Document



 
 
 
 
 
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 March 31, 2018
OR
£
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission File No.: 1-16335
 _________________________________________
 Magellan Midstream Partners, L.P.
(Exact name of registrant as specified in its charter)
Delaware
 
73-1599053
(State or other jurisdiction of
incorporation or organization)
 
(IRS Employer
Identification No.)
One Williams Center, P.O. Box 22186, Tulsa, Oklahoma 74121-2186
(Address of principal executive offices and zip code)
(918) 574-7000
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has 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 registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No £
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  £
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x    Accelerated filer £    Non-accelerated filer £ (Do not check if a smaller reporting company)    
Smaller reporting company £ Emerging growth company £
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. £
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act).    Yes  £    No  x
As of May 2, 2018, there were 228,195,160 outstanding limited partner units of Magellan Midstream Partners, L.P. that trade on the New York Stock Exchange under the ticker symbol “MMP.”
 
 
 
 
 





TABLE OF CONTENTS
PART I
FINANCIAL INFORMATION
 
ITEM 1.
CONSOLIDATED FINANCIAL STATEMENTS
 
 
 
 
 
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS:
 
 
1.
 
 
2.
 
 
3.
 
 
4.
 
 
5.
 
 
6.
 
 
7.
 
 
8.
 
 
9.
 
 
10.
 
 
11.
 
 
12.
 
 
13.
 
 
14.
 
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
 
 
 
 
 
 
 
 
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 4.
CONTROLS AND PROCEDURES
PART II
OTHER INFORMATION
ITEM 1.
ITEM 1A.
ITEM 2.
ITEM 3.
ITEM 4.
ITEM 5.
ITEM 6.
 

1




PART I
FINANCIAL INFORMATION

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

MAGELLAN MIDSTREAM PARTNERS, L.P.
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per unit amounts)
(Unaudited)
 
 
Three Months Ended
 
March 31,
 
2017
 
2018
Transportation and terminals revenue
$
392,671

 
$
431,937

Product sales revenue
245,620

 
241,592

Affiliate management fee revenue
3,783

 
5,250

Total revenue
642,074

 
678,779

Costs and expenses:
 
 
 
Operating
131,592

 
143,296

Cost of product sales
172,876

 
199,592

Depreciation and amortization
47,298

 
51,879

General and administrative
40,281

 
46,556

Total costs and expenses
392,047

 
441,323

Earnings of non-controlled entities
21,446

 
34,538

Operating profit
271,473

 
271,994

Interest expense
51,212

 
56,652

Interest capitalized
(4,197
)
 
(4,647
)
Interest income
(292
)
 
(579
)
Other expense
1,170

 
8,724

Income before provision for income taxes
223,580

 
211,844

Provision for income taxes
844

 
934

Net income
$
222,736

 
$
210,910

Basic net income per limited partner unit
$
0.98

 
$
0.92

Diluted net income per limited partner unit
$
0.98

 
$
0.92

Weighted average number of limited partner units outstanding used for basic net income per unit calculation
228,109

 
228,320

Weighted average number of limited partner units outstanding used for diluted net income per unit calculation
228,159

 
228,360


    






See notes to consolidated financial statements.

2




MAGELLAN MIDSTREAM PARTNERS, L.P.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited, in thousands)
 
 
Three Months Ended March 31,
 
2017
 
2018
Net income
$
222,736

 
$
210,910

Other comprehensive income:
 
 

Derivative activity:
 
 
 
Net gain on cash flow hedges
1,295

 
5,414

Reclassification of net loss on cash flow hedges to income  
740

 
740

Changes in employee benefit plan assets and benefit obligations recognized in other comprehensive income:
 
 
 
Net actuarial loss

 
(5,944
)
Amortization of prior service credit
(45
)
 
(45
)
Amortization of actuarial loss
1,228

 
5,114

Settlement cost
1,365

 

Total other comprehensive income
4,583

 
5,279

Comprehensive income
$
227,319

 
$
216,189





























See notes to consolidated financial statements.

3




MAGELLAN MIDSTREAM PARTNERS, L.P.
CONSOLIDATED BALANCE SHEETS
(In thousands)
 
 
December 31,
2017
 
March 31,
2018
ASSETS
 
 
(Unaudited)
Current assets:
 
 
 
Cash and cash equivalents
$
176,068

 
$
74,197

Trade accounts receivable
138,779

 
105,089

Other accounts receivable
14,561

 
24,880

Inventory
182,345

 
195,987

Energy commodity derivatives deposits
36,690

 
26,593

Other current assets
63,396

 
66,446

Total current assets
611,839

 
493,192

Property, plant and equipment
7,235,468

 
7,346,495

Less: Accumulated depreciation
1,682,633

 
1,732,486

Net property, plant and equipment
5,552,835

 
5,614,009

Investments in non-controlled entities
1,082,511

 
1,126,773

Long-term receivables
27,676

 
24,124

Goodwill
53,260

 
53,260

Other intangibles (less accumulated amortization of $1,389 and $1,590 at December 31, 2017 and March 31, 2018, respectively)
52,764

 
52,563

Other noncurrent assets
13,490

 
12,128

Total assets
$
7,394,375

 
$
7,376,049

 
 
 
 
LIABILITIES AND PARTNERS’ CAPITAL
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
104,852

 
$
129,283

Accrued payroll and benefits
56,261

 
29,717

Accrued interest payable
70,657

 
52,701

Accrued taxes other than income
51,343

 
34,622

Environmental liabilities
6,235

 
9,352

Deferred revenue
117,795

 
119,258

Accrued product liabilities
96,159

 
85,266

Energy commodity derivatives contracts, net
25,694

 
16,289

Current portion of long-term debt, net
250,974

 
250,511

Other current liabilities
56,540

 
61,541

Total current liabilities
836,510

 
788,540

Long-term debt, net
4,273,518

 
4,272,747

Long-term pension and benefits
111,305

 
131,248

Other noncurrent liabilities
30,350

 
34,764

Environmental liabilities
13,039

 
9,563

Commitments and contingencies

 

Partners’ capital:
 
 
 
Limited partner unitholders (228,025 units and 228,195 units outstanding at December 31, 2017 and March 31, 2018, respectively)
2,267,231

 
2,271,486

Accumulated other comprehensive loss
(137,578
)
 
(132,299
)
Total partners’ capital
2,129,653

 
2,139,187

Total liabilities and partners’ capital
$
7,394,375

 
$
7,376,049






See notes to consolidated financial statements.

4




MAGELLAN MIDSTREAM PARTNERS, L.P.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, in thousands)
 
Three Months Ended
 
March 31,
 
2017
 
2018
Operating Activities:
 
 
 
Net income
$
222,736

 
$
210,910

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization expense
47,298

 
51,879

Loss on sale and retirement of assets
3,461

 
1,997

Earnings of non-controlled entities
(21,446
)
 
(34,538
)
Distributions of earnings from investments in non-controlled entities
21,605

 
51,754

Equity-based incentive compensation expense
4,147

 
6,632

Settlement cost, amortization of prior service credit and actuarial loss
2,548

 
5,069

Changes in operating assets and liabilities:
 
 
 
Trade accounts receivable and other accounts receivable
33,988

 
23,371

Inventory
(12,050
)
 
(13,642
)
Energy commodity derivatives contracts, net of derivatives deposits
8,713

 
617

Accounts payable
7,275

 
19,457

Accrued payroll and benefits
(17,766
)
 
(26,544
)
Accrued interest payable
(23,391
)
 
(17,956
)
Accrued taxes other than income
(10,176
)
 
(16,721
)
Accrued product liabilities
(13,807
)
 
(10,893
)
Deferred revenue
5,590

 
1,463

Current and noncurrent environmental liabilities
540

 
(359
)
Other current and noncurrent assets and liabilities
7,618

 
25,406

Net cash provided by operating activities
266,883

 
277,902

Investing Activities:
 
 
 
Additions to property, plant and equipment, net(1)
(141,515
)
 
(99,471
)
Proceeds from sale and disposition of assets
3,368

 
214

Investments in non-controlled entities
(44,511
)
 
(60,976
)
Net cash used by investing activities
(182,658
)
 
(160,233
)
Financing Activities:
 
 
 
Distributions paid
(194,961
)
 
(209,940
)
Net commercial paper borrowings
116,965

 

Debt placement costs

 
(315
)
Payments associated with settlement of equity-based incentive compensation
(13,875
)
 
(9,285
)
Net cash used by financing activities
(91,871
)
 
(219,540
)
Change in cash and cash equivalents
(7,646
)
 
(101,871
)
Cash and cash equivalents at beginning of period
14,701

 
176,068

Cash and cash equivalents at end of period
$
7,055

 
$
74,197

 
 
 
 
Supplemental non-cash investing and financing activities:
 
 
 
Issuance of limited partner units in settlement of equity-based incentive plan awards
$
1,669

 
$
120

 
 
 
 
(1)   Additions to property, plant and equipment
$
(142,635
)
 
$
(105,384
)
Changes in accounts payable and other current liabilities related to capital expenditures
1,120

 
5,913

Additions to property, plant and equipment, net
$
(141,515
)
 
$
(99,471
)








See notes to consolidated financial statements.

