the nationalization of its customer’s natural gas reserves will have on its contract for this facility. The Company’s net investment in Bolivia was $13.4 million at June 30, 2006.

 

10. Income Taxes

 

In May 2006, the State of Texas enacted a law which modifies its existing franchise tax. The tax is considered an income tax and is accounted for in accordance with SFAS No. 109, “Accounting for Income Taxes.”  As a result, during the three months ended June 30, 2006, the Company recorded a deferred tax asset and related deferred tax benefit of $1.0 million.

 

In May 2006, the United States Congress passed the Tax Increase Prevention and Reconciliation Act of 2005. This Act had the impact of reducing the Company’s Subpart F income from applying a new look-through rule between related controlled foreign corporations. As a result, during the three months ended June 30, 2006, the Company recorded a reduction in its deferred tax liability and a related deferred tax benefit of $0.6 million.

 

In May and June 2006, reductions in the Alberta, Canada and Canadian Federal income tax rates were enacted. As a result, during the three months ended June 30, 2006, the Company recorded a reduction of its deferred tax liability and a deferred tax benefit of $0.9 million.

 

15



 

ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

The terms “our,” “Company,” “we” and “us” when used in this report refer to Universal Compression Holdings, Inc. (“Holdings”) and Universal Compression, Inc. (“Universal”) and their subsidiaries, except where indicated. The following discussion and analysis of financial condition and results of operations should be read in conjunction with our unaudited consolidated financial statements, and the notes thereto, appearing elsewhere in this report, as well as the consolidated financial statements and Management’s Discussion and Analysis of Financial Condition and Results of Operations presented in our Transition Report on Form 10-K for the nine months ended December 31, 2005.

 

DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

 

This report contains “forward-looking statements” intended to qualify for the safe harbors from liability established by the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact contained in this report are forward-looking statements, including, without limitation, statements regarding future financial position, business strategy, proposed acquisitions, budgets, litigation, projected costs and plans and objectives of management for future operations. You can identify many of these statements by looking for words such as “believes,” “expects,” “will,” “intends,” “projects,” “anticipates,” “estimates,” “continues” or similar words or the negative thereof.

 

Such forward-looking statements in this report include, without limitation:

 

                                          our business growth strategy and projected costs;

                                          our future financial position;

                                          the sufficiency of available cash flows to fund continuing operations;

                                          the expected amount of our capital expenditures;

                                          anticipated cost savings, future revenue, gross margin and other financial or operational measures related to our business and our primary business segments;

                                          the future value of our equipment; and

                                          plans and objectives of our management for our future operations.

 

Such forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those anticipated as of the date of this report. These forward looking statements are also affected by the risk factors and forward looking statements described in our Transition Report on Form 10-K for the nine months ended December 31, 2005 and those set forth from time to time in our filings with the Securities and Exchange Commission (“SEC”), which are available through our website and through the SEC’s Electronic Data Gathering and Retrieval System (“EDGAR”) at http://www.sec.gov. Although we believe that the expectations reflected in these forward-looking statements are based on reasonable assumptions, no assurance can be given that these expectations will prove to be correct. Important factors that could cause our actual results to differ materially from the expectations reflected in these forward-looking statements include, among other things:

 

                                          conditions in the oil and gas industry, including a sustained decrease in the level of supply or demand for natural gas and the impact on the price of natural gas;

                                          competition among the various providers of natural gas compression services;

                                          the impact of the recently announced proposed initial public offering of Universal Compression Partners, L.P. (“Universal Compression Partners”);

                                          employment workforce factors, including our ability to hire, train and retain key employees;

                                          our ability to timely and cost-effectively obtain components necessary to conduct our business;

                                          our ability to timely and cost-effectively implement our enterprise resource planning (“ERP”) system;

                                          changes in safety and environmental regulations pertaining to the production and transportation of natural gas;

                                          changes in political or economic conditions in key operating markets, including international markets;

                                          acts of war or terrorism or governmental or military responses thereto;

                                          introduction of competing technologies by other companies;

                                          our ability to retain and grow our customer base;

                                          our level of indebtedness and ability to fund our business;

                                          currency exchange rate fluctuations; and

                                          liability claims related to the use of our products and services.

 

16



 

All forward-looking statements included in this report are based on information available to us on the date of this report. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements contained throughout this report.

 

Recent Development

 

On June 27, 2006, Universal Compression Partners filed a registration statement on Form S-1 with the SEC relating to a proposed initial public offering of 5.5 million common units, representing limited partner interests in Universal Compression Partners, plus an option for the underwriters to purchase up to an additional 825,000 common units. All of the units will be issued by Universal Compression Partners. We anticipate using the aggregate net proceeds from the offering to repay debt.

