STAR GROUP, L.P. — Interim / Quarterly Report 2001

May 10, 2001

UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2001 -------------- 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 Number: 33-98490 -------- STAR GAS PARTNERS, L.P. ----------------------- (Exact name of registrant as specified in its charter) Delaware 06-1437793 - -------- ------------------------------------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 2187 Atlantic Street, Stamford, Connecticut 06902 - -------------------------------------------------------------------------------- (Address of principal executive office) (203) 328-7300 - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) - -------------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) 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 the number of shares outstanding of each issuer's classes of common stock, as of May 3, 2001: 19,724,967 Common Units 2,696,946 Senior Subordinated Units 345,364 Junior Subordinated Units 325,729 General Partner Units STAR GAS PARTNERS, L.P. AND SUBSIDIARIES INDEX TO FORM 10-Q

2 STAR GAS PARTNERS, L.P. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands)

See accompanying notes to condensed consolidated financial statements. 3 STAR GAS PARTNERS, L.P. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)

See accompanying notes to condensed consolidated financial statements. 4 STAR GAS PARTNERS, L.P. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (unaudited)

See accompanying notes to condensed consolidated financial statements. 5 STAR GAS PARTNERS, L.P. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF PARTNERS' CAPITAL (unaudited) (in thousands, except per unit amounts)

See accompanying notes to condensed consolidated financial statements. 6 STAR GAS PARTNERS, L.P. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)

See accompanying notes to condensed consolidated statements. 7 STAR GAS PARTNERS, L.P. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1) Partnership Organization Star Gas Partners, L.P. ("Star Gas Partners" or the "Partnership") is a diversified home energy distributor and services provider, specializing in heating oil, propane, natural gas and electricity. Star Gas Partners is a Master Limited Partnership that at March 31, 2001 had 19.7 million common limited partner units (trading symbol "SGU" representing a 85.4% limited partner interest in Star Gas Partners) and 2.7 million senior subordinated units (trading symbol "SGH" representing an 11.7% limited partnership interest in Star Gas Partners) which are traded on the New York Stock Exchange. Additional interest in Star Gas Partners are represented by 0.3 million junior subordinated units (representing a 1.5% limited partner interest in Star Gas Partners) and 0.3 million general partner units (representing a 1.4% general partner interest in Star Gas Partners). Operationally the Partnership is organized as follows: . Petro Holdings, Inc. ("Petro" or the "heating oil segment"), is the nation's largest retail distributor of home heating oil and serves approximately 385,000 customers in the Northeast and Mid-Atlantic. Petro is an indirect wholly owned subsidiary of Star Gas Propane, L.P. . Star Gas Propane, L.P., ("Star Gas Propane" or the "propane segment") is a wholly owned subsidiary of Star Gas Partners. Star Gas Propane markets and distributes propane gas and related products to more than 260,000 customers in the Midwest, Northeast, Florida and Georgia. . Total Gas and Electric ("TG&E" or the "natural gas and electric reseller segment") is an energy reseller that markets natural gas and electricity to residential homeowners in deregulated energy markets in the Northeast and Mid- Atlantic states of New York, New Jersey, Pennsylvania, Maryland and Florida and serves approximately 100,000 residential customers. TG&E is a 72.7% owned subsidiary of Star Gas Partners. 2) Summary of Significant Accounting Policies Basis of Presentation The Consolidated Financial Statements for the period October 1, 1999 through April 6, 2000 include the accounts of Star Gas Partners, L.P., and subsidiaries, principally Petro and Star Gas Propane. Beginning April 7, 2000, the Consolidated Financial Statements also include the accounts and results of operations of TG&E and reflect the amounts related to the 27.3% minority interest holder. The financial information included herein is unaudited; however, such information reflects all adjustments (consisting solely of normal recurring adjustments) which are, in the opinion of management, necessary for the fair statement of financial condition and results for the interim periods. The results of operations for the three and six month periods ended March 31, 2001 are not necessarily indicative of the results to be expected for the full year. Inventories Inventories are stated at the lower of cost or market and are computed on a first-in, first-out basis. At the dates indicated, the components of inventory were as follows:

8 2) Summary of Significant Accounting Policies - (continued) Accounting Changes In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard No. 133 "Accounting for Derivative Instruments and Hedging Activities" (SFAS No. 133) as amended by SFAS No. 137 and No. 138. SFAS No. 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and hedging activities. It requires the recognition of all derivative instruments as assets or liabilities in the Partnership's balance sheet and measurement of those instruments at fair value and requires that a company formally document, designate and assess the effectiveness of transactions that receive hedge accounting. The accounting treatment of changes in fair value is dependent upon whether or not a derivative instrument is designated as a hedge, and if so, the type of hedge. For derivatives designated as Cash Flow Hedges, changes in fair value are recognized in other comprehensive income until the hedged item is recognized in earnings. For derivatives recognized as Fair Value Hedges, changes in fair value are recognized in the income statement and are offset by related changes in the fair value of the item hedged. Changes in the fair value of derivative instruments, which are not designated as hedges or which do not qualify for hedge accounting are recognized currently in earnings. The Partnership periodically hedges a portion of its oil, propane and natural gas purchases through the use of futures, options, collars and swap agreements. The purpose of the hedges is to provide a measure of price stability in the volatile market of oil, propane and natural gas and to manage its exposure to commodity price risk under certain existing sales commitments. The Partnership also has derivative agreements that management has decided not to treat as hedge transactions for accounting purposes and as such, mark-to-market adjustments are recognized currently in earnings. The Partnership adopted SFAS No. 133 on October 1, 2000, and records its derivatives at fair market value. As a result of adopting the Standard, the Partnership recognized current assets of $12.0 million, a $1.5 million increase in net income and a $10.5 million increase in additional other comprehensive income which were recorded as cumulative effect of a change in accounting principle. For the three and six month period ended March 31, 2001, the Partnership recorded a net decrease to other comprehensive income of $3.7 million and $10.4 million respectively, representing in part cash flow hedges reclassified into earnings totaling $1.9 million and $2.3 million for the three and six month period ended March 31, 2001, respectively. The estimated net amount of existing unrealized gains currently within other comprehensive income are expected to be reclassified into earnings within the next twelve months. 3) Long-term Debt On October 25, 2000, the heating oil division completed a refinancing of $40 million of indebtedness incurred under its bank acquisition facility through the issuance of senior notes. The senior notes bear an average interest rate of 8.96% per year, have an average life of five and three- quarter years and are guaranteed by Star Gas Partners. The first maturity date of the senior notes is November 1, 2004 with a final maturity date of November 1, 2010. On March 29, 2001, the propane division issued $29.5 million of senior notes to refinance $25.0 million of indebtedness incurred under its bank acquisition facility. The balance of the proceeds, $4.5 million, will be used to fund future acquisition activity and to refinance maturities of senior notes. The senior notes bear an average interest rate of 7.89% per year and have an average life of nine years. The senior notes require two equal prepayments of $2.5 million on April 1, 2006 and April 1, 2007. The first maturity date of these notes is April 1, 2008 with a final maturity date of April 1, 2011. In March 2001, the natural gas and electric reseller segment replaced its existing revolving credit facility with a new revolving credit facility comprised of a $15.4 million working capital facility and a $3.0 million acquisition facility. 9 4) Segment Reporting In accordance with SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information", the Partnership has four reportable segments, a retail distributor of heating oil, a retail distributor of propane, a reseller of natural gas and electricity and the public master limited partnership, Star Gas Partners. Management has chosen to organize the enterprise under these four segments in order to leverage the expertise it has in each industry, allow each segment to continue to strengthen its core competencies and provide a clear means for evaluation of operating results. The heating oil segment is primarily engaged in the retail distribution of home heating oil, related equipment services, and equipment sales to residential and commercial customers. It operates primarily in the Northeast and Mid-Atlantic states. Home heating oil is principally used by the Partnership's residential and commercial customers to heat their homes and buildings, and as a result, weather conditions have a significant impact on the demand for home heating oil. The propane segment is primarily