5






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


1.
Organization, Description of Business and Basis of Presentation

Organization

Unless indicated otherwise, the terms “our,” “we,” “us” and similar language refer to Magellan Midstream Partners, L.P. together with its subsidiaries. Magellan Midstream Partners, L.P. is a Delaware limited partnership and its limited partner units are traded on the New York Stock Exchange under the ticker symbol “MMP.” Magellan GP, LLC, a wholly-owned Delaware limited liability company, serves as its general partner.

Description of Business

We are principally engaged in the transportation, storage and distribution of refined petroleum products and crude oil.  As of March 31, 2018, our asset portfolio, including the assets of our joint ventures, consisted of:

our refined products segment, comprised of our 9,700-mile refined products pipeline system with 53 terminals as well as 26 independent terminals not connected to our pipeline system and our 1,100-mile ammonia pipeline system;

our crude oil segment, comprised of approximately 2,200 miles of crude oil pipelines, our condensate splitter and storage facilities with an aggregate storage capacity of approximately 28 million barrels, of which approximately 17 million barrels are used for contract storage; and

our marine storage segment, consisting of five marine terminals located along coastal waterways with an aggregate storage capacity of approximately 26 million barrels.

Terminology common in our industry includes the following terms, which describe products that we transport, store and distribute through our pipelines and terminals:

refined products are the output from refineries and are primarily used as fuels by consumers. Refined products include gasoline, diesel fuel, aviation fuel, kerosene and heating oil.  Collectively, diesel fuel, aviation fuel, kerosene and heating oil are referred to as distillates;

liquefied petroleum gases, or LPGs, are produced as by-products of the crude oil refining process and in connection with natural gas production. LPGs include butane and propane;

blendstocks are blended with refined products to change or enhance their characteristics such as increasing a gasoline’s octane or oxygen content. Blendstocks include alkylates, oxygenates and natural gasoline;

heavy oils and feedstocks are used as burner fuels or feedstocks for further processing by refineries and petrochemical facilities. Heavy oils and feedstocks include No. 6 fuel oil and vacuum gas oil;

crude oil and condensate are used as feedstocks by refineries and petrochemical facilities;

biofuels, such as ethanol and biodiesel, are increasingly required by government mandates; and

ammonia is primarily used as a nitrogen fertilizer.

Except for ammonia, we use the term petroleum products to describe any, or a combination, of the above-noted products.

6






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



 
Basis of Presentation

In the opinion of management, our accompanying consolidated financial statements which are unaudited, except for the consolidated balance sheet as of December 31, 2017, which is derived from our audited financial statements, include all normal and recurring adjustments necessary to present fairly our financial position as of March 31, 2018, the results of operations for the three months ended March 31, 2017 and 2018 and cash flows for the three months ended March 31, 2017 and 2018. The results of operations for the three months ended March 31, 2018 are not necessarily indicative of the results to be expected for the full year ending December 31, 2018 for several reasons. Profits from our butane blending activities are realized largely during the first and fourth quarters of each year. Additionally, gasoline demand, which drives transportation volumes and revenues on our pipeline systems, generally trends higher during the summer driving months. Further, the volatility of commodity prices impacts the profits from our commodity activities and, to a lesser extent, the volume of petroleum products we transport on our pipelines.

Pursuant to the rules and regulations of the Securities and Exchange Commission, the financial statements in this report do not include all of the information and notes normally included with financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). These financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2017.

Use of Estimates

The preparation of our consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities that exist at the date of our consolidated financial statements, as well as their impact on the reported amounts of revenue and expense during the reporting periods. Actual results could differ from those estimates.

Correction of Actuarial Valuation Error

In first quarter 2018, an error was discovered in our third-party actuary’s valuation of our pension liabilities and net periodic pension expenses dating back to 2010.  The impacts of the error were not material to any of our prior period financial statements and the cumulative impact was corrected with a one-time adjustment in the current period.  As a result, during the first quarter of 2018, net periodic pension expenses were increased by $16.0 million ($5.7 million operating expense, $3.4 million general and administrative (“G&A”) costs and $6.9 million other expense below operating profit on our consolidated statements of income). In addition, long-term pension and benefits was increased $18.8 million and accumulated other comprehensive loss was increased by $2.8 million on our consolidated balance sheets.

New Accounting Pronouncements

In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, Leases (Topic 842). This ASU requires lessees to recognize a right of use asset and lease liability on the balance sheet for all leases, with the exception of short-term leases. The new accounting model for lessors remains largely the same, although some changes have been made to align it with the new lessee model and the new revenue recognition guidance. This update also requires companies to include additional disclosures regarding their lessee and lessor agreements. For public companies, this ASU is effective for fiscal years that start after December 15, 2018, and early adoption is permitted. We are currently in the process of evaluating the impact this new standard will have on our financial statements.

7






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)




New Accounting Pronouncements - Adopted January 1, 2018

In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. This update changes GAAP’s hedge accounting requirements to simplify some of the specialized treatment’s most complex areas. These simplifications are intended to expand opportunities to use hedge accounting and better align the accounting treatment with existing risk management activities. The ASU is effective for public companies starting after December 15, 2018, and we early-adopted the new standard on January 1, 2018. The adoption of this ASU did not have a material impact on our consolidated financial statements.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments: A Consensus of the FASB Emerging Issues Task Force. This ASU includes a requirement to make an accounting policy election to classify distributions received from equity method investees under either (1) the cumulative earnings approach, where distributions in excess of equity earnings are considered a return of capital and classified as cash inflows from investing activities, or (2) the nature of the distribution approach, where each distribution is evaluated on the basis of the source of the payment and classified as either operating or investing cash inflows. We adopted this standard on January 1, 2018 using the retrospective transition method and made an accounting policy election to use the nature of the distribution approach, which resulted in the following adjustments to our first quarter 2017 comparative statement of cash flows (in thousands):
 
 
March 31, 2017, as Reported
 
ASU 2016-15 Adjustment
 
March 31, 2017, as Adjusted
Operating activities:
 
 
 
 
 
 
Distributions of earnings from investments in non-controlled entities
 
$
20,050

 
$
1,555

 
$
21,605

Net cash provided by operating activities
 
$
265,328

 
$
1,555

 
$
266,883

 
 
 
 
 
 
 
Investing activities:
 
 
 
 
 
 
Distributions in excess of earnings of non-controlled entities
 
$
1,555

 
$
(1,555
)
 
$

Net cash used by investing activities
 
$
(181,103
)
 
$
(1,555
)
 
$
(182,658
)

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). This ASU amends the existing accounting standards for revenue recognition and is based on the principle that revenue should be recognized to depict the transfer of goods or services to a customer at an amount that reflects the consideration a company expects to receive in exchange for those goods or services. On January 1, 2018, we adopted the new Accounting Standards Codification (“ASC”) 606, Revenue from Contracts with Customers and all the related amendments using the modified retrospective method. We recognized the cumulative effect of initially applying the new revenue standard as an adjustment to the opening balance of partners’ capital. The comparative information has not been restated and continues to be reported under the accounting standards in effect for those periods.