 

Universal Compression Partners was formed to provide natural gas contract compression services to customers throughout the United States. Our subsidiary will be the general partner of Universal Compression Partners. Universal Compression Partners is anticipated to own a fleet of approximately 850 compressor units, comprising approximately 330,000 horsepower, or approximately 17% (by available horsepower) of our domestic contract compression business.

 

As currently filed, the common units offered to the public will represent a 42.6% limited partner interest in Universal Compression Partners, or approximately 49% if the underwriters exercise in full their over-allotment option. We will indirectly own the remaining equity interests in Universal Compression Partners.

 

Financial Highlights

 

Some of the more significant financial items for the three and six months ended June 30, 2006, as compared to the prior year periods, which are discussed below in “Financial Results of Operations,” were as follows:

 

                  Net Income. Net income for the three months ended June 30, 2006 increased by $3.7 million, or 20.3%, and by $29.0 million, or 212.8%, for the six months ended June 30, 2006. A primary driver of the increase in net income for the six months ended June 30, 2006 as compared to the prior year period was debt extinguishment cost incurred during the prior year period which reduced net income by $17.2 million.

 

                  Revenue and Gross Margin. Revenue was higher in the three and six months ended June 30, 2006 for all segments except fabrication. Despite the lower fabrication revenue, fabrication gross margin was higher in the three and six months ended June 30, 2006. Gross margin was higher in the three and six months ended June 30, 2006 for the domestic and international contract compression segments.

 

                  Depreciation and Amortization Expense. Depreciation and amortization expense increased by $4.4 million, or 17.1%, for the three months ended June 30, 2006, and by $9.8 million, or 19.6% for the six months ended June 30, 2006.

 

                  Selling, General and Administrative Expense. Selling, general and administrative (“SG&A”) expense increased by $9.0 million, or 44.1%, for the three months ended June 30, 2006, and by $15.5 million, or 38.3%, for the six months ended June 30, 2006.

 

17



 

Operating Highlights

 

The following table summarizes total available horsepower, average operating horsepower, horsepower utilization percentages and fabrication backlog.

 

 

 

Three Months Ended

 

Six Months Ended

 

 

 

June 30, 2006

 

December 31, 2005

 

June 30, 2005

 

June 30, 2006

 

June 30, 2005

 

 

 

(Horsepower in thousands)

 

(Horsepower in thousands)

 

Total Available Horsepower (at period end):

 

 

 

 

 

 

 

 

 

 

 

Domestic contract compression

 

1,989

 

1,965

 

1,921

 

1,989

 

1,921

 

International contract compression

 

595

 

584

 

566

 

595

 

566

 

Total

 

2,584

 

2,549

 

2,487

 

2,584

 

2,487

 

 

 

 

 

 

 

 

 

 

 

 

 

Average Operating Horsepower:

 

 

 

 

 

 

 

 

 

 

 

Domestic contract compression

 

1,794

 

1,787

 

1,740

 

1,797

 

1,728

 

International contract compression

 

549

 

538

 

513

 

548

 

498

 

Total

 

2,343

 

2,325

 

2,253

 

2,345

 

2,226

 

 

 

 

 

 

 

 

 

 

 

 

 

Horsepower Utilization:

 

 

 

 

 

 

 

 

 

 

 

Spot (at period end)

 

90.2

%

92.3

%

91.4

%

90.2

%

91.4

%

Average

 

91.1

%

91.7

%

90.7

%

91.5

%

90.4

%

 

 

 

June 30, 2006

 

December 31, 2005

 

June 30, 2005

 

 

 

 

 

(In millions)

 

 

 

Fabrication Backlog

 

$

275.0

 

$

144.5

 

$

72.8

 

 

The increase in domestic available horsepower as of June 30, 2006 compared to June 30, 2005 was primarily attributable to large horsepower units added to our fleet to meet the incremental demand for these units by the industry. The increase in international horsepower was primarily attributable to horsepower that was added in Latin America in response to new projects.

 

Domestic average operating horsepower increased by 3.1% for the three months ended June 30, 2006 compared to the prior year quarter and by 4.0% for the six months ended June 30, 2006 compared to the prior year period. International average operating horsepower increased by 7.0% for the three months ended June 30, 2006 compared to the prior year quarter and by 10.0% for the six months ended June 30, 2006 compared to the prior year period. These increases were primarily attributable to higher customer demand as well as larger horsepower units added to the fleet.

 

Fabrication backlog fluctuates quarter to quarter due to the timing of receipt of orders placed by customers and the timing of recognition of revenue. The fabrication backlog at August 3, 2006 was approximately $283.2 million. A majority of the backlog is expected to be completed within a 270-day period.