engaged in the retail distribution of propane and related supplies and equipment to residential, commercial, industrial, agricultural and motor fuel customers, in the Midwest, Northeast, Florida and Georgia. Propane is used primarily for space heating, water heating and cooking by the Partnership's residential and commercial customers and as a result, weather conditions also have a significant impact on the demand for propane. The natural gas and electric reseller segment is primarily engaged in offering natural gas and electricity to residential consumers in deregulated energy markets. In deregulated energy markets customers have a choice in selecting energy suppliers to power and / or heat their homes. As a result, a significant portion of this segment's revenue is directly related to weather conditions. TG&E operates in nine markets in the Northeast, Mid-Atlantic states and Florida where competition for energy suppliers range from independent resellers, like TG&E, to large public utilities. The public master limited partnership segment includes the office of the Chief Executive Officer and has the responsibility for maintaining investor relations and investor reporting for the Partnership. The following are the statements of operations and balance sheets for each segment as of and for the periods indicated. The electric and natural gas reselling segment was added beginning April 7, 2000. There were no inter- segment sales. 10 4) Segment Reporting - (continued)

11 4) Segment Reporting - (continued)

12 4) Segment Reporting - (continued)

(1) The consolidated amounts include the necessary entries to eliminate the investment in Petro Holdings, Star Gas Propane and TG&E. 13 5) Acquisitions During the six-month period ending March 31, 2001, the Partnership acquired six unaffiliated retail heating oil dealers and four unaffiliated retail propane dealers. The aggregate consideration for these acquisitions accounted for by the purchase method of accounting was approximately $70.2 million. Purchase prices have been allocated to the acquired assets and liabilities based on their respective fair market values on the dates of acquisition. The purchase prices in excess of the fair values of net assets acquired were classified as intangibles in the Condensed Consolidated Balance Sheets. The following table indicates the allocation of the aggregate purchase price paid for these acquisitions and the respective periods of amortization assigned: (in thousands) Useful Lives ------------ Land $ 2,032 - Buildings 1,523 30 years Furniture & fixtures 532 10 years Fleet 5,900 5 - 30 years Tanks and equipment 21,579 5 - 30 years Customer lists 20,935 7 - 15 years Restrictive covenants 2,860 5 years Goodwill 8,224 25 years Working capital 6,625 - ------- Total $70,210 ======= Sales and net income have been included in the Condensed Consolidated Statements of Operations from the respective dates of acquisition. The following pro forma information presents the results of operations for the six months ending March 31, 2001 of the Partnership and the acquisitions previously described, as if the acquisitions had taken place on October 1, 2000. (in thousands, except per share data) Sales $840,190 Net income $ 86,269 General Partner's interest in net income $ 1,315 Limited Partners' interest in net income $ 84,954 Basic net income per limited partner unit $ 4.04 Diluted net income per limited partner unit $ 4.02 6) Supplemental Disclosure of Cash Flow Information (in thousands) Six Months Ended March 31, ------------------------- 2000 2001 ---- ---- Cash paid during the period for: Income taxes $ 3,544 $ 577 Interest $17,217 $15,460 14 7) Earnings Per Limited Partner Units

8) Subsequent Events Cash Distributions - On April 20, 2001, the Partnership announced that it would pay a cash distribution of $0.575 per unit on all units for the three months ended March 31, 2001. The distribution will be paid on May 15, 2001, to unitholders of record on May 4, 2001. 15 STAR GAS PARTNERS, L.P. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Statement Regarding Forward-Looking Disclosure This Report includes "forward-looking statements" within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act which represent the Partnership's expectations or beliefs concerning future events that involve risks and uncertainties, including those associated with the effect of weather conditions on the Partnership's financial performance, the price and supply of home heating oil, propane, electricity and natural gas and the ability of the Partnership to obtain new accounts and retain existing accounts. All statements other than statements of historical facts included in this Report including, without limitation, the statements under "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere herein, are forward-looking statements. Although the Partnership believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Important factors that could cause actual results to differ materially from the Partnership's expectations ("Cautionary Statements") are disclosed in this Report, including without limitation