8






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



The cumulative effect of the changes made to our consolidated January 1, 2018 balance sheet resulting from the adoption of the new revenue standard was as follows (in thousands):
 
 
Balance at December 31, 2017
 
Adjustments Due to ASU 2014-09
 
Balance at January 1, 2018
Assets:
 
 
 
 
 
 
Property, plant and equipment
 
$
7,235,468

 
$
8,516

 
$
7,243,984

Accumulated depreciation
 
(1,682,633
)
 
(325
)
 
(1,682,958
)
Net property, plant and equipment
 
$
5,552,835

 
$
8,191

 
$
5,561,026

Investments in non-controlled entities
 
$
1,082,511

 
$
502

 
$
1,083,013

 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
Deferred revenue
 
$
117,795

 
$
(1,901
)
 
$
115,894

Other noncurrent liabilities
 
$
30,350

 
$
4,619

 
$
34,969

 
 
 
 
 
 

Partners’ capital:
 
 
 
 
 

Limited partner unitholders
 
$
2,267,231

 
$
5,975

 
$
2,273,206

 
 

 

 


The primary changes impacting our financial statements under the new revenue standard include the requirement for us to estimate deficiencies in our customers’ use of our services contracted as minimum commitments and adjust the amount of revenue recognized in proportion to our customers’ pattern of exercised rights. This change results in accelerating the timing of revenue recognized for specific contracts for which we estimate our customers will not ship their minimum commitments. In addition, we periodically receive payments from customers seeking to expand their access to our pipeline systems and terminals. Prior to the adoption of the new revenue standard, these payments were recorded as reductions to our property, plant and equipment (“PP&E”) expenditures. Under the new revenue standard, these payments are recorded to deferred revenue and other noncurrent liabilities and are recognized as revenue in proportion to the related services provided. The impact of this change increases our revenues, contract liabilities, PP&E and depreciation expenses. We expect the impact of the adoption of the new revenue standard, including these changes, to be immaterial to our net income on an ongoing basis.



9






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



2.
Revenue from Contracts with Customers

Adoption of ASC 606, Revenue from Contracts with Customers

The table below provides the amount by which financial statement line items are affected in the current reporting period by the application of the new revenue standard, as compared with the guidance that was in effect before the change (in thousands):
 
 
As Reported
 
Amounts without adoption of ASC 606
 
Effect of Change 
Higher/(Lower)
 
 
Three Months Ended March 31, 2018
Statement of Income:
 
 
 
 
 
 
Transportation and terminals revenue
 
$
431,937

 
$
431,524

 
$
413

Depreciation and amortization
 
$
51,879

 
$
51,823

 
$
56

 
 
 
 
 
 
 
 
 
As of March 31, 2018
Balance Sheet:
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
Property, plant and equipment
 
$
7,346,495

 
$
7,336,491

 
$
10,004

Accumulated depreciation
 
1,732,486

 
1,732,105

 
381

Net property, plant and equipment
 
$
5,614,009

 
$
5,604,386

 
$
9,623

Investments in non-controlled entities
 
$
1,126,773

 
$
1,126,271

 
$
502

Liabilities:
 
 
 
 
 
 
Deferred revenue
 
$
119,258

 
$
120,814

 
$
(1,556
)
Other noncurrent liabilities
 
$
34,764

 
$
29,415

 
$
5,349

Partners’ capital:
 
 
 
 
 
 
Limited partner unitholders
 
$
2,271,486

 
$
2,265,511

 
$
5,975


Revenue recognition policies
    
Revenue is recognized upon the satisfaction of each performance obligation required by our customer contracts. Transportation and terminals revenue is recognized over time as our customers receive the benefits of our service as it is performed on their behalf using an output method based on actual deliveries. Revenue for our storage services is recognized over time using an output method based on the capacity of storage under contract with our customers. Product sales revenue is recognized at a point in time when our customers take control of the commodities purchased. We record back-to-back purchases and sales of petroleum products where we are acting as an agent on a net basis.

We recognize pipeline transportation revenue for crude oil shipments when our customers’ product arrives at the customer-designated destination.  For shipments of refined products and ammonia under published tariffs that combine transportation and terminalling services, we recognize revenue when our customers take delivery of their product from our system. For shipments where terminalling services are not included in the tariff, we recognize revenue when our customers’ product arrives at the customer-designated destination. We have certain contracts that require counterparties to ship a minimum volume over an agreed-upon time period, which are contracted as minimum dollar or volume commitments. Revenue pursuant to these take-or-pay contracts is recognized when the customers utilize their committed volumes. Additionally, when we estimate that the customers will not utilize all or a portion of their committed volumes, we recognize revenue in proportion to the pattern of exercised rights for the respective commitment period.

10






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)




Our interstate common carrier petroleum products pipeline operations are subject to rate regulation by the Federal Energy Regulatory Commission (“FERC”) under the Interstate Commerce Act, the Energy Policy Act of 1992 and rules and orders promulgated pursuant thereto. FERC regulation requires that interstate pipeline rates be filed with the FERC, be posted publicly and be nondiscriminatory and “just and reasonable.” The rates on approximately 40% of the shipments on our refined products pipeline system are regulated by the FERC primarily through an index methodology. As an alternative to cost-of-service or index-based rates, interstate pipeline companies may establish rates by obtaining authority to charge market-based rates in competitive markets or by negotiation with unaffiliated shippers. Approximately 60% of our refined products pipeline system’s markets are either subject to regulations by the states in which we operate or are approved for market-based rates by the FERC, and in both cases these rates can generally be adjusted at our discretion based on market factors. Most of the tariffs on our crude oil pipelines are established by negotiated rates that generally provide for annual adjustments in line with changes in the FERC index, subject to certain modifications.

For both our index-based rates and our market-based rates, our published tariffs serve as contracts, and shippers nominate the volume to be shipped up to a month in advance.  These tariffs include provisions which allow us to deduct from our customer’s inventory a small percentage of the products our customers transport on our pipeline systems. We refer to this non-monetary consideration as tender deduction revenue.  We receive tender deductions from our customers as consideration for product losses during the transportation of petroleum products within our pipeline systems.  Tender deduction revenue is generally recognized as transportation revenue when the customer's transported commodities reach their destination and are recorded at the fair value of the product received on the date received or the contract date, as applicable.

Product sales revenue pricing is contractually specified, and we have determined that each barrel sold represents a separate performance obligation. Transaction prices for our other services including terminalling, storage and ancillary services are typically contracted as a single performance obligation with our customers. In circumstances where multiple performance obligations are contractually required, we allocate the transaction price to the various performance obligations based on their relative standalone selling price.


11






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



Statement of Income Disclosures

The following tables provide details of our revenues disaggregated by key activities that comprise our performance obligations by operating segment (in thousands):
 
 
Three Months Ended March 31, 2018
 
 
Refined Products
 
Crude Oil
 
Marine Storage
 
Intersegment Eliminations
 
Total
Transportation
 
$
166,902

 
$
79,123

 
$

 
$

 
$
246,025

Terminalling
 
39,348

 

 
712

 

 
40,060

Storage
 
25,247

 
29,990

 
34,211

 
(915
)
 
88,533

Ancillary services
 
25,788

 
5,035

 
7,034

 

 
37,857

Lease revenue
 
3,109

 
12,110

 
4,243

 

 
19,462

Transportation and terminals revenue
 
260,394

 
126,258

 
46,200

 
(915
)
 
431,937

Product sales revenue
 
232,774

 
6,439

 
2,379

 

 
241,592

Affiliate management fee revenue
 
297

 
4,016

 
937

 

 
5,250

Total revenue
 
493,465

 
136,713

 
49,516

 
(915
)
 
678,779

Revenue not under the guidance of ASC 606:
 

 

 

 
 
 

Lease revenue(1)
 
(3,109
)
 
(12,110
)
 
(4,243
)
 

 
(19,462
)
Losses from futures contracts included in product sales revenue(2)
 
5,465

 
1,910

 

 

 
7,375

Affiliate management fee revenue
 
(297
)
 
(4,016
)
 
(937
)
 

 
(5,250
)
Total revenue from contracts with customers under ASC 606
 
$
495,524

 
$
122,497

 
$
44,336

 
$
(915
)
 
$
661,442


(1) Lease revenue is accounted for under ASC 840, Leases.
(2) The impact on product sales revenue from futures contracts falls under the guidance of ASC 815, Derivatives and Hedging.