 

18



 

Financial Results of Operations

 

Three months ended June 30, 2006 compared to three months ended June 30, 2005

 

The following table summarizes revenue, gross margin, gross margin percentage, expenses and net income:

 

 

 

Three Months Ended
June 30,

 

 

 

2006 (1)

 

2005 (1)

 

 

 

(Dollars in thousands)

 

Revenue:

 

 

 

 

 

Domestic contract compression

 

$

101,460

 

$

79,672

 

% of revenue

 

46.4

%

38.3

%

International contract compression

 

$

35,010

 

$

30,300

 

% of revenue

 

16.0

%

14.6

%

Fabrication

 

$

38,528

 

$

55,836

 

% of revenue

 

17.6

%

26.9

%

Aftermarket services

 

$

43,718

 

$

41,876

 

% of revenue

 

20.0

%

20.2

%

Total Revenue

 

$

218,716

 

$

207,684

 

Gross margin:

 

 

 

 

 

Domestic contract compression

 

$

65,668

 

$

51,896

 

International contract compression

 

26,580

 

22,393

 

Fabrication

 

4,731

 

2,864

 

Aftermarket services

 

7,359

 

8,829

 

Total Gross Margin

 

$

104,338

 

$

85,982

 

Gross margin percentage:

 

 

 

 

 

Domestic contract compression

 

64.7

%

65.1

%

International contract compression

 

75.9

%

73.9

%

Fabrication

 

12.3

%

5.1

%

Aftermarket services

 

16.8

%

21.1

%

Total Gross Margin Percentage

 

47.7

%

41.4

%

Expenses:

 

 

 

 

 

Depreciation and amortization

 

$

30,013

 

$

25,633

 

Selling, general and administrative

 

29,461

 

20,438

 

Interest expense, net

 

14,605

 

12,460

 

Foreign currency (gain) loss

 

299

 

(837

)

Other (income) loss, net

 

(360

)

352

 

Income tax expense

 

8,504

 

9,800

 

Net income

 

$

21,816

 

$

18,136

 

 


(1)                                  Amounts for the three months ended June 30, 2006 are for both Holdings and Universal with the following exceptions:  Universal had interest income from an affiliate of $1.5 million, income tax expense of $9.0 million and net income of $22.8 million. The results of operations for Holdings and Universal were identical for the three months ended June 30, 2005.

 

Revenue. Domestic contract compression revenue increased due to higher average contract prices and increased operating horsepower in the three months ended June 30, 2006. Domestic contract compression revenue per average monthly operating horsepower increased to $18.86 in the three months ended June 30, 2006. This was a 23.6% increase from the prior period amount of $15.26. Average domestic contract compression monthly operating horsepower increased to 1,793,551 for the three months ended June 30, 2006. This represented a 3.1% increase from the prior year period. International contract compression revenue increased primarily as a result of additional business in Argentina and Bolivia of $2.0 million and $1.8 million, respectively. Fabrication revenue decreased in the current year period as we allocated more of our new build capacity to our contract compression fleet. Aftermarket services revenue was higher due primarily to acquisitions in Europe and Africa that contributed $4.1 million of additional revenue for the three months ended June 30, 2006, partially offset by $2.5 million of lower revenue from our domestic operations.

 

19



 

Gross Margin. The higher domestic contract compression gross margin (defined as total revenue less cost of sales, excluding depreciation and amortization expense) was primarily attributable to the revenue increases in the current year period discussed above, partially offset by higher expenses in the current year period including labor and benefits cost, parts cost, lubricant cost and vehicle fuel cost. International contract compression gross margin was higher due primarily to the increased business in Argentina and Bolivia discussed above. The higher fabrication gross margin was attributable primarily to higher warranty costs and cost overruns on certain relatively complex projects in the prior year period. Aftermarket services gross margin was lower due to lower gross margin percentages achieved in the current year period and out-of-period costs recorded in the current year period. These were partially offset by the Europe and Africa acquisitions completed in 2006. Gross margin is reconciled to net income on page 25 of this report, within Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

Gross Margin Percentage. Gross margin percentage (defined as gross margin as a percentage of revenue) for domestic contract compression for the three months ended June 30, 2006 remained relatively stable compared to the prior year period. The higher international contract compression gross margin percentage was due primarily to the increased revenue discussed above. The higher fabrication gross margin percentage primarily resulted from the implementation of process improvements, maintaining greater pricing discipline and focusing on more standard compression packages. Aftermarket services gross margin percentage declined due to out-of-period cost recorded in the current year period and higher cost incurred as a percentage of revenue in the current year period.

 

Depreciation and Amortization. The increase in depreciation and amortization expense for the three months ended June 30, 2006 compared to the prior year primarily resulted from on-going capital expenditures, consisting primarily of additions to our contract compression fleet and compressor overhauls.