and in conjunction with the forward-looking statements included in this Report. All subsequent written and oral forward- looking statements attributable to the Partnership or persons acting on its behalf are expressly qualified in their entirety by the Cautionary Statements. Overview In analyzing the financial results of the Partnership, the following matters should be considered. The Total Gas and Electric (TG&E) acquisition was made on April 7, 2000. Accordingly, the results of operations for the three and six month periods ended March 31, 2001 include TG&E's results whereas the results for the previous corresponding quarter and six month period do not include TG&E's results. The primary use for heating oil, propane and natural gas is for space heating in residential and commercial applications. As a result, weather conditions have a significant impact on financial performance and should be considered when analyzing changes in financial performance. In addition, gross margins vary according to customer mix. For example, sales to residential customers generate higher profit margins than sales to other customer groups, such as agricultural customers. Accordingly, a change in customer mix can effect gross margins without necessarily impacting total sales. Also, the heating oil, propane and natural gas industries are seasonal in nature with peak activity occurring during the winter months. Accordingly, results of operations for the periods presented are not indicative of the results to be expected for a full year. The Partnership adopted SFAS No. 133 on October 1, 2000 and records its derivatives at fair market value. As a result of adopting the Standard, the Partnership's net income for the three and six month periods ended March 31, 2001 was $0.7 million more and $0.4 million less respectively, than what they would have been had the Standard not been adopted. The effect of the Standard will have no impact in how the Partnership will evaluate its ability to make the minimum quarterly distribution. 16 THREE MONTHS ENDED MARCH 31, 2001 COMPARED TO THREE MONTHS ENDED MARCH 31, 2000 - --------------------------------------------- Volume For the three months ended March 31, 2001, retail volume of home heating oil and propane increased 50.6 million gallons, or 24.2%, to 259.4 million gallons, as compared to 208.8 million gallons for the three months ended March 31, 2000. This increase was due to an additional 39.8 million gallons provided by the heating oil segment and a 10.8 million gallon increase in the propane segment. Volume increased in the heating oil and propane segments largely due to the impact of colder temperatures and additional volume provided by acquisitions. Temperatures in the Partnership's areas of operations were an average of 9.9% colder than in the prior year's comparable quarter and approximately 3% warmer than normal. Sales For the three months ended March 31, 2001, sales increased $148.8 million, or 46.2%, to $470.4 million, as compared to $321.7 million for the three months ended March 31, 2000. This increase was due to an additional $71.0 million provided by the home heating oil segment, $45.5 million of TG&E sales and a $32.3 million increase in the propane segment. Sales rose in both the heating oil and propane segments largely due to increased retail volume and to a lesser extent from increased selling prices. Selling prices increased versus the prior year's comparable period in response to higher supply costs. Sales also increased in the heating oil division by $4.9 million and by $2.2 million in the propane division due to an increased focus on the sales of rationally related products including heating equipment installation and service and water softeners. Cost of Product For the three months ended March 31, 2001, cost of product increased $106.2 million, or 60.6%, to $281.5 million, as compared to $175.3 million for the three months ended March 31, 2000. This increase was due to an additional $46.5 million of cost of product at the home heating segment, $40.4 million of TG&E cost of product and a $19.3 million increase in the propane segment. The cost of product for both the heating oil and propane segments increased due to the impact of higher retail volume sales and as a result of higher supply cost. While selling prices and supply cost increased on a per gallon basis the increase in selling prices was greater than the increase in supply costs, which resulted in an increase in per gallon margins. Cost of Installation, Service and Appliances For the three months ended March 31, 2001, cost of installation, service and appliances increased $7.0 million, or 23.7%, to $36.4 million, as compared to $29.4 million for the three months ended March 31, 2000. This increase was due to an additional $6.2 million of expenses for the heating oil segment and a $0.8 million increase in cost for the propane segment. The cost of installation, service and appliances for both the heating oil and propane segments increased due to the additional sales of rationally related products and as a result of additional service cost due to the colder temperatures. 