Balance Sheet Disclosures

We invoice customers on our pipelines for transportation services when their product enters our system. At each period end, we record all invoiced amounts associated with products that have not yet been delivered (in-transit products) as a contract liability. This liability is presented as deferred revenue on our consolidated balance sheets. Deferred revenue is also recorded for pre-payments received in conjunction with take-or-pay contracts, storage contracts and other service offerings in which the service to our customers remains unfulfilled. Additionally, at each period end, we defer the direct costs we have incurred associated with our customers’ in-transit products, until delivery occurs, as contract assets. Contract assets are presented on our consolidated balance sheets as other current assets. These direct costs are estimated based on our per-barrel direct delivery cost for the current period multiplied by the total in-transit barrels in our system at the end of the period multiplied by 50% to reflect the average transportation costs incurred for all products across all of our pipeline systems. We use 50% of the in-transit barrels because that best represents the average delivery point of all barrels in our pipeline system. These contract assets and contract liabilities are determined using judgments and assumptions that management considers reasonable.


12






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



The following table summarizes our accounts receivable, contract assets and contract liabilities resulting from contracts with customers (in thousands):
 
 
December 31, 2017
 
March 31, 2018
Accounts receivable from contracts with customers
 
$
133,084

 
$
101,064

Contract assets
 
$
8,615

 
$
9,285

Contract liabilities
 
$
104,215

 
$
112,217


For the period ended March 31, 2018, we recognized $55.5 million of transportation and terminals revenue that was recorded in deferred revenue as of December 31, 2017.

Unfulfilled Performance Obligations

We have certain contracts with customers that represent customer commitments to purchase a minimum amount of our services over specified time periods. These contracts require us to provide services to our customers in the future and result in our having unfulfilled performance obligations (“UPOs”) to our customers related to the periods remaining under each contract. We have UPOs in many of our core business services, including transportation, terminalling and storage services. The UPOs will be recognized as revenue in the future as our customers utilize our services or when we estimate that our customers are not likely to use all or a portion of their commitments.

The following table provides the aggregate amount of the transaction price allocated to our UPOs as of March 31, 2018 by operating segment, including the range of years remaining on our contracts with customers and an estimate of revenues expected to be recognized over the next 12 months (dollars in thousands):
 
 
Refined Products
 
Crude Oil
 
Marine Storage
 
Total
Balances at March 31, 2018
 
$
1,345,763

 
$
726,432

 
$
295,845

 
$
2,368,040

Remaining terms
 
1 - 20 years

 
1 - 8 years

 
1 - 6 years

 
 
Estimated revenues from UPOs to be recognized in the next 12 months
 
$
237,444

 
$
224,078

 
$
136,383

 
$
597,905


In computing the value of these future revenues, we have used the current rates in effect as of March 31, 2018 and have not included any estimates for future rate changes due to changes in the FERC index or other contractually negotiated rate escalations. Our UPO balances include the full amount of our customer commitments as of March 31, 2018 through the expiration of the related contracts. The UPO balances disclosed exclude all performance obligations for which the original expected term is one year or less, the consideration is variable and the future use of our services is fully at the discretion of our customers.


3.
Segment Disclosures

Our reportable segments are strategic business units that offer different products and services. Our segments are managed separately as each segment requires different marketing strategies and business knowledge. Management evaluates performance based on segment operating margin, which includes revenue from affiliates and external customers, operating expenses, cost of product sales and earnings of non-controlled entities.
We believe that investors benefit from having access to the same financial measures used by management. Operating margin, which is presented in the following tables, is an important measure used by management to

13






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



evaluate the economic performance of our core operations. Operating margin is not a GAAP measure, but the components of operating margin are computed using amounts that are determined in accordance with GAAP. A reconciliation of operating margin to operating profit, which is its nearest comparable GAAP financial measure, is included in the tables below. Operating profit includes depreciation and amortization expense and G&A expense that management does not consider when evaluating the core profitability of our separate operating segments.

 
Three Months Ended March 31, 2017
 
(in thousands)
 
Refined Products
 
Crude Oil
 
Marine Storage
 
Intersegment
Eliminations
 
Total
Transportation and terminals revenue
$
241,905

 
$
105,053

 
$
46,407

 
$
(694
)
 
$
392,671

Product sales revenue
240,170

 
3,103

 
2,347

 

 
245,620

Affiliate management fee revenue
329

 
3,134

 
320

 

 
3,783

Total revenue
482,404

 
111,290

 
49,074

 
(694
)
 
642,074

Operating expenses
93,533

 
27,418

 
12,655

 
(2,014
)
 
131,592

Cost of product sales
167,681

 
2,577

 
2,618

 

 
172,876

Earnings of non-controlled entities
(111
)
 
(20,650
)
 
(685
)
 

 
(21,446
)
Operating margin
221,301

 
101,945

 
34,486

 
1,320

 
359,052

Depreciation and amortization expense
26,966

 
10,856

 
8,156

 
1,320

 
47,298

G&A expense
24,901

 
10,039

 
5,341

 

 
40,281

Operating profit
$
169,434

 
$
81,050

 
$
20,989

 
$

 
$
271,473

 
 
Three Months Ended March 31, 2018
 
(in thousands)
 
Refined Products
 
Crude Oil
 
Marine Storage
 
Intersegment
Eliminations
 
Total
Transportation and terminals revenue
$
260,394

 
$
126,258

 
$
46,200

 
$
(915
)
 
$
431,937

Product sales revenue
232,774

 
6,439

 
2,379

 

 
241,592

Affiliate management fee revenue
297

 
4,016

 
937

 

 
5,250

Total revenue
493,465

 
136,713

 
49,516

 
(915
)
 
678,779

Operating expenses
94,049

 
33,591

 
17,964

 
(2,308
)
 
143,296

Cost of product sales
190,333

 
7,050

 
2,209

 

 
199,592

Earnings of non-controlled entities
(2,318
)
 
(31,608
)
 
(612
)
 

 
(34,538
)
Operating margin
211,401

 
127,680

 
29,955

 
1,393

 
370,429

Depreciation and amortization expense
28,907

 
12,762

 
8,817

 
1,393

 
51,879

G&A expense
28,887

 
11,906

 
5,763

 

 
46,556

Operating profit
$
153,607

 
$
103,012

 
$
15,375

 
$

 
$
271,994

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

14






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



4.
Investments in Non-Controlled Entities

Our investments in non-controlled entities at March 31, 2018 were comprised of:
Entity
 
Ownership Interest
BridgeTex Pipeline Company, LLC (“BridgeTex”)
 
50%
Double Eagle Pipeline LLC (“Double Eagle”)
 
50%
HoustonLink Pipeline Company, LLC (“HoustonLink”)
 
50%
MVP Terminalling, LLC (“MVP”)
 
50%
Powder Springs Logistics, LLC (“Powder Springs”)
 
50%
Saddlehorn Pipeline Company, LLC (“Saddlehorn”)
 
40%
Seabrook Logistics, LLC (“Seabrook”)
 
50%
Texas Frontera, LLC (“Texas Frontera”)
 
50%

We serve as operator of BridgeTex, HoustonLink, MVP, Powder Springs, Saddlehorn, Texas Frontera and the pipeline activities of Seabrook. We receive fees for management services as well as reimbursement or payment to us for certain direct operational payroll and other overhead costs. The management fees we have received are reported as affiliate management fee revenue on our consolidated statements of income. Cost reimbursements we receive from these entities in connection with our operating services are included as reductions to costs and expenses on our consolidated statements of income and totaled $1.0 million and $0.5 million during the three months ended March 31, 2017 and 2018, respectively.

