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Exhibit 99.1

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
F O R M 10‑Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2014
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: 1‑11234
KINDER MORGAN ENERGY PARTNERS, L.P.
(Exact name of registrant as specified in its charter)

Delaware
 
76-0380342
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)

1001 Louisiana Street, Suite 1000, Houston, Texas 77002
(Address of principal executive offices)(zip code)
Registrant’s telephone number, including area code: 713‑369‑9000
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 Website, 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, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. Large accelerated filer [X] Accelerated filer [   ] Non-accelerated filer [   ] (Do not check if a smaller reporting company) Smaller reporting company [   ]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [   ] No [X]
The Registrant had 326,239,985 common units outstanding as of October 24, 2014.



KINDER MORGAN ENERGY PARTNERS, L.P. AND SUBSIDIARIES
TABLE OF CONTENTS
 
 
Page
Number
 
Glossary
 
Information Regarding Forward-Looking Statements
 
 
 
 
 
Item 1.
Financial Statements (Unaudited)
 
 
Consolidated Statements of Income - Three and Nine Months Ended September 30, 2014 and 2013
 
Consolidated Statements of Comprehensive Income - Three and Nine Months Ended September 30, 2014 and 2013
 
Consolidated Balance Sheets - September 30, 2014 and December 31, 2013
 
Consolidated Statements of Cash Flows - Nine Months Ended September 30, 2014 and 2013
 
Consolidated Statements of Partners’ Capital - Nine Months Ended September 30, 2014 and 2013
 
Notes to Consolidated Financial Statements
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
 
General and Basis of Presentation
 
Critical Accounting Policies and Estimates
 
Results of Operations
 
Financial Condition
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
Item 4.
Controls and Procedures
 
 
 
 
 
Item 1.
Legal Proceedings
Item 1A.
Risk Factors
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
Item 3.
Defaults Upon Senior Securities
Item 4.
Mine Safety Disclosures
Item 5.
Other Information
Item 6.
Exhibits
 
 
 
 
Signature


1


KINDER MORGAN ENERGY PARTNERS, L.P. AND SUBSIDIARIES
GLOSSARY
 
Company Abbreviations
APT
=
American Petroleum Tankers
 
EPNG
=
El Paso Natural Gas Company, L.L.C.
Calnev
=
Calnev Pipe Line LLC
 
General Partner
=
Kinder Morgan G.P., Inc.
Copano
=
Copano Energy, L.L.C.
 
KMEP
=
Kinder Morgan Energy Partners, L.P.
Eagle Ford
=
Eagle Ford Gathering LLC
 
KMGP
=
Kinder Morgan G.P., Inc.
EP
=
El Paso Corporation and its majority-owned
 
KMI
=
Kinder Morgan, Inc.
 
 
and controlled subsidiaries
 
KMR
=
Kinder Morgan Management, LLC
EPB
=
El Paso Pipeline Partners, L.P. and its
 
SFPP
=
SFPP, L.P.
 
 
majority-owned and controlled subsidiaries
 
TGP
=
Tennessee Gas Pipeline Company, L.L.C.
Unless the context otherwise requires, references to “we,” “us,” “our,” “KMP” or the “Partnership” are intended to mean Kinder Morgan Energy Partners, L.P., our majority-owned and controlled subsidiaries, and our operating limited partnerships and their majority-owned and controlled subsidiaries.
 
Common Industry and Other Terms
Bcf/d
=
billion cubic feet per day
 
GAAP
=
United States Generally Accepted
BBtu/d
=
billion British Thermal Units per day
 
 
 
Accounting Principles
CERCLA
=
Comprehensive Environmental Response,
 
LIBOR
=
London Interbank Offered Rate
 
 
Compensation and Liability Act
 
LLC
=
limited liability company
CO2
=
carbon dioxide
 
MBbl/d
=
thousands of barrels per day
CPUC
=
California Public Utilities Commission
 
MLP
=
master limited partnership
EBDA
=
earnings before depreciation, depletion and
 
NEB
=
National Energy Board
 
 
amortization
 
NGL
=
natural gas liquids
DD&A
=
depreciation, depletion and amortization
 
NYSE
=
New York Stock Exchange
DCF
=
distributable cash flow
 
OTC
=
over-the-counter
EPA
=
United States Environmental Protection
 
PHMSA
=
Pipeline and Hazardous Materials Safety
 
 
Agency
 
 
 
Administration
FERC
=
Federal Energy Regulatory Commission
 
Sustaining
=
capital expenditures which do not increase
FASB
=
Financial Accounting Standards Board
 
 
 
capacity or throughput
 
 
 
 
WTI
=
West Texas Intermediate
When we refer to cubic feet measurements; all measurements are at a pressure of 14.73 pounds per square inch.

Information Regarding Forward-Looking Statements
This report includes forward-looking statements.  These forward-looking statements are identified as any statement that does not relate strictly to historical or current facts.  They use words such as “anticipate,” “believe,” “intend,” “plan,” “projection,” “forecast,” “strategy,” “position,” “continue,” “estimate,” “expect,” “may,” or the negative of those terms or other variations of them or comparable terminology.  In particular, expressed or implied statements concerning future actions, conditions or events, future operating results or the ability to generate sales, income or cash flow or to make distributions are forward-looking statements.  Forward-looking statements are not guarantees of performance. They involve risks, uncertainties and assumptions.  Future actions, conditions or events and future results of operations may differ materially from those expressed in these forward-looking statements.  Many of the factors that will determine these results are beyond our ability to control or predict.

See Information Regarding Forward-Looking Statements” and Part I, Item 1A “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2013 (2013 Form 10-K) and Item 1A “Risk Factors” included elsewhere in this report for a more detailed description of factors that may affect the forward-looking statements. When considering forward-looking statements, one should keep in mind the risk factors described in our 2013 Form 10-K. The risk factors could cause our actual results to differ materially from those contained in any forward-looking statement. Because of these risks and uncertainties, you should not place undue reliance on any forward-looking statement. We plan to provide updates to projections included in this report when we believe previously disclosed projections no longer have a reasonable basis.