17 Delivery and Branch Expenses For the three months ended March 31, 2001, delivery and branch expenses increased $12.6 million, or 27.8%, to $57.8 million, as compared to $45.3 million for the three months ended March 31, 2000. This increase was due to an additional $8.8 million of delivery and branch expenses at the heating oil segment and a $3.7 million increase in delivery and branch expenses for the propane segment. Delivery and branch expenses increased both at the heating oil and propane segments due to additional operating cost associated with higher retail volume sales, inflation and for additional operating cost of acquired companies. Depreciation and Amortization Expenses For the three months ended March 31, 2001, depreciation and amortization expenses increased $2.2 million, or 26.5%, to $10.4 million, as compared to $8.2 million for the three months ended March 31, 2000. This increase was primarily due to $0.2 million of depreciation and amortization expense for TG&E and additional depreciation and amortization for heating oil and propane acquisitions. General and Administrative Expenses For the three months ended March 31, 2001, general and administrative expenses increased $4.1 million, or 88.7%, to $8.7 million, as compared to $4.6 million for the three months ended March 31, 2000. The increase was due to $2.6 million of TG&E general and administrative expenses, a $0.5 million increase in the heating oil segment largely due to increased incentive compensation and wage inflation and a $0.9 million increase in general and administrative expenses at the Partnership level. The Partnership level increase was primarily due to an accrual for compensation earned for unit appreciation rights previously granted. TG&E Customer Acquisition Expense For the three months ended March 31, 2001, TG&E customer acquisition expense was $0.7 million. This TG&E segment expense is for the cost of acquiring new accounts through the services of a third party direct marketing company. Unit Compensation Expense For the three months ended March 31, 2001, unit compensation expense was $0.7 million. This expense was incurred under the Partnership's Unit Incentive Plan whereby certain employees were granted senior subordinated units as an incentive for increased efforts during employment and as an inducement to remain in the service of the Partnership. Interest Expense, net For the three months ended March 31, 2001, net interest expense increased $2.1 million, or 30.5%, to $9.0 million, as compared to $6.9 million for the three months ended March 31, 2000. This increase was due to additional interest expense for higher working capital borrowings necessitated by the higher cost of product as well as for additional interest expense for the financing of propane and heating oil acquisitions. 18 Income Tax Expense (Benefit) For the three months ended March 31, 2001, income tax expense increased $0.7 million to $0.9 million, as compared to $0.2 million for the three months ended March 31, 2000. This increase was due to additional state income taxes for higher pretax earnings achieved for the three months ended March 31, 2001. Net Income For the three months ended March 31, 2001, net income increased $12.4 million, or 24.0%, to $64.1 million, as compared to $51.7 million for the three months ended March 31, 2000. The increase was due to an additional $5.7 million of net income at the heating oil segment, $0.7 million of TG&E net income and a $7.1 million increase in net income at the propane segment. The improvement in the net income for these segments was largely due to colder weather, acquisitions and a per gallon improvement in gross profit margins. Partially offsetting these increases in net income were $1.1 million more of net loss at the Partnership level, largely the result of the increase in unit compensation expense recorded at the Partnership level. Earnings before interest, taxes, depreciation and amortization, TG&E customer acquisition expense and unit compensation expense, less net gain (loss) on sales of equipment (EBITDA) For the three months ended March 31, 2001, earnings before interest, taxes, depreciation and amortization, TG&E customer acquisition expense and unit compensation expense, less net gain (loss) on sales of assets (EBITDA) increased $18.9 million, or 28.1% to $86.0 million as compared to $67.1 million, for the three months ended March 31, 2000. This increase was due to $9.0 million of additional EBITDA generated by the heating oil segment, $2.5 million of TG&E EBITDA, a $8.4 million increase in the propane segment EBITDA partially offset by $0.9 million of additional expenses at the Partnership level. The increase in the heating oil and propane segments was due to additional EBITDA provided by the impact of colder temperatures, acquisitions and by higher per gallon gross profit margins. EBITDA should not be considered as an alternative to net income (as an indicator of operating performance) or as an alternative to cash flow (as a measure of liquidity or ability to service debt obligations), but provides additional information for evaluating the Partnership's ability to make the Minimum Quarterly Distribution. The definition of "EBITDA" set forth above may be different from that used by other companies. The extent to which TG&E customer acquisition expense is not deducted in arriving at "EBITDA" is currently being reviewed by the Partnership. 