We recorded the following revenue from certain of these non-controlled entities in our consolidated statements of income (in millions):
 
 
Three Months Ended March 31,
 
 
2017
 
2018
Transportation and terminals revenue:
 
 
 
 
BridgeTex, pipeline capacity
 
$
8.9

 
$
9.9

Double Eagle, throughput revenue
 
$
0.8

 
$
1.5

Saddlehorn, storage revenue
 
$
0.5

 
$
0.5

Product sales revenue:
 
 
 
 
Powder Springs, butane sales
 
$

 
$
2.7



15






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



Our consolidated balance sheets reflected the following balances related to our investments in non-controlled entities (in millions):
 
 
December 31, 2017
 
March 31, 2018
 
 
Trade Accounts Receivable
 
Other Accounts Receivable
 
Other Accounts Payable
 
Trade Accounts Receivable
 
Other Accounts Receivable
BridgeTex
 
$

 
$

 
$

 
$
0.8

 
$
0.1

Double Eagle
 
$
0.5

 
$

 
$

 
$
0.6

 
$

HoustonLink
 
$

 
$

 
$
0.1

 
$

 
$

MVP
 
$

 
$
0.4

 
$

 
$

 
$
0.4

Powder Springs
 
$

 
$
0.9

 
$

 
$

 
$
2.1

Saddlehorn
 
$

 
$
0.1

 
$

 
$

 
$
0.2

Seabrook
 
$

 
$
0.2

 
$

 
$

 
$
0.3


We have entered into an agreement to guarantee our 50% pro rata share, up to $25.0 million, of obligations under Powder Springs’ credit facility. As of March 31, 2018, our consolidated balance sheets reflected a $0.4 million other current liability and a corresponding increase in our investment in non-controlled entities on our consolidated balance sheets to reflect the fair value of this guarantee.

The financial results from MVP and Texas Frontera are included in our marine storage segment, the financial results from BridgeTex, Double Eagle, HoustonLink, Saddlehorn and Seabrook are included in our crude oil segment and the financial results from Powder Springs are included in our refined products segment, each as earnings of non-controlled entities.

A summary of our investments in non-controlled entities follows (in thousands):
 
 
 
Investments at December 31, 2017
 
$
1,082,511

Additional investment
 
60,976

Other adjustment to investment
 
502

Earnings of non-controlled entities:
 
 
Proportionate share of earnings
 
35,140

Amortization of excess investment and capitalized interest
 
(602
)
Earnings of non-controlled entities
 
34,538

Less:
 
 
Distributions of earnings from investments in non-controlled entities
 
51,754

Investments at March 31, 2018
 
$
1,126,773

 
 
 
 


16






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



5.
Inventory

Inventory at December 31, 2017 and March 31, 2018 was as follows (in thousands): 
 
December 31, 2017
 
March 31,
2018
Refined products
$
73,845

 
$
76,416

Liquefied petroleum gases
45,553

 
47,741

Transmix
33,319

 
38,770

Crude oil
23,763

 
27,466

Additives
5,865

 
5,594

Total inventory
$
182,345

 
$
195,987



6.
Employee Benefit Plans

We sponsor a defined contribution plan in which we match our employees' qualifying contributions, resulting in additional expense to us. Expenses related to the defined contribution plan were $3.3 million and $3.8 million for the three months ended March 31, 2017 and 2018, respectively.

Additionally, we sponsor two union pension plans that cover certain union employees, a pension plan for all non-union employees and a postretirement benefit plan for certain employees. Net periodic benefit expense for the three months ended March 31, 2017 and 2018 was as follows (in thousands):
 
 
Three Months Ended
 
Three Months Ended
 
March 31, 2017
 
March 31, 2018
 
Pension
Benefits
 
Other  Postretirement
Benefits
 
Pension
Benefits
 
Other  Postretirement
Benefits
Components of net periodic benefit costs:
 
 
 
 
 
 
 
Service cost
$
5,018

 
$
65

 
$
15,700

 
$
65

Interest cost
2,350

 
122

 
6,443

 
106

Expected return on plan assets
(2,487
)
 

 
(2,978
)
 

Amortization of prior service credit
(45
)
 

 
(45
)
 

Amortization of actuarial loss
1,028

 
200

 
4,954

 
160

Settlement cost
1,365

 

 

 

Net periodic benefit cost
$
7,229

 
$
387

 
$
24,074

 
$
331

  
The service component of our net periodic benefit costs is presented in operating expense and G&A expense, and the non-service components are presented in other expense in our consolidated statements of income.

17






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



The changes in AOCL related to employee benefit plan assets and benefit obligations for the three months ended March 31, 2017 and 2018 were as follows (in thousands):
 
 
Three Months Ended
 
Three Months Ended
 
 
March 31, 2017
 
March 31, 2018
Gains (Losses) Included in AOCL
 
Pension Benefits
 
Other Postretirement Benefits
 
Pension Benefits
 
Other Postretirement Benefits
Beginning balance
 
$
(58,584
)
 
$
(7,881
)
 
$
(97,226
)
 
$
(6,597
)
Net actuarial loss
 

 

 
(5,944
)
 

Amortization of prior service credit
 
(45
)
 

 
(45
)
 

Amortization of actuarial loss
 
1,028

 
200

 
4,954

 
160

Settlement cost
 
1,365

 

 

 

Ending balance
 
$
(56,236
)
 
$
(7,681
)
 
$
(98,261
)
 
$
(6,437
)
 
 
 
 
 
 
 
 
 
The net periodic benefit costs and AOCL presented in the tables above include one-time corrections made in the first quarter of 2018 resulting from an error in our third-party actuary’s valuation of our pension liabilities and net periodic pension expenses. See Note 1 – Organization, Description of Business and Basis of Presentation for more details regarding this error correction.

Contributions estimated to be paid into the plans in 2018 are $31.7 million and $0.2 million for the pension plans and other postretirement benefit plan, respectively.



18






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



7.
Debt
Long-term debt at December 31, 2017 and March 31, 2018 was as follows (in thousands):
 
 
December 31,
2017
 
March 31,
2018
Commercial paper
 
$

 
$

6.40% Notes due 2018
 
250,000

 
250,000

6.55% Notes due 2019
 
550,000

 
550,000

4.25% Notes due 2021
 
550,000

 
550,000

3.20% Notes due 2025
 
250,000

 
250,000

5.00% Notes due 2026
 
650,000

 
650,000

6.40% Notes due 2037
 
250,000

 
250,000

4.20% Notes due 2042
 
250,000

 
250,000

5.15% Notes due 2043
 
550,000

 
550,000

4.20% Notes due 2045
 
250,000

 
250,000

4.25% Notes due 2046
 
500,000

 
500,000

4.20% Notes due 2047
 
500,000

 
500,000

Face value of long-term debt
 
4,550,000

 
4,550,000

Unamortized debt issuance costs(1)
 
(29,472
)
 
(28,972
)
Net unamortized debt premium (discount)(1)
 
215

 
(554
)
Net unamortized amount of gains from historical fair value hedges(1)
 
3,749

 
2,784

Long-term debt, net, including current portion
 
4,524,492

 
4,523,258

Less: Current portion of long-term debt, net
 
250,974

 
250,511

Long-term debt, net
 
$
4,273,518

 
$
4,272,747

 
 
 
 
 

(1) Debt issuance costs, note discounts and premiums and realized gains and losses of historical fair value hedges are being amortized or accreted to the applicable notes over the respective lives of those notes.

All of the instruments detailed in the table above are senior indebtedness.

Other Debt

Revolving Credit Facilities. At March 31, 2018, the total borrowing capacity under our revolving credit facility maturing October 26, 2022 was $1.0 billion. Any borrowings outstanding under this facility are classified as long-term debt on our consolidated balance sheets. Borrowings under this facility are unsecured and bear interest at LIBOR plus a spread ranging from 1.000% to 1.625% based on our credit ratings. Additionally, an unused commitment fee is assessed at a rate between 0.100% and 0.275% depending on our credit ratings. The unused commitment fee was 0.125% at March 31, 2018. Borrowings under this facility may be used for general partnership purposes, including capital expenditures. As of both December 31, 2017 and March 31, 2018, there were no borrowings outstanding under this facility, with $6.3 million obligated for letters of credit. Amounts obligated for letters of credit are not reflected as debt on our consolidated balance sheets, but decrease our borrowing capacity under this facility.