2


PART I. FINANCIAL INFORMATION

Item 1. Financial Statements.
KINDER MORGAN ENERGY PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In Millions, Except Per Unit Amounts)
(Unaudited)
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2014
 
2013
 
2014
 
2013
Revenues
 
 
 
 
 
 
 
Natural gas sales
$
1,044

 
$
955

 
$
3,152

 
$
2,632

Services
1,705

 
1,328

 
4,594

 
3,811

Product sales and other
1,184

 
1,098

 
3,416

 
2,616

Total Revenues
3,933

 
3,381

 
11,162

 
9,059

Operating Costs, Expenses and Other
 
 
 
 
 
 
 
Costs of sales
1,640

 
1,531

 
4,880

 
3,736

Operations and maintenance
500

 
458

 
1,442

 
1,439

Depreciation, depletion and amortization
427

 
377

 
1,234

 
1,062

General and administrative
126

 
136

 
411

 
433

Taxes, other than income taxes
80

 
71

 
250

 
220

Other expense (income), net
(1
)
 
(59
)
 
(4
)
 
(83
)
Total Operating Costs, Expenses and Other
2,772

 
2,514

 
8,213

 
6,807

Operating Income
1,161

 
867

 
2,949

 
2,252

Other Income (Expense)
 
 
 
 
 
 
 
Earnings from equity investments
66

 
68

 
203

 
225

Amortization of excess cost of equity investments
(3
)
 
(3
)
 
(11
)
 
(7
)
Interest, net
(238
)
 
(219
)
 
(707
)
 
(632
)
Gain on remeasurement of previously held equity interest in Eagle Ford to fair value (Note 2)

 

 

 
558

(Loss) Gain on sale of investments in Express pipeline system (Note 2)

 
(1
)
 

 
224

Other, net
14

 
5

 
29

 
28

Total Other Income (Expense)
(161
)
 
(150
)
 
(486
)
 
396

Income from Continuing Operations Before Income Taxes
1,000

 
717

 
2,463

 
2,648

Income Tax Expense
(24
)
 
(20
)
 
(64
)
 
(147
)
Income from Continuing Operations
976

 
697

 
2,399

 
2,501

Loss from Discontinued Operations

 

 

 
(2
)
Net Income
976

 
697

 
2,399

 
2,499

Net Income Attributable to Noncontrolling Interests
(13
)
 
(8
)
 
(29
)
 
(27
)
Net Income Attributable to KMEP
$
963

 
$
689

 
$
2,370

 
$
2,472

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Calculation of Limited Partners’ Interest in Net Income Attributable to KMEP:
 
 
 
 
 
 
 
Income from Continuing Operations attributable to KMEP
$
963

 
$
689

 
$
2,370

 
$
2,474

Less: Pre-acquisition income from operations of March 2013 drop-down asset group allocated to General Partner (Note 1)

 

 

 
(19
)
Add: Drop-down asset groups’ severance expense allocated to General Partner (Note 1)
(1
)
 
2

 
5

 
8

Less: General Partner’s remaining interest
(476
)
 
(436
)
 
(1,393
)
 
(1,260
)
Limited Partners’ Interest
486

 
255

 
982

 
1,203

Add: Limited Partners’ Interest in Discontinued Operations

 

 

 
(2
)
Limited Partners’ Interest in Net Income
$
486

 
$
255

 
$
982

 
$
1,201

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Limited Partners’ Net Income per Unit:
 
 
 
 
 
 
 
Income from Continuing Operations
$
1.05

 
$
0.59

 
$
2.15

 
$
2.95

Loss from Discontinued Operations

 

 

 
(0.01
)
Net Income
$
1.05

 
$
0.59

 
$
2.15

 
$
2.94

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Weighted Average Number of Units Used in Computation of Limited Partners’ Net Income per Unit
463

 
435

 
456

 
408

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Per Unit Cash Distribution Declared for the Period
$
1.40

 
$
1.35

 
$
4.17

 
$
3.97

 
 
 
 
 
 
 
 
The accompanying notes are an integral part of these consolidated financial statements.

3


KINDER MORGAN ENERGY PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In Millions)
(Unaudited)
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2014
 
2013
 
2014
 
2013
Net Income
$
976

 
$
697

 
$
2,399

 
$
2,499

 
 
 
 
 
 
 
 
Other Comprehensive Income (Loss):
 
 
 
 
 
 
 
Change in fair value of derivatives utilized for hedging purposes
156

 
(102
)
 
(13
)
 
(73
)
Reclassification of change in fair value of derivatives to net income
(1
)
 
25

 
35

 
15

Foreign currency translation adjustments
(97
)
 
42

 
(105
)
 
(72
)
Adjustments to pension and other postretirement benefit plan liabilities
(1
)
 
31

 
(4
)
 
32

Total Other Comprehensive Income (Loss)
57

 
(4)

 
(87
)
 
(98
)
 
 
 
 
 
 
 
 
Comprehensive Income
1,033

 
693

 
2,312

 
2,401

Comprehensive Income Attributable to Noncontrolling Interests
(13
)
 
(8
)
 
(28
)
 
(26
)
Comprehensive Income Attributable to KMEP
$
1,020

 
$
685

 
$
2,284

 
$
2,375

 
 
 
 
 
 
 
 
The accompanying notes are an integral part of these consolidated financial statements.


4


KINDER MORGAN ENERGY PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In Millions)
 
September 30,
2014
 
December 31,
2013
 
(Unaudited)
 
 
ASSETS
 
 
 
Current assets
 
 
 
Cash and cash equivalents
$
268

 
$
404

Accounts receivable, net
1,489

 
1,511

Inventories
426

 
393

Other current assets
401

 
360

Total current assets
2,584

 
2,668

 
 
 
 
Property, plant and equipment, net
29,842

 
27,405

Investments
2,400

 
2,233

Goodwill
6,710

 
6,547

Other intangibles, net
2,316

 
2,414

Deferred charges and other assets
1,488

 
1,497

Total Assets
$
45,340

 
$
42,764

 
 
 
 
LIABILITIES AND PARTNERS’ CAPITAL
 
 
 
Current liabilities
 
 
 
Current portion of debt
$
959

 
$
1,504

Accounts payable
1,419

 
1,537

Accrued interest
209

 
371

Accrued contingencies
612

 
529

Other current liabilities
782

 
636

Total current liabilities
3,981

 
4,577

 
 
 
 
Long-term liabilities and deferred credits
 
 
 
Long-term debt
 
 
 
Outstanding
20,810

 
18,410

Debt fair value adjustments
1,212

 
1,214

Total long-term debt
22,022

 
19,624

Deferred income taxes
296

 
285

Other long-term liabilities and deferred credits
990

 
1,057

Total long-term liabilities and deferred credits
23,308

 
20,966

Total Liabilities
27,289

 
25,543

Commitments and contingencies (Notes 3 and 9)


 


Partners’ Capital
 
 
 
Common units
9,876

 
9,459

Class B units
(4
)
 
6

i-units
4,637

 
4,222

General partner
3,099

 
3,081

Accumulated other comprehensive (loss) income
(53
)
 
33

Total KMEP Partners’ Capital
17,555

 
16,801

Noncontrolling interests
496

 
420

Total Partners’ Capital
18,051

 
17,221

Total Liabilities and Partners’ Capital
$
45,340

 
$
42,764

 
 
 
 
The accompanying notes are an integral part of these consolidated financial statements.