 

SG&A Expenses. The increase in SG&A expenses for the three months ended June 30, 2006 was due primarily to the inclusion of reimbursable property taxes that are offset in revenue, the on-going implementation of our ERP system and the adoption of Statement of Financial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment,” relating to stock-based compensation. SG&A expenses represented 13.5% and 9.8% of revenues for the three months ended June 30, 2006 and 2005, respectively.

 

Interest Expense, net. The increase in interest expense, net for the three months ended June 30, 2006 relates to higher total debt levels and increased interest rates in the current year period.

 

Income Tax Expense. Income tax expense decreased $1.3 million in the three months ended June 30, 2006 as compared to the prior year period. The effective tax rate for the three months ended June 30, 2006 and 2005 was 28.0% and 35.1%, respectively. The impact of the change in effective tax rate resulted in a $2.2 million decrease in income tax expense in the current year period. This decrease in effective tax rate was primarily due to recording the effect of the passage by the State of Texas of its Margin Tax ($1.0 million tax benefit), a reduction in Subpart F income from applying the new look-through rule included in the Tax Increase Prevention and Reconciliation Act of 2005 ($0.6 million tax benefit) which was enacted in May 2006 and the enactment of reductions in Alberta, Canada and Canadian Federal income tax rates in May and June, respectively ($0.9 million tax benefit).

 

20



 

Six months ended June 30, 2006 compared to six months ended June 30, 2005

 

The following table summarizes revenue, gross margin, gross margin percentage, expenses and net income:

 

 

 

Six Months Ended
June 30,

 

 

 

2006 (1)

 

2005 (1)

 

 

 

(Dollars in thousands)

 

Revenue:

 

 

 

 

 

Domestic contract compression

 

$

195,505

 

$

156,590

 

% of revenue

 

43.7

%

39.0

%

International contract compression

 

$

68,303

 

$

59,039

 

% of revenue

 

15.2

%

14.7

%

Fabrication

 

$

94,837

 

$

103,873

 

% of revenue

 

21.2

%

25.9

%

Aftermarket services

 

$

89,139

 

$

81,818

 

% of revenue

 

19.9

%

20.4

%

Total Revenue

 

$

447,784

 

$

401,320

 

Gross margin:

 

 

 

 

 

Domestic contract compression

 

$

126,799

 

$

99,574

 

International contract compression

 

51,476

 

44,165

 

Fabrication

 

10,935

 

5,905

 

Aftermarket services

 

16,973

 

15,490

 

Total Gross Margin

 

$

206,183

 

$

165,134

 

Gross margin percentage:

 

 

 

 

 

Domestic contract compression

 

64.9

%

63.6

%

International contract compression

 

75.4

%

74.8

%

Fabrication

 

11.5

%

5.7

%

Aftermarket services

 

19.0

%

18.9

%

Total Gross Margin Percentage

 

46.0

%

41.1

%

Expenses:

 

 

 

 

 

Depreciation and amortization

 

$

59,812

 

$

50,023

 

Selling, general and administrative

 

56,042

 

40,510

 

Interest expense, net

 

28,662

 

26,856

 

Foreign currency gain

 

(310

)

(734

)

Other income, net

 

(1,093

)

(545

)

Debt extinguishment costs

 

 

26,068

 

Asset impairment expense

 

 

3,080

 

Income tax expense

 

20,379

 

6,230

 

Net income

 

$

42,691

 

$

13,646

 

 


(1)                Amounts for the six months ended June 30, 2006 are for both Holdings and Universal with the following exceptions:  Universal had interest income from an affiliate of $3.0 million, income tax expense of $21.4 million and net income of $44.6 million. The results of operations for Holdings and Universal were identical for the six months ended June 30, 2005.

 

Revenue. Domestic contract compression revenue increased due to higher average contract prices and increased operating horsepower in the six months ended June 30, 2006. Domestic contract compression revenue per average monthly operating horsepower increased to $18.13 in the six months ended June 30, 2006. This was a 20.1% increase from the prior period amount of $15.10. Average domestic contract compression monthly operating horsepower increased to 1,797,425 for the six months ended June 30, 2006. This represented a 4.0% increase from the prior year period. International contract compression revenue increased primarily as a result of additional business in Argentina and Bolivia of $5.3 million and $3.6 million, respectively. Fabrication revenue decreased in the current year period as we allocated more of our new build capacity to our contract compression fleet. Aftermarket services revenue was higher due primarily to acquisitions in Europe and Africa that contributed $6.8 million of additional revenue for the six months ended June 30, 2006.