Commercial Paper Program. We have a commercial paper program under which we may issue commercial paper notes in an amount up to the available capacity under our $1.0 billion revolving credit facility. The maturities of the commercial paper notes vary, but may not exceed 397 days from the date of issuance. Because the commercial paper we can issue is limited to amounts available under our revolving credit facility, amounts outstanding under the program are classified as long-term debt. The commercial paper notes are sold under customary terms in the commercial paper market and are issued at a discount from par, or alternatively, are sold at

19






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



par and bear varying interest rates on a fixed or floating basis. The weighted-average interest rate for commercial paper borrowings based on the number of days outstanding was 1.3% for the year ended December 31, 2017 and 1.9% for the three months ended March 31, 2018.


8.
Derivative Financial Instruments

Interest Rate Derivatives

We periodically enter into interest rate derivatives to hedge the fair value of debt or hedge against variability in interest rates. We record any ineffectiveness on interest rate derivatives designated as hedging instruments to interest expense and the change in fair value of interest rate derivatives that we do not designate as hedging instruments to other income or expense in our results of operations. For the effective portion of interest rate cash flow hedges, we record the noncurrent portion of unrealized gains or losses as an adjustment to other comprehensive income with the current portion recorded as an adjustment to interest expense. For the effective portion of fair value hedges on long-term debt, we record the noncurrent portion of gains or losses as an adjustment to long-term debt with the current portion recorded as an adjustment to interest expense. Adjustments resulting from discontinued hedges continue to be recognized in accordance with their historic hedging relationships.

We have entered into $100.0 million of forward-starting interest rate swap agreements to hedge against the risk of variability of future interest payments on a portion of debt we anticipate issuing in 2018. The fair values of these contracts at March 31, 2018 were recorded on our balance sheets as other current assets of $17.6 million, with the offset recorded to other comprehensive income. We account for these agreements as cash flow hedges.

Commodity Derivatives

Our butane blending activities produce gasoline, and we can reasonably estimate the timing and quantities of sales of these products. We use a combination of exchange-traded commodities futures contracts and forward purchase and sale contracts to help manage commodity price changes and mitigate the risk of decline in the product margin realized from our butane blending activities. Further, certain of our other commercial operations generate petroleum products, and we also use futures contracts to hedge against price changes for some of these commodities.

Forward physical purchase and sale contracts that qualify for and are elected as normal purchases and sales are accounted for using traditional accrual accounting, whereby changes in the mark-to-market values of such contracts are not recognized in income; rather the revenues and expenses associated with such transactions are recognized during the period when commodities are physically delivered or received. Physical forward commodity contracts subject to this exception are evaluated for the probability of future delivery and are periodically tested once the forecasted period has passed to determine whether similar forward contracts are probable of physical delivery in the future.

We record the effective portion of the gains or losses for commodity-based contracts designated as fair value hedges as adjustments to the assets being hedged and the ineffective portions as well as amounts excluded from the assessment of hedge effectiveness as adjustments to other income or expense. We recognize the change in fair value of economic hedges that hedge against changes in the price of petroleum products that we expect to sell or purchase in the future currently in earnings as adjustments to product sales revenue, cost of product sales or operating expenses, as applicable.


20






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



Our open futures contracts at March 31, 2018 were as follows:
Type of Contract/Accounting Methodology
 
Product Represented by the Contract and Associated Barrels
 
Maturity Dates
Futures - Economic Hedges
 
4.1 million barrels of refined products and crude oil
 
Between April 2018 and April 2019
Futures - Economic Hedges
 
1.0 million barrels of butane and natural gasoline
 
Between April 2018 and April 2019

Energy Commodity Derivatives Contracts and Deposits Offsets

At December 31, 2017 and March 31, 2018, we had margin deposits of $36.7 million and $26.6 million, respectively, for our future contracts with our counterparties, which were recorded as current assets under energy commodity derivatives deposits on our consolidated balance sheets. We have the right to offset the combined fair values of our open futures contracts against our margin deposits under a master netting arrangement for each counterparty; however, we have elected to present the combined fair values of our open futures contracts separately from the related margin deposits on our consolidated balance sheets. Additionally, we have the right to offset the fair values of our futures contracts together for each counterparty, which we have elected to do, and we report the combined net balances on our consolidated balance sheets. A schedule of the derivative amounts we have offset and the deposit amounts we could offset under a master netting arrangement are provided below as of December 31, 2017 and March 31, 2018 (in thousands):
Description
 
Gross Amounts of Recognized Liabilities
 
Gross Amounts of Assets Offset in the Consolidated Balance Sheets
 
Net Amounts of Liabilities Presented in the Consolidated Balance Sheets(2)
 
Margin Deposit Amounts Not Offset in the Consolidated Balance Sheets
 
Net Asset Amount(1)
As of December 31, 2017
 
$
(38,936
)
 
$
12,851

 
$
(26,085
)
 
$
36,690

 
$
10,605

As of March 31, 2018
 
$
(17,477
)
 
$
872

 
$
(16,605
)
 
$
26,593

 
$
9,988

 
 
 
 
 
 
 
 
 
 
 
(1)
Amount represents the maximum loss we would incur if all of our counterparties failed to perform on their derivative contracts.
(2)
Net amount includes energy commodity derivative contracts classified as current liabilities of $25,694 and noncurrent liabilities of $391 at December 31, 2017. Net amount includes energy commodity derivative contracts classified as current liabilities of $16,289 and noncurrent liabilities of $316 at March 31, 2018.

Impact of Derivatives on Our Financial Statements

Comprehensive Income

The changes in derivative activity included in accumulated other comprehensive loss (“AOCL”) for the three months ended March 31, 2017 and 2018 were as follows (in thousands):
 
 
Three Months Ended
 
March 31,
Derivative Losses Included in AOCL
2017
 
2018
Beginning balance
$
(34,776
)
 
$
(33,755
)
Net gain on cash flow hedges
1,295

 
5,414

Reclassification of net loss on cash flow hedges to income
740

 
740

Ending balance
$
(32,741
)
 
$
(27,601
)


21






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



The following is a summary of the effect on our consolidated statements of income for the three months ended March 31, 2017 and 2018 of derivatives that were designated as cash flow hedges (in thousands):
 
 
Interest Rate Contracts
 
 
Amount of Loss Recognized in AOCL on Derivative
 
Location of Loss Reclassified from AOCL into  Income
 
Amount of Loss Reclassified from AOCL into Income
Three Months Ended March 31, 2017
 
$
1,295

 
Interest expense
 
$
(740
)
Three Months Ended March 31, 2018
 
$
5,414

 
Interest expense
 
$
(740
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
As of March 31, 2018, the net loss estimated to be classified to interest expense over the next twelve months from AOCL is approximately $3.0 million. This amount relates to the amortization of losses on interest rate swap contracts over the life of the related debt instruments.

We use futures contracts designated as fair value hedges to hedge against changes in the fair value of crude oil that was contractually reserved as tank bottoms and included with other noncurrent assets on our consolidated balance sheets. During September 2017, as a result of contract renegotiations, we sold a portion of the tank bottoms, settled the related hedges and transferred the permanent portion of the tank bottoms from noncurrent assets to PP&E. The effective portions of the fair value gains or losses on these futures contracts were offset by fair value gains or losses on the crude oil, and there was no ineffectiveness recognized. The cash flows from settled contracts were recorded in operating activities in our consolidated statements of cash flows. The gains (losses) on these futures contracts and the underlying crude oil were as follows (in thousands):
 
 
Three Months Ended March 31,
 
 
2017
 
2018
Gain (loss) recognized in other income/expense on derivatives (futures contracts)
 
$
3,398

 
(181
)
Gain (loss) recognized in other income/expense on hedged item (crude oil)
 
$
(3,398
)
 
181

 
 
 
 
 

The differential between the current spot price and forward price was excluded from the assessment of hedge effectiveness for these fair value hedges. For the three months ended March 31, 2017, we recognized a gain of $1.4 million for the amounts we excluded from the assessment of effectiveness of these fair value hedges, which we reported as other (income) expense on our consolidated statements of income.
The following table provides a summary of the effect on our consolidated statements of income for the three months ended March 31, 2017 and 2018 of derivatives accounted for as economic hedges (in thousands):
 