5


KINDER MORGAN ENERGY PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Millions)
(Unaudited)
 
Nine Months Ended
September 30,
 
2014
 
2013
Cash Flows From Operating Activities
 
 
 
Net Income
$
2,399

 
$
2,499

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation, depletion and amortization
1,234

 
1,062

Amortization of excess cost of equity investments
11

 
7

Gain on remeasurement of previously held equity interest in Eagle Ford to fair value (Note 2)

 
(558
)
Gain on sale of investments in Express pipeline system (Note 2)

 
(224
)
Earnings from equity investments
(203
)
 
(225
)
Distributions from equity investment earnings
190

 
217

Proceeds from termination of interest rate swap agreements

 
96

Changes in components of working capital, net of the effects of acquisitions:
 
 
 
Accounts receivable
(11
)
 
55

Inventories
(30
)
 
(57
)
Other current assets
22

 
(25
)
Accounts payable
(31
)
 
(150
)
Accrued interest
(161
)
 
(132
)
Accrued contingencies and other current liabilities
189

 
32

Rate reparations, refunds and other litigation reserve adjustments, net
37

 
174

Other, net
(170
)
 
(75
)
Net Cash Provided by Operating Activities
3,476

 
2,696

Cash Flows From Investing Activities
 
 
 
Payment to KMI for March 2013 drop-down asset group (Note 1)

 
(994
)
Acquisitions of assets and investments, net of cash acquired
(1,100
)
 
(292
)
Capital expenditures
(2,603
)
 
(2,160
)
Proceeds from sale of investments in Express pipeline system

 
402

Contributions to investments
(319
)
 
(163
)
Distributions from equity investments in excess of cumulative earnings
53

 
48

Natural gas storage and natural gas and liquids line-fill
22

 

Sale or casualty of property, plant and equipment, investments and other net assets, net of removal costs
16

 
61

Other, net
(7
)
 
7

Net Cash Used in Investing Activities
(3,938
)
 
(3,091
)
Cash Flows From Financing Activities
 
 
 
Issuance of debt
9,269

 
7,915

Payment of debt
(7,427
)
 
(6,574
)
Debt issue costs
(20
)
 
(22
)
Proceeds from issuance of common units
1,044

 
1,080

Proceeds from issuance of i-units
134

 
145

Contributions from noncontrolling interests
94

 
128

Contributions from General Partner

 
38

Pre-acquisition contributions from KMI to March 2013 drop-down asset group

 
35

Distributions to partners and noncontrolling interests
(2,757
)
 
(2,332
)
Other, net
(2
)
 
(1
)
Net Cash Provided by Financing Activities
335

 
412

Effect of Exchange Rate Changes on Cash and Cash Equivalents
(9
)
 
(12
)
Net (decrease) increase in Cash and Cash Equivalents
(136
)
 
5

Cash and Cash Equivalents, beginning of period
404

 
529

Cash and Cash Equivalents, end of period
$
268

 
$
534

 
 
 
 
Noncash Investing and Financing Activities
 
 
 
Assets acquired or liabilities settled by the issuance of common units (Note 1)
$

 
$
3,841

Assets acquired by the assumption or incurrence of liabilities
$
73

 
$
1,487

 
 
 
 
Supplemental Disclosures of Cash Flow Information
 
 
 
Cash paid during the period for interest (net of capitalized interest)
$
852

 
$
764

Cash paid during the period for income taxes
$
18

 
$
15

 
 
 
 
The accompanying notes are an integral part of these consolidated financial statements.

6


KINDER MORGAN ENERGY PARTNERS, L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF PARTNERS' CAPITAL
(In Millions, Except Units)
(Unaudited)
 
Nine Months Ended September 30,
 
2014
 
2013
 
Units
 
Amount
 
Units
 
Amount
Common units:
 
 
 
 
 
 
 
Beginning Balance
312,791,561

 
$
9,459

 
252,756,425

 
$
4,723

Net income
 
 
690

 
 
 
841

Units issued as consideration in the acquisition of assets

 

 
44,620,662

 
3,841

Units issued for cash
13,448,424

 
1,044

 
12,847,743

 
1,080

Distributions
 
 
(1,321
)
 
 
 
(1,068
)
Other
 
 
4

 
 
 
(1
)
Ending Balance
326,239,985

 
9,876

 
310,224,830

 
9,416

 
 
 
 
 
 
 
 
Class B units:
 

 
 

 
 

 
 

Beginning Balance
5,313,400

 
6

 
5,313,400

 
14

Net income
 
 
12

 
 
 
16

Distributions
 
 
(22
)
 
 
 
(21
)
Ending Balance
5,313,400

 
(4
)
 
5,313,400

 
9

 
 
 
 
 
 
 
 
i-Units:
 

 
 

 
 

 
 

Beginning Balance
125,323,734

 
4,222

 
115,118,338

 
3,564

Net income
 
 
280

 
 
 
345

Units issued for cash
1,734,513

 
134

 
1,757,300

 
145

Distributions
6,907,981

 

 
5,411,720

 

Other
 
 
1

 
 
 

Ending Balance
133,966,228

 
4,637

 
122,287,358

 
4,054

 
 
 
 
 
 
 
 
General partner:
 

 
 

 
 

 
 

Beginning Balance
 
 
3,081

 
 
 
4,026

Net income
 
 
1,388

 
 
 
1,270

Distributions
 
 
(1,375
)
 
 
 
(1,213
)
Acquisitions (Note 1)
 
 

 
 
 
(1,057
)
Reimbursed severance expense allocated from KMI
 
 
5

 
 
 
7

Contributions
 
 

 
 
 
38

Other
 
 

 
 
 
2

Ending Balance
 
 
3,099

 
 
 
3,073

 
 
 
 
 
 
 
 
Accumulated other comprehensive income (loss):
 

 
 

 
 

 
 

Beginning Balance
 
 
33

 
 
 
168

Other comprehensive loss
 
 
(86
)
 
 
 
(97
)
Ending Balance


 
(53
)
 


 
71

 
 
 
 
 
 
 
 
Total KMEP Partners’ Capital
465,519,613

 
17,555

 
437,825,588

 
16,623

 
 
 
 
 
 
 
 
Noncontrolling interests:
 
 
 
 
 
 
 
Beginning Balance
 
 
420

 
 
 
267

Net income
 
 
29

 
 
 
27

Contributions
 
 
94

 
 
 
128

Distributions
 
 
(39
)
 
 
 
(30
)
Acquisitions (Note 1 and 2)
 
 

 
 
 
7

Other comprehensive loss
 
 
(1
)
 
 
 
(1
)
Other
 
 
(7
)
 
 
 

Ending Balance


 
496

 


 
398

 
 
 
 
 
 
 
 
Total Partners’ Capital
465,519,613

 
$
18,051

 
437,825,588

 
$
17,021

 
 
 
 
 
 
 
 
The accompanying notes are an integral part of these consolidated financial statements.