 

21



 

Gross Margin. The higher domestic contract compression gross margin was primarily attributable to the revenue increases in the current period discussed above, partially offset by higher expenses in the current period including labor and benefits cost, parts cost, lubricant cost, fleet automation cost and vehicle fuel cost. International contract compression gross margin was higher due primarily to the increased business in Argentina and Bolivia discussed above. The higher fabrication gross margin was attributable primarily to higher warranty costs and cost overruns on certain relatively complex projects in the prior year period. Aftermarket services gross margin was higher due to acquisitions in Europe and Africa discussed above. Gross margin is reconciled to net income on page 25 of this report, within Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

Gross Margin Percentage. The higher current year period domestic contract compression gross margin percentage primarily resulted from the price increases discussed above. International contract compression and aftermarket services gross margin percentages for the current year period remained relatively stable compared to the prior year period. The higher fabrication gross margin percentage primarily resulted from the implementation of process improvements, maintaining greater pricing discipline and focusing on more standard compression packages.

 

Depreciation and Amortization. The increase in depreciation and amortization expense for the six months ended June 30, 2006 compared to the prior year period primarily resulted from on-going capital expenditures, consisting primarily of additions to our contract compression fleet and compressor overhauls.

 

SG&A Expenses. The increase in SG&A expenses for the six months ended June 30, 2006 was due primarily to the inclusion of reimbursable property taxes that are offset in revenue, the on-going implementation of our ERP system and the adoption of SFAS No. 123R. SG&A expenses represented 12.5% and 10.1% of revenues for the six months ended June 30, 2006 and 2005, respectively.

 

Interest Expense, net. The increase in interest expense, net for the six months ended June 30, 2006 relates to higher total debt levels and increased interest rates in the current year period.

 

Debt Extinguishment Costs. During the six months ended June 30, 2005, debt extinguishment costs were due to the early extinguishment of our term loan due 2008 and 8 7/8% senior notes due 2008. As a result of the early extinguishment of debt, a charge of $26.1 million was recognized resulting from the call premium of $19.5 million and write-off of unamortized debt issuance costs of $6.6 million.

 

Asset Impairment. Included within net income for the six months ended June 30, 2005 is a $3.1 million loss on the impairment of our Tulsa, Oklahoma fabrication facility. The carrying value of this facility was written down to its estimated market value, which was determined by the Company based upon then recent appraisals.

 

Income Tax Expense. Income tax expense increased $14.1 million in the six months ended June 30, 2006 as compared to the prior year period. The effective tax rate for the six months ended June 30, 2006 and 2005 was 32.3% and 31.3%, respectively. The increase in pre-tax income resulted in $13.5 million of the increase in income tax expense in the current year period.

 

22



 

Liquidity and Capital Resources

 

Universal meets the conditions set forth in General Instruction H(1) of Form 10-Q and as a result is not required to include a discussion of its liquidity and capital resources in this report. The discussion below of liquidity and capital resources is related to Holdings only and all references to “our,” “we” and “us” when used in this discussion refer to Universal Compression Holdings, Inc. and its subsidiaries.

 

Our primary sources of cash are operating activities and financing activities. Our primary uses of cash are operating expenditures, capital expenditures and long-term debt repayments. The following table summarizes our sources and uses of cash for the six months ended June 30, 2006 and 2005, and our cash and working capital as of the end of such periods (in thousands):

 

 

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

Net cash provided by (used in):

 

 

 

 

 

Operating activities

 

$

99,371

 

$

66,393

 

Investing activities

 

$

(98,472

)

$

(71,688

)

Financing activities

 

$

(14,783

)

$

(12,097

)

 

 

 

As of June 30,

 

 

 

2006

 

2005

 

Cash

 

$

24,646

 

$

36,499

 

Working capital, net of cash and restricted cash

 

$

119,591

 

$

79,010

 

 

Operations. Net cash provided by operating activities increased $33.0 million for the six months ended June 30, 2006 compared to the prior year period primarily as a result of increased earnings and changes in working capital.

 

Capital Expenditures. Capital expenditures for the six months ended June 30, 2006 were $98.1 million consisting of $64.6 million for fleet additions, $16.0 million for compressor overhauls, $8.5 million for service trucks and $9.0 million for machinery, equipment, information technology equipment and other items. Proceeds from asset sales of $5.8 million in the six months ended June 30, 2006 resulted in net capital expenditures of $92.3 million. Based on current market conditions, we expect to continue to invest in fleet additions, compressor overhauls and maintenance and other capital requirements. We expect net capital expenditures (defined as capital expenditures less proceeds from asset sales) of approximately $210 million to $240 million for the twelve months ending December 31, 2006, including approximately $45 million for compressor overhauls. Cash used in investing activities for the six months ended June 30, 2006 includes $6.3 million for acquisitions.

 

Long-term Debt. As of June 30, 2006, we had approximately $898.5 million in outstanding debt obligations consisting  of $469.4 million outstanding under the seven-year term loan, $169.1 million outstanding under the 7 1/4% senior notes, $194.0 million outstanding under the ABS Facility and $66.0 million outstanding under the revolving credit facility.