 
 
 
Amount of Gain (Loss) Recognized on Derivatives
 
 
 
 
Three Months Ended
 
 
Location of Gain (Loss)
Recognized on Derivatives
 
March 31,
Derivative Instrument
 
 
2017
 
2018
Futures contracts
 
Product sales revenue
 
$
28,680

 
$
(7,375
)
Futures contracts
 
Cost of product sales
 
1,237

 
(3,944
)
 
 
Total
 
$
29,917

 
$
(11,319
)

22






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



The impact of the derivatives in the above table was reflected as cash from operations on our consolidated statements of cash flows.
Balance Sheets
The following tables provide a summary of the fair value of derivatives, which are presented on a net basis in our consolidated balance sheets, that were designated as hedging instruments as of December 31, 2017 and March 31, 2018 (in thousands):
 
 
December 31, 2017
 
 
Asset Derivatives
 
Liability Derivatives
Derivative Instrument
 
Balance Sheet Location
 
Fair Value
 
Balance Sheet Location
 
Fair Value
Futures contracts
 
Energy commodity derivatives contracts, net
 
$

 
Energy commodity derivatives contracts, net
 
$
173

Interest rate contracts
 
Other current assets
 
12,177

 
Other current liabilities
 

 
 
Total
 
$
12,177

 
Total
 
$
173

 
 
 
March 31, 2018
 
 
Asset Derivatives
 
Liability Derivatives
Derivative Instrument
 
Balance Sheet Location
 
Fair Value
 
Balance Sheet Location
 
Fair Value
Futures contracts
 
Energy commodity derivatives contracts, net
 
$

 
Energy commodity derivatives contracts, net
 
$
354

Interest rate contracts
 
Other current assets
 
17,591

 
Other current liabilities
 

 
 
Total
 
$
17,591

 
Total
 
$
354

 
The following tables provide a summary of the fair value of derivatives, which are presented on a net basis in our consolidated balance sheets, that were not designated as hedging instruments as of December 31, 2017 and March 31, 2018 (in thousands):
 
 
December 31, 2017
 
 
Asset Derivatives
 
Liability Derivatives
Derivative Instrument
 
Balance Sheet Location
 
Fair Value
 
Balance Sheet Location
 
Fair Value
Futures contracts
 
Energy commodity derivatives contracts, net
 
$
12,605

 
Energy commodity derivatives contracts, net
 
$
38,126

Futures contracts
 
Other noncurrent assets
 
246

 
Other noncurrent liabilities
 
637

 
 
Total
 
$
12,851

 
Total
 
$
38,763

 
 
 
 
 
 
 
 
 
 
 
March 31, 2018
 
 
Asset Derivatives
 
Liability Derivatives
Derivative Instrument
 
Balance Sheet Location
 
Fair Value
 
Balance Sheet Location
 
Fair Value
Futures contracts
 
Energy commodity derivatives contracts, net
 
$
872

 
Energy commodity derivatives contracts, net
 
$
16,807

Futures contracts
 
Other noncurrent assets
 

 
Other noncurrent liabilities
 
316

 
 
Total
 
$
872

 
Total
 
$
17,123

 


23






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



9.
Commitments and Contingencies

Environmental Liabilities

Liabilities recognized for estimated environmental costs were $19.3 million and $18.9 million at December 31, 2017 and March 31, 2018, respectively. We have classified environmental liabilities as current or noncurrent based on management’s estimates regarding the timing of actual payments. Environmental expenses recognized as a result of changes in our environmental liabilities are generally included in operating expenses on our consolidated statements of income. Environmental expenses were $4.3 million and $2.5 million for the three months ended March 31, 2017 and 2018, respectively.

Environmental Receivables

Receivables from insurance carriers and other third parties related to environmental matters were $7.2 million at December 31, 2017, of which $0.5 million and $6.7 million were recorded to other accounts receivable and long-term receivables, respectively, on our consolidated balance sheets. Receivables from insurance carriers and other third parties related to environmental matters were $4.8 million at March 31, 2018, of which $1.0 million and $3.8 million were recorded to other accounts receivable and long-term receivables, respectively, on our consolidated balance sheets.

Other

See Note 4 – Investments in Non-Controlled Entities for detail of our guarantee on behalf of Powder Springs.

We are a party to various other claims, legal actions and complaints arising in the ordinary course of business. While the results cannot be predicted with certainty, management believes the ultimate resolution of these claims, legal actions and complaints after consideration of amounts accrued, insurance coverage or other indemnification arrangements will not have a material adverse effect on our results of operations, financial position or cash flows.


10.
Long-Term Incentive Plan
The compensation committee of our general partner’s board of directors administers our long-term incentive plan (“LTIP”) covering certain of our employees and the independent directors of our general partner. The LTIP primarily consists of phantom units and permits the grant of awards covering an aggregate payout of 11.9 million of our limited partner units. The estimated units remaining available under the LTIP at March 31, 2018 total 2.1 million.
 

24






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



Our equity-based incentive compensation expense was as follows (in thousands):
 
 
Three Months Ended March 31,
 
 
2017
 
2018
Performance-based awards
 
$
3,481

 
$
5,924

Time-based awards
 
666

 
708

Total
 
$
4,147

 
$
6,632

 
 
 
 
 
Allocation of LTIP expense on our consolidated statements of income:
G&A expense
 
$
4,118

 
$
6,577

Operating expense
 
29

 
55

Total
 
$
4,147

 
$
6,632


On February 1, 2018, 294,054 unit awards were issued pursuant to our LTIP. These grants included both performance-based and time-based awards and have a three-year vesting period that will end on December 31, 2020.

Basic and Diluted Net Income Per Limited Partner Unit

The difference between our actual limited partner units outstanding and our weighted-average number of limited partner units outstanding used to calculate basic net income per unit is due to the impact of: (i) the unit awards issued to non-employee directors and (ii) the weighted average effect of units actually issued during a period.  The difference between the weighted-average number of limited partner units outstanding used for basic and diluted net income per unit calculations on our consolidated statements of income is primarily the dilutive effect of unit awards associated with our LTIP that have not yet vested.



25






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



11.
Partners’ Capital and Distributions

Partners’ Capital

In May 2017, we filed a prospectus supplement to the shelf registration statement for our continuous equity offering program (which we refer to as an at-the-market program, or “ATM”) pursuant to which we may issue up to $750.0 million of common units in amounts, at prices and on terms to be determined by market conditions at the time. The net proceeds from any sales under the ATM, after deducting the sales agents’ commissions and our offering expenses, will be used for general partnership purposes, including repayment of indebtedness or capital expenditures. No units have been issued pursuant to this program.

The following table details the changes in the number of our limited partner units outstanding from January 1, 2018 through March 31, 2018:

Limited partner units outstanding on January 1, 2018
 
228,024,556

January 2018–Settlement of employee LTIP awards
 
168,913

During 2018–Other(a)
 
1,691

Limited partner units outstanding on March 31, 2018
 
228,195,160

 
 
 
(a) Limited partner units issued to settle the equity-based retainer paid to an independent director of our general partner.

Distributions

Distributions we paid during 2017 and 2018 were as follows (in thousands, except per unit amounts):
 
Payment Date
 
Per Unit Cash
Distribution
Amount
 
Total Cash Distribution to Limited Partners
02/14/2017
 
 
$
0.8550

 
 
 
$
194,961

 
05/15/2017
 
 
0.8725

 
 
 
198,951

 
08/14/2017
 
 
0.8900

 
 
 
202,942

 
11/14/2017
 
 
0.9050

 
 
 
206,362

 
Total
 
 
$
3.5225

 
 
 
$
803,216

 
 
 
 
 
 
 
 
 
 
02/14/2018
 
 
$
0.9200

 
 
 
$
209,940

 
05/15/2018(a)
 
 
0.9375

 
 
 
213,933

 
Total
 
 
$
1.8575

 
 
 
$
423,873

 
 
 
 
 
 
 
 
 
 
(a) Our general partner’s board of directors declared this cash distribution in April 2018 to be paid on May 15, 2018 to unitholders of record at the close of business on May 8, 2018.