19 SIX MONTHS ENDED MARCH 31, 2001 COMPARED TO SIX MONTHS ENDED MARCH 31, 2000 - ------------------------------------------- Volume For the six months ended March 31, 2001, retail volume of home heating oil and propane increased 89.4 million gallons, or 25.9%, to 434.3 million gallons, as compared to 344.9 million gallons for the six months ended March 31, 2000. This increase was due to an additional 66.6 million gallons provided by the heating oil segment and a 22.8 million gallon increase in the propane segment. Volume increased in the heating oil and propane segments largely due to the impact of colder temperatures and as a result of additional volume provided by acquisitions. Temperatures in the Partnership's areas of operations were an average of 16.1% colder than in the prior year's comparable period and approximately 3% colder than normal. Sales For the six months ended March 31, 2001, sales increased $285.4 million, or 56.1%, to $794.0 million, as compared to $508.6 million for the six months ended March 31, 2000. This increase was attributable to $156.7 million provided by the home heating oil segment, $65.5 million of TG&E sales and a $63.2 million increase in the propane segment. Sales rose in both the heating oil and propane segments due to increased retail volume and to a lesser extent from increased selling prices. Selling prices increased versus the prior year's comparable period in response to higher supply costs. Sales also increased in the heating oil division by $9.5 million and by $4.1 million in the propane division due to increases in the sales of rationally related products including heating equipment installation and service and water softeners. Cost of Product For the six months ended March 31, 2001, cost of product increased $214.1 million, or 81.8%, to $475.9 million, as compared to $261.8 million for the six months ended March 31, 2000. This increase was due to $114.7 million of additional cost of product at the home heating segment, $58.3 million of TG&E cost of product and a $41.1 million increase in the propane segment. The cost of product for both the heating oil and propane segments increased due to the impact of higher retail volumes sales and as a result of higher supply cost. While both selling prices and supply cost increased on a per gallon basis, the increase in selling prices was equal to the increase in supply costs, which resulted in six months ended March 31, 2001 having approximately the same per gallon margins as were achieved in six months ended March 31, 2000. Cost of Installation, Service and Appliances For the six months ended March 31, 2001, cost of installation, service and appliances increased $13.0 million, or 21.6%, to $73.4 million, as compared to $60.3 million for the six months ended March 31, 2000. This increase was primarily due to $11.6 million of expenses for the heating oil segment and a $1.4 million increase in cost for the propane segment. The cost of installation, service and appliances for both the heating oil and propane segments increased due to the additional sales of rationally related products and as a result of additional service cost due to the colder temperatures. Delivery and Branch Expenses For the six months ended March 31, 2001, delivery and branch expenses increased $21.6 million, or 25.2%, to $107.2 million, as compared to $85.6 million for the six months ended March 31, 2000. This increase was due to an additional $15.3 million of delivery and branch expenses at the heating oil segment and a $6.3 million increase in delivery and branch expenses for the propane segment. Delivery and branch expenses increased both at the heating oil and propane segments due to additional operating cost associated with higher retail volume sales, inflation and for additional operating cost of acquired companies. 20 Depreciation and Amortization For the six months ended March 31, 2001, depreciation and amortization expenses increased $3.4 million, or 20.6%, to $20.0 million, as compared to $16.6 million for the six months ended March 31, 2000. This increase was primarily due to $0.5 million of depreciation and amortization expenses for TG&E and additional depreciation and amortization for heating oil and propane acquisitions. General and Administrative Expenses For the six months ended March 31, 2001, general and administrative expenses increased $6.3 million, or 67.8%, to $15.6 million, as compared to $9.3 million for the six months ended March 31, 2000. This increase was primarily due to $4.3 million of TG&E general and administrative expenses and a $1.5 million increase in general and administrative expenses at the Partnership level. The Partnership level increase was primarily due to an accrual for compensation earned for unit appreciation rights previously granted