 

The maturities of this debt for the twelve months ended June 30 of the periods indicated are shown below (in thousands). We expect to pay these principal payments through cash generated by operations and debt refinancing activity.

 

2007

 

$

19,295

 

2008

 

19,295

 

2009

 

19,295

 

2010

 

254,372

 

2011

 

19,295

 

Thereafter

 

566,902

 

Total debt

 

$

898,454

 

 

Historically, we have financed capital expenditures with net cash provided by operating and financing activities. Based on current market conditions, we expect that net cash provided by operating activities will be sufficient to finance our operating

 

23



 

expenditures, capital expenditures and scheduled interest and debt repayments through December 31, 2006, but to the extent it is not, we may borrow additional funds under our revolving credit facility, ABS Facility or we may obtain additional debt or equity financing.

 

Debt Covenants and Availability. Covenants in our credit facilities require that we maintain various financial ratios, including a collateral coverage ratio (market value of domestic compression equipment pledged to total amount of indebtedness outstanding under our seven-year term loan and revolving credit facility) of greater than or equal to 1.15 to 1, a total leverage ratio (total debt to earnings before interest, taxes, depreciation and amortization expense) of less than or equal to 5 to 1, and an interest coverage ratio (earnings before interest, taxes, depreciation and amortization expense to interest expense) of greater than or equal to 2.5 to 1. As of June 30, 2006, we were in compliance with all financial covenants.

 

As of June 30, 2006, due to restrictive covenants and after giving effect to $21.8 million of outstanding letters of credit under our revolving credit facility, we had an aggregate unused credit availability of approximately $87.2 million under our revolving credit facility and $25.0 million under our ABS Facility.

 

24



 

Non-GAAP Financial Measures

 

We define gross margin as total revenue less cost of sales (excluding depreciation and amortization expense). Gross margin is included as a supplemental disclosure because it is a primary measure used by our management as it represents the results of revenue and cost of sales (excluding depreciation and amortization expense), which are key components of our operations. As an indicator of our operating performance, gross margin should not be considered an alternative to, or more meaningful than, net income as determined in accordance with GAAP. Our gross margin may not be comparable to a similarly titled measure of another company because other entities may not calculate gross margin in the same manner.

 

The following table reconciles Holdings’ net income to gross margin:

 

 

 

Three Months Ended
June 30,

 

Six Months Ended
June 30,

 

 

 

2006

 

2005

 

2006

 

2005

 

Net income

 

$

21,816

 

$

18,136

 

$

42,691

 

$

13,646

 

Depreciation and amortization

 

30,013

 

25,633

 

59,812

 

50,023

 

Selling, general and administrative expense

 

29,461

 

20,438

 

56,042

 

40,510

 

Interest expense, net

 

14,605

 

12,460

 

28,662

 

26,856

 

Debt extinguishment costs

 

 

 

 

26,068

 

Asset impairment expense

 

 

 

 

3,080

 

Foreign currency (gain) loss

 

299

 

(837

)

(310

)

(734

)

Other (income) loss, net

 

(360

)

352

 

(1,093

)

(545

)

Income tax expense

 

8,504

 

9,800

 

20,379

 

6,230

 

Gross margin

 

$

104,338

 

$

85,982

 

$

206,183

 

$

165,134

 

 

 Amounts for the three months ended June 30, 2006 are for both Holdings and Universal with the following exceptions:  Universal had interest income from an affiliate of $1.5 million, income tax expense of $9.0 million and net income of $22.8 million. Amounts for the six months ended June 30, 2006 are for both Holdings and Universal with the following exceptions:  Universal had interest income from an affiliate of $3.0 million, income tax expense of $21.4 million and net income of $44.6 million. The results of operations for Holdings and Universal were identical for the three and six months ended June 30, 2005.

 

ITEM 3. Quantitative and Qualitative Disclosures About Market Risk

 

Variable Rate Debt

 

We are exposed to market risk due to variable interest rates under our financing and interest rate swap arrangements.

 

The interest rate under our revolving credit facility is based upon, at our option, either a base rate plus an applicable margin, which varies from 0.25% to 1.25% based on our leverage ratio, or one, two, three or six month LIBOR, plus an applicable margin which varies from 1.25% to 2.25% based on our leverage ratio. As of August 3, 2006, the applicable rate was one month LIBOR, which was 5.41% and the applicable margin was 1.25%. We had $66.0 million outstanding at June 30, 2006 under the revolving credit facility.

 

As of June 30, 2006, we had $469.4 million outstanding under our seven-year term loan that was subject to a variable interest rate. This facility provides, at our option, for interest at a base rate plus an applicable margin of 0.50% or one, two, three or six month LIBOR, plus an applicable margin of 1.50%. As of August 3, 2006, the applicable rate was one month LIBOR, which was 5.41%. We have entered into interest rate swap agreements related to the seven-year term loan, which are described below in “Interest Rate Swap Arrangements.”  As of June 30, 2006, after giving effect to these interest rate swap agreements, only $169.4 million of the seven-year term loan remains effectively subject to a variable interest rate.