7


KINDER MORGAN ENERGY PARTNERS, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. General
Organization
KMEP is a Delaware limited partnership formed in August 1992.  We are a leading pipeline transportation and energy storage company in North America, with a diversified portfolio of energy transportation and storage assets. We own an interest in or operate approximately 52,000 miles of pipelines and 180 terminals, and we conduct our business through five reportable business segments (described further in Note 7). Our common units trade on the NYSE under the symbol “KMP.”
Our pipelines transport natural gas, refined petroleum products, crude oil, condensate, CO2 and other products, and our terminals transload and store petroleum products, ethanol and chemicals, and handle such products as coal, petroleum coke and steel. We are also the leading producer and transporter of CO2, for enhanced oil recovery projects in North America.
KMI and Kinder Morgan G.P., Inc.
KMI, a Delaware corporation, indirectly owns all the common stock of our general partner, Kinder Morgan G.P., Inc., a Delaware corporation. In July 2007, our general partner issued and sold to a third party 100,000 shares of Series A fixed-to-floating rate term cumulative preferred stock due 2057. The consent of holders of a majority of these preferred shares is required with respect to a commencement of or a filing of a voluntary bankruptcy proceeding with respect to us or two of our subsidiaries, SFPP and Calnev. KMI’s common stock trades on the NYSE under the symbol “KMI.”
As of September 30, 2014, KMI and its consolidated subsidiaries owned, through KMI’s general and limited partner interests in us and its ownership of shares issued by its subsidiary KMR (discussed below), an approximate 11.3% interest in us. In addition, as of September 30, 2014, KMI owns a 39.3% limited partner interest and the 2% general partner interest in EPB.
KMR
KMR is a Delaware LLC. Our general partner owns all of KMR’s voting securities and, pursuant to a delegation of control agreement, has delegated to KMR, to the fullest extent permitted under Delaware law and our partnership agreement, all of its power and authority to manage and control our business and affairs, except that KMR cannot take certain specified actions without the approval of our general partner. Generally, KMR makes all decisions relating to the management and control of our business, and in general, KMR has a duty to manage us in a manner beneficial to KMEP. KMR’s shares representing LLC interests trade on the NYSE under the symbol “KMR.” As of September 30, 2014, KMR, through its sole ownership of our i-units, owned approximately 28.8% of all of our outstanding limited partner units (which are in the form of i-units that are issued only to KMR).
More information about the entities referred to above and the delegation of control agreement is contained in our 2013 Form 10-K. For a more complete discussion of our related party transactions with the entities referred to above, including (i) the accounting for our general and administrative expenses; (ii) KMI’s operation and maintenance of the assets comprising our Natural Gas Pipelines business segment; and (iii) our partnership interests and distributions, see Note 11 Related Party Transactions” to our consolidated financial statements included in our 2013 Form 10-K.
Basis of Presentation
General
Our reporting currency is in U.S. dollars, and all references to dollars are U.S. dollars, except where stated otherwise.  Our accompanying unaudited consolidated financial statements include our accounts, majority-owned and controlled subsidiaries, and have been prepared under the rules and regulations of the United States Securities and Exchange Commission. These rules and regulations conform to the accounting principles contained in the FASB’s Accounting Standards Codification (Codification), the single source of GAAP. Under such rules and regulations, all significant intercompany items have been eliminated in consolidation. Additionally, we have condensed or omitted certain information and notes normally included in financial statements prepared in conformity with the Codification. We believe, however, that our disclosures are adequate to make the information presented not misleading.

8



Our accompanying unaudited consolidated financial statements reflect normal adjustments, and also recurring adjustments that are, in the opinion of our management, necessary for a fair statement of our financial results for the interim periods. In addition, certain amounts from prior periods have been reclassified to conform to the current presentation (including reclassifications between “Services” and “Product sales and other” within the “Revenues” section of our accompanying consolidated statements of income). Interim results are not necessarily indicative of results for a full year; accordingly, you should read these consolidated financial statements in conjunction with our consolidated financial statements and related notes included in our 2013 Form 10-K.
Our financial statements are consolidated into the consolidated financial statements of KMI; however, except for the related party transactions described in Note 8 “Related Party Transactions—Asset Acquisitions and Sales,” KMI is not liable for, and its assets are not available to satisfy, our obligations and/or our subsidiaries’ obligations, and vice versa.  Responsibility for payments of obligations reflected in our or KMI’s financial statements is a legal determination based on the entity that incurs the liability. Furthermore, the determination of responsibility for payment among entities in our consolidated group of subsidiaries is not impacted by the consolidation of our financial statements into the consolidated financial statements of KMI.
March 2013 KMI Asset Drop-Down
Effective March 1, 2013, we acquired from KMI the remaining 50% ownership interest we did not already own in both EPNG and the EP midstream assets for an aggregate consideration of approximately $1.7 billion (including our proportional share of assumed debt borrowings as of March 1, 2013). In this report, we refer to this acquisition of assets from KMI as the "March 2013 drop-down transaction"; the combined group of assets acquired from KMI effective March 1, 2013 as the "March 2013 drop-down asset group"; and the EP midstream assets of Kinder Morgan Altamont LLC (formerly, El Paso Midstream Investment Company, L.L.C.) as the "EP midstream assets." Prior to the March 2013 drop-down transaction, we accounted for our initial 50% ownership interests in both EPNG and the EP midstream assets under the equity method of accounting.
KMI acquired all of the assets included in the March 2013 drop-down asset group as part of its May 25, 2012 acquisition of EP, and KMI accounted for its EP acquisition under the acquisition method of accounting. We, however, accounted for the March 2013 drop-down transaction as combinations of entities under common control. Accordingly, we prepared our consolidated financial statements to reflect the transfer of the March 2013 drop-down asset group from KMI to us as if such transfer had taken place on the date when the March 2013 drop-down asset group met the accounting requirements for entities under common control—May 25, 2012 for EPNG, and June 1, 2012 for the EP midstream assets.
Additionally, because KMI both controls us and consolidates our financial statements into its consolidated financial statements as a result of its ownership of our general partner, we fully allocated to our general partner:
the earnings of the March 2013 drop-down asset group for the periods beginning on the effective dates of common control (described above) and ending March 1, 2013 (we refer to these earnings as “pre-acquisition” earnings and we reported these earnings separately as “Pre-acquisition income from operations of March 2013 drop-down asset group allocated to General Partner” within the “Calculation of Limited Partners’ Interest in Net Income Attributable to KMEP” section of our accompanying consolidated statement of income for the nine months ended September 30, 2013); and
incremental severance expense related to KMI’s acquisition of EP and allocated to us from KMI. This severance expense allocated to us was associated with both the March 2013 drop-down asset group and assets we acquired pursuant to an earlier drop-down from KMI effective August 1, 2012; however, we do not have any obligation, nor did we pay, any amounts related to this expense. Furthermore, we reported this expense separately as “Drop-down asset groups’ severance expense allocated to General Partner” within the “Calculation of Limited Partners’ Interest in Net Income Attributable to KMEP” section of our accompanying consolidated statements of income for each of the three and nine months ended September 30, 2014 and 2013.