26






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)



12.
Fair Value

Fair Value Methods and Assumptions - Financial Assets and Liabilities.

We used the following methods and assumptions in estimating fair value of our financial assets and liabilities:

Energy commodity derivatives contracts. These include exchange-traded futures contracts related to petroleum products. These contracts are carried at fair value on our consolidated balance sheets and are valued based on quoted prices in active markets. See Note 8 – Derivative Financial Instruments for further disclosures regarding these contracts.

Interest rate contracts. These include forward-starting interest rate swap agreements to hedge against the risk of variability of interest payments on future debt. These contracts are carried at fair value on our consolidated balance sheets and are valued based on an assumed exchange, at the end of each period, in an orderly transaction with a market participant in the market in which the financial instrument is traded. The exchange value was calculated using present value techniques on estimated future cash flows based on forward interest rate curves. See Note 8 – Derivative Financial Instruments for further disclosures regarding these contracts.

Long-term receivables. These primarily include payments receivable under a direct-financing leasing arrangement and cost reimbursement payments receivable. These receivables were recorded at fair value on our consolidated balance sheets, using then-current market rates to estimate the present value of future cash flows.

Debt. The fair value of our publicly traded notes was based on the prices of those notes at December 31, 2017 and March 31, 2018; however, where recent observable market trades were not available, prices were determined using adjustments to the last traded value for that debt issuance or by adjustments to the prices of similar debt instruments of peer entities that are actively traded. The carrying amount of borrowings, if any, under our revolving credit facility and our commercial paper program approximates fair value due to the frequent repricing of these obligations.

Fair Value Measurements - Financial Assets and Liabilities

The following tables summarize the carrying amounts, fair values and fair value measurements recorded or disclosed as of December 31, 2017 and March 31, 2018 based on the three levels established by ASC 820, Fair Value Measurements and Disclosures (in thousands):
 
 
December 31, 2017
Assets (Liabilities)
 
 
 
 
 
Fair Value Measurements using:
 
Carrying Amount
 
Fair Value
 
Quoted Prices  in Active Markets
for Identical
Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Energy commodity derivatives contracts
 
$
(26,085
)
 
$
(26,085
)
 
$
(26,085
)
 
$

 
$

Interest rate contracts
 
$
12,177

 
$
12,177

 
$

 
$
12,177

 
$

Long-term receivables
 
$
27,676

 
$
27,676

 
$

 
$

 
$
27,676

Debt
 
$
(4,524,492
)
 
$
(4,826,480
)
 
$

 
$
(4,826,480
)
 
$


27






MAGELLAN MIDSTREAM PARTNERS, L.P.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)




 
 
March 31, 2018
Assets (Liabilities)
 
 
 
 
 
Fair Value Measurements using:
 
Carrying Amount
 
Fair Value
 
Quoted Prices in Active Markets
for Identical
Assets
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Energy commodity derivatives contracts
 
$
(16,605
)
 
$
(16,605
)
 
$
(16,605
)
 
$

 
$

Interest rate contracts
 
$
17,591

 
$
17,591

 
$

 
$
17,591

 
$

Long-term receivables
 
$
24,124

 
$
24,124

 
$

 
$

 
$
24,124

Debt
 
$
(4,523,258
)
 
$
(4,696,135
)
 
$

 
$
(4,696,135
)
 
$



13.
Related Party Transactions

Stacy P. Methvin is an independent member of our general partner’s board of directors and is also a director of one of our customers.  We received tariff revenue from this customer of $4.1 million and $3.8 million for the three months ended March 31, 2017 and 2018, respectively. We recorded receivables of $1.6 million and $2.0 million from this customer at December 31, 2017 and March 31, 2018, respectively.  The tariff revenue we recognized from this customer was in the normal course of business, with rates determined in accordance with published tariffs. 

See Note 4 – Investments in Non-Controlled Entities for a discussion of transactions with our joint ventures.


14.
Subsequent Events

Recognizable events

No recognizable events occurred subsequent to March 31, 2018.

Non-recognizable events

Cash Distribution. In April 2018, our general partner’s board of directors declared a quarterly distribution of $0.9375 per unit for the period of January 1, 2018 through March 31, 2018. This quarterly cash distribution will be paid on May 15, 2018 to unitholders of record on May 8, 2018. The total cash distributions expected to be paid under this declaration are approximately $213.9 million.



28




ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Introduction

We are a publicly traded limited partnership principally engaged in the transportation, storage and distribution of refined petroleum products and crude oil. Our three operating segments including the assets of our joint ventures include:
our refined products segment, comprised of our 9,700-mile refined products pipeline system with 53 terminals as well as 26 independent terminals not connected to our pipeline system and our 1,100-mile ammonia pipeline system;

our crude oil segment, comprised of approximately 2,200 miles of crude oil pipelines, our condensate splitter and storage facilities with an aggregate storage capacity of approximately 28 million barrels, of which approximately 17 million barrels are used for contract storage; and

our marine storage segment, consisting of five marine terminals located along coastal waterways with an aggregate storage capacity of approximately 26 million barrels.

The following discussion provides an analysis of the results for each of our operating segments, an overview of our liquidity and capital resources and other items related to our partnership. The following discussion and analysis should be read in conjunction with (i) our accompanying interim consolidated financial statements and related notes and (ii) our consolidated financial statements, related notes and management’s discussion and analysis of financial condition and results of operations included in our Annual Report on Form 10-K for the year ended December 31, 2017.


Recent Developments

Cash Distribution. In April 2018, the board of directors of our general partner declared a quarterly cash distribution of $0.9375 per unit for the period of January 1, 2018 through March 31, 2018. This quarterly cash distribution will be paid on May 15, 2018 to unitholders of record on May 8, 2018. Total distributions expected to be paid under this declaration are approximately $213.9 million.


Results of Operations

Non-GAAP Metrics. We believe that investors benefit from having access to the same financial measures utilized by management. Operating margin, which is presented in the following table, is an important measure used by management to evaluate the economic performance of our core operations. Operating margin is not a generally accepted accounting principles (“GAAP”) measure, but the components of operating margin are computed using amounts that are determined in accordance with GAAP. A reconciliation of operating margin to operating profit, which is its nearest comparable GAAP financial measure, is included in the following table. Operating profit includes expense items, such as depreciation and amortization expense and general and administrative (“G&A”) expense, which management does not focus on when evaluating the core profitability of our separate operating segments.


29




Additionally, product margin, which management primarily uses to evaluate the profitability of our commodity-related activities, is provided in this table. Product margin is a non-GAAP measure; however, its components of product sales and cost of product sales are determined in accordance with GAAP. Our butane blending, fractionation and other commodity-related activities generate significant revenue. We believe the product margin from these activities, which takes into account the related cost of product sales, better represents its importance to our results of operations.

One-Time Pension Correction. In first-quarter 2018, an error was discovered in our third-party actuary’s valuation of our pension liabilities and net periodic pension expenses dating back to 2010. The impacts of the error were not material to any of our prior period financial statements and have been corrected in the current period. As a result, our first-quarter 2018 financial results discussed below include a one-time $16.0 million pension correction, which included a $5.7 million increase to operating expenses, $3.4 million increase to G&A costs and $6.9 million increase to other expense below operating profit. See Note 1 – Organization, Description of Business and Basis of Presentation in Item 1 of Part I of this report for further information.
 

30





Three Months Ended March 31, 2017 compared to Three Months Ended March 31, 2018
 
Three Months Ended March 31,
 
Variance
Favorable  (Unfavorable)
 
2017
 
2018
 
$ Change
 
% Change
Financial Highlights ($ in millions, except operating statistics)
 
 
 
 
 
 
 
Transportation and terminals revenue:
 
 
 
 
 
 
 
Refined products
$
241.9

 
$
260.4

 
$
18.5

 
8
Crude oil
105.1

 
126.3

 
21.2

 
20
Marine storage
46.4

 
46.2

 
(0.2
)
 
Intersegment eliminations
(0.7
)
 
(1.0
)