 

As of June 30, 2006, we had $194.0 million outstanding under our ABS Facility that was subject to a variable interest rate at one month LIBOR, which was 5.41% as of August 3, 2006, plus 0.74%. We have entered into interest rate swap agreements, which are described below in “Interest Rate Swap Arrangements.”  As of June 30, 2006, after giving effect to these interest rate swap agreements, only $19.5 million of the ABS Facility remains effectively subject to a variable interest rate.

 

As of June 30, 2006, $100.0 million of our 7 1/4% senior notes are subject to interest rate swap agreements which convert the fixed rate to a variable rate which are described below in “Interest Rate Swap Agreements.”  The variable rate under these interest rate swap agreements is six month LIBOR, in arrears, plus an average applicable margin of 3.21%. As of August 3, 2006, six month LIBOR was 5.53%.

 

As of June 30, 2006, we had approximately $354.9 million of outstanding indebtedness that was effectively subject to floating interest rates and a 1.0% increase in interest rates would result in an approximate $3.5 million annual increase in our interest expense.

 

25



 

Interest Rate Swap Arrangements

 

We are a party to interest rate swap agreements which are recorded at fair value in our financial statements. A change in the underlying interest rates may also result in a change in their recorded value.

 

As of June 30, 2006, the notional amount of the interest rate swap agreements related to our seven-year term loan was $300.0 million. The fair value of these interest rate swap agreements was an asset of approximately $10.0 million, which was recorded as a derivative asset. The interest rate swap agreements amortize ratably from June 2007 through March 2010. The weighted average fixed rate of these interest rate swap agreements is 4.02%.

 

As of June 30, 2006, the notional amount of the interest rate swap agreements related to our ABS Facility was $174.5 million and the fair value of these interest rate swap agreements was an asset of approximately $6.0 million, which was recorded as a derivative asset. The interest rate swap agreements amortize ratably through 2019. The average fixed rate of these interest rate swap agreements is 4.94%.

 

As of June 30, 2006, the notional amount of the interest rate swap agreements related to our 7 1/4% senior notes was $100.0 million. The fair value of these interest rate swap agreements as of June 30, 2006 was a liability of approximately $5.9 million, which is recorded as a derivative liability. These interest rate swap agreements terminate in May 2010.

 

ITEM 4. Controls and Procedures

 

Management’s Evaluation of Disclosure Controls and Procedures

 

As required by Rule 13a-15(b) and Rule 15d-15(b) under the Securities Exchange Act of 1934 (the “Exchange Act”), Holdings’ and Universal’s management, including the Chief Executive Officer and Chief Financial Officer, evaluated as of the end of the period covered by this report, the effectiveness of their disclosure controls and procedures as defined in Exchange Act Rule 13a-15(e) and Rule 15d-15(e). Based on that evaluation, the Chief Executive Officer and Chief Financial Officer of Holdings and Universal concluded that their disclosure controls and procedures, as of the end of the period covered by this report, were effective for the purpose of ensuring that information required to be disclosed by Holdings and Universal in this report is recorded, processed, summarized and reported within the time periods specified by the rules and forms under the Exchange Act and is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosures.

 

Changes in Internal Control over Financial Reporting

 

There were no changes in Holdings’ internal control over financial reporting during the last fiscal quarter that materially affected, or are reasonably likely to materially affect, its internal control over financial reporting.

 

26



 

PART II. OTHER INFORMATION

 

ITEM 1. Legal Proceedings

 

No material changes from items disclosed in Form 10-K for the nine months ended December 31, 2005.

 

ITEM 1A. Risk Factors

 

No material changes from items disclosed in Form 10-K for the nine months ended December 31, 2005.

 

ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

None.

 

ITEM 3. Defaults Upon Senior Securities

 

None.

 

ITEM 4. Submission of Matters to a Vote of Security Holders

 

On April 19, 2006, we held our Annual Meeting of Stockholders. The matters voted upon at the meeting and the results of those votes were as follows:

 

PROPOSAL I. Re-election of one Class C member of our Board of Directors for a term expiring at our 2009 Annual Meeting of Stockholders.

 

 

 

Total Votes For

 

Total Votes Withheld

 

 

 

 

 

 

 

William M. Pruellage

 

25,089,875

 

1,699,641

 

 

PROPOSAL II. An amendment to our Employee Stock Purchase Plan.