For all periods beginning after our acquisition date of March 1, 2013, we allocated our earnings (including the earnings from the March 2013 drop-down asset group) to all of our partners according to our partnership agreement.
Goodwill
We evaluate goodwill for impairment on May 31 of each year.  There were no impairment charges resulting from our May 31, 2014 impairment testing, and no event indicating an impairment has occurred subsequent to that date.

9



Limited Partners’ Net Income per Unit
We compute Limited Partners’ Net Income per Unit by dividing our limited partners’ interest in net income by the weighted average number of units outstanding during the period.

Recent Developments

On August 9, 2014, we entered into a definitive merger agreement (KMP Merger Agreement) with KMI pursuant to which KMI will acquire directly or indirectly all of our outstanding common units that KMI and its subsidiaries do not already own. Upon the terms and subject to the conditions set forth in the KMP Merger Agreement, a wholly-owned subsidiary of KMI will merge with and into KMP (KMP Merger) and KMP will continue as a KMI wholly-owned limited partnership subsidiary under Delaware law.
KMI has also entered into a merger agreement with KMR (KMR Merger Agreement) and a merger agreement with EPB (EPB Merger Agreement) pursuant to which KMI will acquire all of the outstanding shares of KMR and common units of EPB that KMI and its subsidiaries do not already own. The transactions contemplated by the KMP Merger Agreement, the KMR Merger Agreement and the EPB Merger Agreement are referred to collectively as the “Merger Transactions.”
At the effective time of the KMP Merger, each common unit of KMP issued and outstanding (excluding common units owned by KMGP, KMR or KMI or any of its other subsidiaries, which shall remain outstanding) will be converted into the right to receive, at the election of the holder, (i) $10.77 in cash without interest and 2.1931 shares of KMI common stock (KMP Standard Consideration); (ii) $91.72 in cash without interest; or (iii) 2.4849 shares of KMI Common Stock. Any election by a holder to receive the consideration specified in clause (ii) or (iii) of the immediately preceding sentence will be subject to pro ration to ensure that the aggregate amount of cash paid and the aggregate number of shares of KMI common stock issued in the KMP Merger is the same that would be paid and issued if each common unit of KMP had been converted into the right to receive the KMP Standard Consideration.
The completion of the KMP Merger is subject to the concurrent completion of the mergers contemplated by the KMR Merger Agreement and the EPB Merger Agreement. The completion of the KMP Merger is also subject to the satisfaction or waiver of customary closing conditions, including but not limited to: (a) approval of the KMP Merger Agreement by KMP’s unitholders; and (b) approval by KMI’s stockholders of (i) the amendment of KMI’s certificate of incorporation to increase the number of authorized shares of KMI common stock and (ii) the issuance of KMI common stock in the Merger Transactions, as required pursuant to certain rules of the NYSE.
The KMP Merger Agreement also contains certain customary termination rights for both KMP and KMI, and further provides that, upon termination of the KMP Merger Agreement under certain circumstances, KMP or KMI may be required to pay the other party a termination fee equal to $817 million.  In the event a termination fee is payable by KMI to KMP, such termination fee shall be paid through a waiver by KMGP of its incentive distribution right over a period of eight fiscal quarters.  Either KMP or KMI may terminate the KMP Merger Agreement if the closing of the KMP Merger has not occurred on or before May 11, 2015.
The KMP Merger Agreement contains customary covenants and agreements, including covenants and agreements relating to the conduct of KMP’s business between the date of the signing of the KMP Merger Agreement and the closing of the transactions contemplated under the KMP Merger Agreement. On October 22, 2014, we, KMR, EPB and KMI each (i) announced November 20, 2014 as the date for the respective special meetings of shareholders or unitholders to vote on the proposals related to the Merger Transactions; and (ii) commenced mailing of proxy materials to the respective shareholders or unitholders.  Unitholders and shareholders of record at the close of business on October 20, 2014, will be entitled to vote at the applicable special meeting.
As previously announced, KMI expects to finance the cash portion of the merger consideration for the KMP merger and the EPB merger and the fees and expenses of the Merger Transactions with the proceeds of the issuance of debt securities in capital markets transactions.  To the extent the proceeds of the issuance of debt securities are not sufficient, the proceeds of the Bridge Facility discussed below are expected to be used.


10


On September 19, 2014, KMI entered into a Bridge Credit Agreement (Bridge Facility) with a syndicate of lenders. The Bridge Facility provides for up to a $5.0 billion term loan facility which, if funded, will mature 364 days following the closing date of the Merger Transactions. KMI may use borrowings under the Bridge Facility to pay cash consideration and transaction costs associated with the Merger Transactions. KMI also may use a portion of the borrowings under the Bridge Facility to refinance certain term loan facility indebtedness. Interest on borrowings under the Bridge Facility will initially be calculated based on either (i) LIBOR plus an applicable margin ranging from 1.250% to 1.750% per annum based on KMI’s senior unsecured non-credit enhanced long-term indebtedness for borrowed money (KMI’s Credit Rating) or (ii) the greatest of (1) the federal funds effective rate in effect on such day plus 1/2 of 1%, (2) the Prime Rate in effect for such day, and (3) the LIBOR Rate for a Eurodollar Loan with a one-month interest period that begins on such day plus 1%, plus, in each case an applicable margin ranging from 0.250% to 0.750% per annum based on KMI’s Credit Rating. In addition, in each case the applicable margin will increase by 0.25% for each 90 day period that any loans remain outstanding under the Bridge Facility. The Bridge Facility provides for the payment by KMI of certain fees, including but not limited to a ticking fee and a duration fee. The Bridge Facility contains a financial covenant providing for a maximum debt to Earnings Before Interest, Income Taxes and Depreciation, Depletion and Amortization (EBITDA) ratio of 6.50 to 1.00 and various other covenants that are substantially consistent with the Prior Credit Facilities discussed below.