and for professional fees incurred for the recruitment of certain executive positions. TG&E Customer Acquisition Expense For the six months ended March 31, 2001, TG&E customer acquisition expense was $1.4 million. This TG&E segment expense is for the cost of acquiring new accounts through the services of a third party direct marketing company. Unit Compensation Expense For the six months ended March 31, 2001, unit compensation expense was $1.2 million. This expense was incurred under the Partnership's Unit Incentive Plan whereby certain employees and outside directors were granted senior subordinated units as an incentive for increased efforts during employment and as an inducement to remain in the service of the Partnership. Interest Expense, net For the six months ended March 31, 2001, net interest expense increased $3.7 million, or 28.0%, to $17.1 million, as compared to $13.4 million for the six months ended March 31, 2000. This increase was due to additional interest expense for higher working capital borrowings necessitated by the higher cost of product as well as for additional interest expense for the financing of propane and heating oil acquisitions. Income Tax Expense For the six months ended March 31, 2001, income tax expense increased $1.3 million to $1.6 million, as compared to $0.3 million for the six months ended March 31, 2000. This increase was due to additional state income taxes for higher pretax earnings achieved for the six months ended March 31, 2001. Cumulative Effect of Adoption of Accounting Principle For the six months ended March 31, 2001, the Partnership recorded a $1.5 million increase in net income arising from the adoption of SFAS No. 133. Net Income For the six months ended March 31, 2001, net income increased $20.7 million, or 34.0%, to $81.8 million, as compared to $61.1 million for the six months ended March 31, 2000. The increase was due to an additional $11.1 million of net income at the heating oil segment and a $12.2 million increase in net income at the propane segment. The improvement in the net income for these segments was largely due to colder weather and as a result of acquisitions. Partially offsetting these increases in net income were $0.7 million of net loss for TG&E and $1.9 million of additional net loss at the Partnership level, largely the result of the increase in unit compensation expense recorded at the Partnership level. 21 Earnings before interest, taxes, depreciation and amortization, TG&E customer acquisition expense and unit compensation expense, less net gain (loss) on sales of equipment (EBITDA) For the six months ended March 31, 2001, earnings before interest, taxes, depreciation and amortization, TG&E customer acquisition expense and unit compensation expense, less net gain (loss) on sales of assets (EBITDA) increased $30.4 million, or 33.2%, to $121.9 million as compared to $91.6 million, for the six months ended March 31, 2000. This increase was due to $14.8 million of additional EBITDA generated by the heating oil segment, $2.9 million of TG&E EBITDA, a $14.2 million increase in the propane segment EBITDA partially offset by $1.5 million of additional expenses at the Partnership level. The increase in the heating oil and propane segments was largely due to additional EBITDA provided by the impact of colder temperatures and acquisitions. EBITDA should not be considered as an alternative to net income (as an indicator of operating performance) or as an alternative to cash flow (as a measure of liquidity or ability to service debt obligations), but provides additional information for evaluating the Partnership's ability to make the Minimum Quarterly Distribution. The definition of "EBITDA" set forth above may be different from that used by other companies. The extent to which TG&E customer acquisition expense is not deducted in arriving at "EBITDA" is currently being reviewed by the Partnership. Liquidity and Capital Resources - ------------------------------- During the six months ended March 31, 2001, the Partnership sold 3.7 million common units (including 0.5 million of overallotment units exercised), the net proceeds of which, net of underwriter's discount, commission, and offering expenses was $59.3 million. These funds combined with net cash provided by $66.3 million in net working capital and acquisition facility borrowings, $69.6 million of long-term debt borrowings ($40.0 million of senior secured notes issued by the heating oil segment, $29.5 million of senior notes issued by the propane segment and $0.1 million of acquisition related notes) and $0.2 million in proceeds from the sale of fixed assets amounted to $195.4 million. Such funds were used for operating activities of $28.3 million, acquisitions of $70.2 million, distributions of $24.0 million, debt and acquisition facility repayment of $58.4 million, capital expenditures of $7.1 million and other financing activities of $1.4 million. As a result of the above activity, cash increased by $6.0 million to $16.9 million. The $40.0 million of senior secured notes mentioned above were issued to three institutional lenders