 

For

 

Against

 

Abstain

 

Non Votes

 

22,068,057

 

1,427,260

 

568,174

 

2,726,025

 

 

PROPOSAL III. Ratification of the appointment of Deliotte & Touche LLP as Independent Auditors for the fiscal year ending December 31, 2006.

 

For

 

Against

 

Abstain

 

Non Votes

 

26,426,278

 

360,953

 

2,285

 

0

 

 

ITEM 5. Other Information

 

None.

 

27



 

ITEM 6. Exhibits

 

(a)      Exhibits.

 

Exhibit No.

 

Description

 

 

 

10.1

 

Summary of Officers’ Incentive Plan for the period beginning April, 1 2006 (incorporated by reference to Exhibit 10.1 of Universal Compression Holdings, Inc.’s Form 8-K filed with the Securities and Exchange Commission on May 5, 2006).

 

 

 

10.2

 

Summary of Officer’s Incentive Plan for the period that began on April 1, 2006 and will end on December 31, 2006, as amended (incorporated by reference to Exhibit 10.1 on Universal Compression Holdings, Inc.’s Form 8-K filed with the Securities and Exchange Commission on June 29, 2006).

 

 

 

31.1

 

Certification of the Chief Executive Officer of Universal Compression Holdings, Inc. pursuant to Rule 13a-14 under the Securities Exchange Act of 1934.

 

 

 

31.2

 

Certification of the Chief Financial Officer of Universal Compression Holdings, Inc. pursuant to Rule 13a-14 under the Securities Exchange Act of 1934.

 

 

 

31.3

 

Certification of the Chief Executive Officer of Universal Compression, Inc. pursuant to Rule 15d-14 under the Securities Exchange Act of 1934.

 

 

 

31.4

 

Certification of the Chief Financial Officer of Universal Compression, Inc. pursuant to Rule 15d-14 under the Securities Exchange Act of 1934.

 

 

 

32.1

 

Certifications of the Chief Executive Officer and Chief Financial Officer of Universal Compression Holdings, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

32.2

 

Certifications of the Chief Executive Officer and Chief Financial Officer of Universal Compression, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

28



 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrants have duly caused this report to be signed on their behalf by the undersigned, thereunto duly authorized.

 

 

UNIVERSAL COMPRESSION HOLDINGS, INC.

 

 

Date: August 8, 2006

By:

/s/ J. MICHAEL ANDERSON

 

 

 

J. Michael Anderson

 

 

Senior Vice President and

 

 

Chief Financial Officer

 

 

(Principal Financial Officer)

 

 

 

By:

/s/ KENNETH R. BICKETT

 

 

 

Kenneth R. Bickett

 

 

Vice President, Accounting and Corporate Controller

 

 

(Principal Accounting Officer)

 

 

 

UNIVERSAL COMPRESSION, INC.

 

 

 

By:

/s/ J. MICHAEL ANDERSON

 

 

 

J. Michael Anderson

 

 

Senior Vice President and

 

 

Chief Financial Officer

 

 

(Principal Financial Officer)

 

 

 

By:

/s/ KENNETH R. BICKETT

 

 

 

Kenneth R. Bickett

 

 

Vice President, Accounting and Corporate Controller

 

 

(Principal Accounting Officer)

 

 

 

29



 

EXHIBIT INDEX

 

Exhibit No.

 

Description

 

 

 

10.1

 

Summary of Officers’ Incentive Plan for the period beginning April, 1 2006 (incorporated by reference to Exhibit 10.1 of Universal Compression Holdings, Inc.’s Form 8-K filed with the Securities and Exchange Commission on May 5, 2006).

 

 

 

10.2

 

Summary of Officer’s Incentive Plan for the period that began on April 1, 2006 and will end on December 31, 2006, as amended (incorporated by reference to Exhibit 10.1 on Universal Compression Holdings, Inc.’s Form 8-K filed with the Securities and Exchange Commission on June 29, 2006).

 

 

 

31.1

 

Certification of the Chief Executive Officer of Universal Compression Holdings, Inc. pursuant to Rule 13a-14 under the Securities Exchange Act of 1934.

 

 

 

31.2

 

Certification of the Chief Financial Officer of Universal Compression Holdings, Inc. pursuant to Rule 13a-14 under the Securities Exchange Act of 1934.

 

 

 

31.3

 

Certification of the Chief Executive Officer of Universal Compression, Inc. pursuant to Rule 15d-14 under the Securities Exchange Act of 1934.

 

 

 

31.4

 

Certification of the Chief Financial Officer of Universal Compression, Inc. pursuant to Rule 15d-14 under the Securities Exchange Act of 1934.

 

 

 

32.1

 

Certifications of the Chief Executive Officer and Chief Financial Officer of Universal Compression Holdings, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

32.2

 

Certifications of the Chief Executive Officer and Chief Financial Officer of Universal Compression, Inc. pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

30