On September 19, 2014, KMI entered into a replacement revolving credit agreement (Replacement Facility) with a syndicate of lenders.  The Replacement Facility provides for up to $4.0 billion in borrowing capacity, which can be increased to $5.0 billion if certain conditions are met, and has a five-year term. In connection with the consummation of the Merger Transactions, the Replacement Facility will replace (i) the existing credit agreement, dated as of May 6, 2014, by and among KMI, various lenders, and Barclays Bank PLC, as administrative agent (KMI’s Existing Credit Agreement); (ii) the facilities set forth in the credit agreement, dated as of May 1, 2013, among KMP, Wells Fargo Bank, National Association, as administrative agent and the other lenders and agents party thereto (KMP Credit Agreement); and (iii) the facilities set forth in the credit agreement, dated May 27, 2011, among is El Paso Pipeline Partners Operating Company, L.L.C., Wyoming Interstate Company, L.L.C., EPB, Bank of America, N.A., as administrative agent, and the other lenders and letter of credit issuers from time to time parties thereto (the “EPB Credit Agreement” and, together with KMI’s Existing Credit Agreement and the KMP Credit Agreement, the “Prior Credit Facilities”).  Borrowings under the Replacement Facility may be used for working capital and other general corporate purposes.  Interest on the Replacement Facility will be calculated based on either (i) LIBOR plus an applicable margin ranging from 1.125% to 2.000% per annum based on KMI’s Credit Rating or (ii) the greatest of (1) the federal funds effective rate in effect on such day plus 1/2 of 1%; (2) the prime rate in effect for such day; and (3) the LIBOR Rate for a Eurodollar Loan with a one-month interest period that begins on such day plus 1%, plus, in each case, an applicable margin ranging from 0.125% to 1.000% per annum based on KMI’s Credit Rating.  The Replacement Facility contains a financial covenant providing for a maximum debt to EBITDA ratio of 6.50 to 1.00 (which falls to 6.25 to 1.00 for periods ending in 2018 and 6.00 to 1.00 for periods ending in 2019) and various other covenants that are substantially consistent with the Prior Credit Facilities.

2. Acquisitions and Divestitures

Acquisitions

American Petroleum Tankers and State Class Tankers

Effective January 17, 2014, we acquired APT and State Class Tankers (SCT) for aggregate consideration of $961 million in cash (the APT acquisition). APT is engaged in the marine transportation of crude oil, condensate and refined products in the U.S. domestic trade, commonly referred to as the Jones Act trade. APT’s primary assets consist of a fleet of five medium range Jones Act qualified product tankers, each with 330 MBbl of cargo capacity, and each operating pursuant to long-term time charters with high quality counterparties, including major integrated oil companies, major refiners and the U.S. Military Sealift Command. As of the closing date, the vessels’ time charters had an average remaining term of approximately four years, with renewal options to extend the terms by an average of two years. APT’s vessels are operated by Crowley Maritime Corporation.

SCT has commissioned the construction of four medium range Jones Act qualified product tankers, each with 330 MBbl of cargo capacity. The SCT vessels are scheduled to be delivered in 2015 and 2016 and are being constructed by General Dynamics’ NASSCO shipyard. We expect to invest approximately $214 million to complete the construction of these four SCT vessels, and upon delivery, the vessels will be operated pursuant to long-term time charters with a major integrated oil company. Each of the time charters has an initial term of five years, with renewal options to extend the term by up to three years. The APT acquisition complements and extends our existing crude oil and refined products transportation and storage business. We include the acquired assets as part of our Terminals business segment.

11



As of September 30, 2014, our preliminary purchase price allocation related to our APT acquisition, as adjusted to date, was as follows (in millions). Our evaluation of the assigned fair values is ongoing and subject to adjustment.
Purchase Price Allocation:
 
Current assets
$
6

Property, plant and equipment
951

Goodwill
67

Other assets
3

Total assets acquired
1,027

Current liabilities
(5
)
Unfavorable customer contracts
(61
)
Cash consideration
$
961


The “Goodwill” intangible asset amount represents the future economic benefits expected to be derived from this acquisition that are not assignable to other individually identifiable, separately recognizable assets acquired. We believe the goodwill was primarily generated by the value of the synergies created by expanding our non-pipeline liquids handling operations. Furthermore, we expect to fully deduct for tax purposes the entire amount of goodwill we recognized. The “Unfavorable customer contracts” figure represents the amount, on a present value basis, by which the customer contracts were below market day rates at the time of acquisition. This amount is being amortized as a noncash adjustment to revenue over the remaining contract period.

Other

Effective May 1, 2013, we acquired all of Copano’s outstanding units for a total purchase price of approximately $5.2 billion (including assumed debt and all other assumed liabilities). The transaction was a 100% unit for unit transaction with an exchange ratio of 0.4563 of our common units for each Copano common unit. We issued 43,371,210 of our common units valued at $3,733 million as consideration for the Copano acquisition (based on the $86.08 closing market price of a common unit on the NYSE on the May 1, 2013 issuance date). Also, due to the fact that our Copano acquisition included the remaining 50% interest in Eagle Ford that we did not already own, we remeasured our existing 50% equity investment in Eagle Ford to its fair value as of the acquisition date. As a result of our remeasurement, we recognized a $558 million non-cash gain, which represented the excess of the investment’s fair value ($704 million) over our carrying value as of May 1, 2013 ($146 million), and we reported this gain separately as “Gain on remeasurement of previously held equity interest in Eagle Ford to fair value” on our accompanying consolidated statement of income for the nine months ended September 30, 2013.
As of September 30, 2014, our final purchase price allocation related to the Copano acquisition was as follows (in millions):
Purchase Price Allocation:
 
Current assets (including cash acquired of $30)
$
218

Property, plant and equipment
2,788

Investments
300

Goodwill
1,248

Other intangibles
1,375

Other assets
13

Total assets
5,942

Less: Fair value of previously held 50% interest in Eagle Ford
(704
)
Total assets acquired
5,238

Current liabilities
(208
)
Other liabilities
(28
)
Long-term debt
(1,252
)
Noncontrolling interests
(17
)
Common unit consideration
$
3,733


12



The table above reflects changes we made in the first six months of 2014 to our preliminary purchase price allocation as of December 31, 2013. Based on our final measurement of fair values for all of the identifiable tangible and intangible assets acquired and liabilities assumed on the acquisition date, we reduced the preliminary value assigned to (i) “Investments” by $87 million; (ii) “Property, plant and equipment” by $17 million; and (iii) combined working capital items by $3 million.