by the heating oil segment to complete a refinancing of $40.0 million of indebtedness incurred under its bank acquisition facility. The senior notes bear interest at the rate of 8.96% per year and have an average life of five and three-quarter years with a final maturity date of November 1, 2010. The $29.5 million of senior notes mentioned above were issued to several institutional lenders by the propane segment to complete a refinancing of $25.0 million of indebtedness incurred under its bank acquisition facility. The balance of the proceeds, $4.5 million, will be used to fund future acquisition activity and to refinance maturities of senior notes. The senior notes bear interest at the rate of 7.89% per year and have an average life of nine years with a final maturity date of April 1, 2011. For the remainder of fiscal 2001, the Partnership anticipates paying interest of approximately $15 million and anticipates growth and maintenance capital additions of approximately $7 million. In addition, the Partnership plans to pay distributions on its units in accordance with the partnership agreement. The Partnership also plans to pursue strategic acquisitions as part of its business strategy and to prudently fund such acquisitions through a combination of debt and equity. Based on its current cash position, bank credit availability and net cash from operating activities, the Partnership expects to be able to meet all of its obligations for fiscal 2001. 22 Item. 3. Quantitive and Qualitative Disclosures About Market Risk -------------------------------------------------------- The Partnership is exposed to interest rate risk primarily through its bank credit facilities. The Partnership utilizes these borrowings to meet its working capital needs and also to fund the short-term needs of its acquisition program. At March 31, 2001, the Partnership had outstanding borrowings of approximately $80.0 million under its Bank Credit Facilities. In the event that interest rates associated with these facilities were to increase 100 basis points, the impact on future cash flows would be a decrease of approximately $0.8 million annually. The Partnership also selectively uses derivative financial instruments to manage its exposure to market risk related to changes in the current and future market price of home heating oil, propane and natural gas. The Partnership does not hold derivatives for trading purposes. The value of market sensitive derivative instruments is subject to change as a result of movements in market prices. Consistent with the nature of hedging activity, associated unrealized gains and losses would be offset by corresponding decreases or increases in the purchase price the Partnership would pay for the product being hedged. Sensitivity analysis is a technique used to evaluate the impact of hypothetical market value changes. Based on a hypothetical ten percent increase in the cost of product at March 31, 2001, the potential gain on the Partnership's hedging activity would be to increase the fair market value of these outstanding derivatives by $2.5 million to a fair market value $4.8 million; and conversely a hypothetical ten percent decrease in the cost of product would decrease the fair market value of these outstanding derivatives by $2.5 million to a fair market value of ($0.2) million. PART II OTHER INFORMATION ------------------------- Item 6. Exhibits and Reports on Form 8-K (a) Exhibits Included Within: ------------------------ 10.23 Note Purchase Agreement for $7,500,000 - 7.62% First Mortgage Notes, Series A, due April 1, 2008 and $22,000,000 - 7.95% First Mortgage Notes, Series B, due April 1, 2011. 10.24 Credit Agreement, dated as of March 30, 2001, by Total Gas & Electric, Inc. and Chase Manhattan Bank, as agent. 27.0 Financial Data Schedule (b) Reports on Form 8-K: ------------------- 1/22/01 - This Form 8-K consists of the following two historical press releases; Star Gas Partners, L.P. Reports Fiscal 2000 Year-End and Fourth Quarter Results and Completion of Seven Acquisitions (Released December 14, 2000), Star Gas Partners, L.P. Reports Record Q1 FY '01 Earnings Announces Significant Increase in Senior Subordinated Unit Distribution and Declares Regular Common Unit Distribution (Released January 18, 2001). 1/26/01 - This Form 8-K consists of a copy of the underwriting agreement for a firm commitment public offering of up to 1,900,000 common units of the registrant that were previously registered pursuant to a shelf registration statement on Form S-3 (SEC File No. 333-94031). 23 SIGNATURE --------- Pursuant to the requirements of the Securities Exchange Act of 1934, the Partnership has duly caused this report to be signed on its behalf of the undersigned thereunto duly authorized: Star Gas Partners, L.P. By: Star Gas LLC (General Partner) Signature Title Date --------- ----- ---- /s/ George Leibowitz Chief Financial Officer May 10, 2001 ------------------------- Star Gas LLC George Leibowitz (Principal Financial Officer) /s/ James J. Bottiglieri Vice President May 10, 2001 ------------------------- Star Gas LLC James J. Bottiglieri 24