The “Goodwill” intangible asset amount represents the future economic benefits expected to be derived from this acquisition that are not assignable to other individually identifiable, separately recognizable assets acquired. We believe the goodwill was primarily generated by the value of the synergies created by expanding our natural gas gathering and refined product transportation operations. This goodwill is not deductible for tax purposes, and is subject to an impairment test at least annually. The “Other intangibles, net” asset amount represents the fair value of acquired customer contracts and agreements. We are currently amortizing these intangible assets over an estimated remaining useful life of 25 years.

Effective June 1, 2013, we acquired certain oil and gas properties, rights, and related assets located in the Goldsmith Landreth San Andres oil field unit in the Permian Basin of West Texas from Legado Resources LLC for an aggregate consideration of $298 million, consisting of $280 million in cash and assumed liabilities of $18 million (including $12 million of long-term asset retirement obligations).
For additional information about our Copano and Goldsmith Landreth acquisitions (including our preliminary purchase price allocations as of December 31, 2013), see Note 3 “Acquisitions and Divestitures—Business Combinations and Acquisitions of Investments” to our consolidated financial statements included in our 2013 Form 10-K.

Pro Forma Information

The following summarized unaudited pro forma consolidated income statement information for the nine months ended September 30, 2013 assumes that our acquisitions of (i) APT, (ii) Copano and (iii) the Goldsmith Landreth oil field unit had occurred as of January 1, 2013. We prepared the following summarized unaudited pro forma financial results for comparative purposes only. The summarized unaudited pro forma financial results may not be indicative of the results that would have occurred if we had completed these acquisitions as of January 1, 2013, or the results that will be attained in the future. Amounts presented below are in millions, except for the per unit amounts:
 
Pro Forma
 
Nine Months Ended
September 30, 2013
 
(Unaudited)
Revenues
$
9,837

Income from Continuing Operations
2,465

Loss from Discontinued Operations
(2
)
Net Income
2,463

Net Income Attributable to Noncontrolling Interests
(27
)
Net Income Attributable to KMP
2,436

Limited Partners’ Net Income per Unit:
 
Income from Continuing Operations
$
2.70

Loss from Discontinued Operations
(0.01
)
Net Income
$
2.69


Divestitures

Express Pipeline System

Effective March 14, 2013, we sold both our one-third equity ownership interest in the Express pipeline system and our subordinated debenture investment in Express to Spectra Energy Corp. We received net cash proceeds of $402 million (after paying $1 million in the third quarter of 2013 for both a final working capital settlement and certain
transaction-related selling expenses), and we reported the net cash proceeds received separately as “Proceeds from sale of investments in Express pipeline system” within the investing section of our accompanying consolidated statement of cash

13


flows for the nine months ended September 30, 2013. Additionally, we recognized a combined $224 million pre-tax gain with respect to this sale, and we reported this gain amount separately as “(Loss) Gain on sale of investments in Express pipeline system” on our accompanying consolidated statement of income for the nine months ended September 30, 2013. We also recorded an income tax expense of $84 million related to this gain on sale for the nine months ended September 30, 2013, and we included this expense within Income Tax Expense.” As of the date of sale, our equity investment in Express totaled $67 million and our note receivable due from Express totaled $110 million.

3. Debt
We classify our debt based on the contractual maturity dates of the underlying debt instruments. We defer costs associated with debt issuance over the applicable term. These costs are then amortized as interest expense in our accompanying consolidated statements of income using the effective interest rate method. The following table provides detail on the principal amount of our outstanding debt. The table amounts exclude all debt fair value adjustments, including debt discounts and premiums (in millions).
 
September 30,
2014
 
December 31,
2013
KMEP borrowings:
 
 
 
Senior notes, 2.65% through 9.00%, due 2014 through 2044(a)
$
18,300

 
$
15,600

Commercial paper borrowings(b)
135

 
979

Credit facility due May 1, 2018(c)

 

Subsidiary borrowings (as obligor):
 
 
 

TGP - Senior Notes, 7.00% through 8.375%, due 2016 through 2037
1,790

 
1,790

EPNG - Senior Notes, 5.95% through 8.625%, due 2017 through 2032
1,115

 
1,115

Copano - Senior Notes, 7.125%, due April 1, 2021
332

 
332

Other miscellaneous subsidiary debt
97

 
98

Total debt
21,769

 
19,914

Less: Current portion of debt(d)
(959
)
 
(1,504
)
Total long-term debt(e)
$
20,810

 
$
18,410

__________
(a)
All of our fixed rate senior notes provide that we may redeem the notes at any time at a price equal to 100% of the principal amount of the notes plus accrued interest to the redemption date plus a make-whole premium.
(b)
As of September 30, 2014 and December 31, 2013, the average interest rate on our outstanding commercial paper borrowings was 0.27% and 0.28%, respectively. The borrowings under our commercial paper program were used principally to finance the acquisitions and capital expansions, and in the near term, we expect that our short-term liquidity and financing needs will be met primarily through borrowings made under our commercial paper program.
(c)
See “—Credit Facilities” below.
(d)
Amounts include outstanding commercial paper borrowings, discussed above in footnote (b).
(e)
As of September 30, 2014 and December 31, 2013, our “Debt fair value adjustments increased our debt balances by $1,212 million and $1,214 million, respectively. In addition to all unamortized debt discount/premium amounts and purchase accounting on our debt balances, our debt fair value adjustments also include (i) amounts associated with the offsetting entry for hedged debt and (ii) any unamortized portion of proceeds received from the early termination of interest rate swap agreements. For further information about our debt fair value adjustments, see Note 5 “Risk Management—Debt Fair Value Adjustments.”

Credit Facilities
The following discussions represent the primary revolving credit facility that was available to KMP as of September 30, 2014.  Additionally, on September 19, 2014, in anticipation of the announced Merger Transactions, KMI entered into an agreement for a Replacement Facility as discussed in Note 1, “General-Recent Developments,” that would replace our existing credit facility upon the consummation of the Merger Transactions.

As of both September 30, 2014 and December 31, 2013, we had no borrowings under our $2.7 billion five-year senior unsecured revolving credit facility maturing May 1, 2018. Borrowings under our revolving credit facility can be used for general partnership purposes and as a backup for our commercial paper program. Similarly, borrowings under our commercial paper program reduce the borrowings allowed under our credit facility.


14


We had, as of September 30, 2014, $2,355 million of borrowing capacity available under our credit facility. The amount available for borrowing under our credit facility was reduced by a combined amount of $345 million, consisting of (i) $135 million of commercial paper borrowings; and (ii) $210 million of letters of credit.

Changes in Debt
In the first nine months of 2014, we completed two separate public offerings of senior notes.  We received net proceeds as follows (i) $1,482 million from a February 24, 2014 public offering with a combined total of $1.5 billion in principal amount of senior notes in two separate series, consisting of $750 million of 3.50% notes due March 1, 2021 and $750 million of 5.50% notes due March 1, 2044 and (ii) $1,190 million from a September 11, 2014 public offering with a combined total of $1.2 billion in principal amount of senior notes in two separate series, consisting of $650 million of 4.25% notes due September 1, 2024 and $550 million of 5.40% notes due September 1, 2044. We used the proceeds from our two public offerings to reduce the borrowings under our commercial paper program (reducing our commercial paper borrowings).

4. Partners’ Capital

Equity Issuances
For the nine month period ended September 30, 2014, our equity issuances, which were used to reduce borrowings under our commercial paper program, consisted of the following:
on February 24, 2014, we issued, in a public offering, 7,935,000 of our common units at a price of $78.32 per unit, resulting in net proceeds of $603 million;
during the nine months ended September 30, 2014, we issued 5,513,424 of our common units pursuant to our equity distribution agreements with UBS (including 198,110 common units to settle sales made on or before December 31, 2013), resulting in net proceeds of $441 million; and
during the nine months ended September 30, 2014, we issued 1,734,513 i-units to KMR (including 76,100 i-units to settle sales made on or before December 31, 2013), resulting in net proceeds of $134 million.

Income Allocations

For the purposes of maintaining partner capital accounts, our partnership agreement specifies that items of income and loss shall be allocated among the partners, other than owners of i-units, in accordance with their percentage interests. Normal allocations according to percentage interests are made, however, only after giving effect to any priority income allocations in an amount equal to the incentive distributions that are allocated 100% to our general partner. Incentive distributions are generally defined as all cash distributions paid to our general partner that are in excess of 2% of the aggregate value of cash and i-units being distributed, and we determine the allocation of incentive distributions to our general partner by the amount quarterly distributions to unitholders exceed certain specified target levels, according to the provisions of our partnership agreement.

Partnership Distributions
The following table provides information about our distributions (in millions except per unit and i-unit distributions amounts):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2014
 
2013
 
2014
 
2013
Per unit cash distribution declared for the period
$
1.40

 
$
1.35

 
$
4.17

 
$
3.97

Per unit cash distribution paid in the period
$
1.39

 
$
1.32

 
$
4.13

 
$
3.91

Cash distributions paid in the period to all partners(a)(b)
$
944

 
$
845

 
$
2,757

 
$
2,332

i-unit distributions made in the period to KMR(c)
2,283,909

 
1,880,172

 
6,907,981

 
5,411,720

General Partner’s incentive distribution(d):
 
 
 
 
 
 
 
Declared for the period(e)
$
471

 
$
434

 
$
1,383

 
$
1,248

Paid in the period(b)(c)(f)
$
463

 
$
416

 
$
1,357

 
$
1,198

______________

15


(a)
Consisting of our common and Class B unitholders, our general partner and noncontrolling interests.
(b)
The period-to-period increases in distributions paid primarily reflect the increases in amounts distributed per unit as well as the issuance of additional units.
(c)
Under the terms of our partnership agreement, we agreed that we will not, except in liquidation, make a distribution on an i-unit other than in additional i-units or a security that has in all material respects the same rights and privileges as our i-units.  The number of i-units we distribute to KMR is based upon the amount of cash we distribute to the owners of our common units. When cash is paid to the holders of our common units, we will issue additional i-units to KMR.  The fraction of an i-unit paid per i-unit owned by KMR will have a value based on the cash payment on the common units.  If additional units are distributed to the holders of our common units, we will issue an equivalent amount of i-units to KMR based on the number of i-units it owns. Based on the preceding, the i-units we distributed were based on the $1.39 and $1.32 per unit paid to our common unitholders during the third quarters of 2014 and 2013, respectively, and the $4.13 and $3.91 per unit paid to our common unitholders during the first nine months of 2014 and 2013, respectively.
(d)
Incentive distribution does not include the general partner’s initial 2% distribution of available cash.
(e)
Amounts are net of waived incentive distributions of $33 million and $25 million for the three months ended September 30, 2014 and 2013, respectively, and $99 million and $54 million for the nine months ended September 30, 2014 and 2013, respectively, related to certain acquisitions. In addition, our general partner agreed to waive a portion of our future incentive distributions amounts equal to $34 million for our fourth quarter in 2014, $139 million for 2015, $116 million for 2016, $105 million for 2017, and annual amounts thereafter decreasing by $5 million per year from the 2017 level related to certain acquisitions.
(f)
Amounts are net of waived incentive distributions of $33 million and $25 million for the three months ended September 30, 2014 and 2013, respectively, and $91 million and $36 million for the nine months ended September 30, 2014 and 2013, respectively, related to certain acquisitions.

For additional information about our partnership distributions, see Note 11 “Related Party Transactions—Partnership Interests and Distributions” to our consolidated financial statements included in our 2013 Form 10-K.
Subsequent Events
On October 15, 2014, we declared a cash distribution of $1.40 per unit for the quarterly period ended September 30, 2014.  The distribution will be paid on November 14, 2014 to unitholders of record as of October 31, 2014. KMR will receive a distribution of additional i-units based on the $1.40 distribution per common unit. For each outstanding i-unit that KMR holds, a fraction of an i-unit will be issued. This fraction will be determined by dividing:
$1.40, the cash amount distributed per common unit
by
the average of KMR’s shares’ closing market prices from October 15-28, 2014, the ten consecutive trading days preceding the date on which the shares began to trade ex-dividend under the rules of the NYSE.

5. Risk Management    
Certain of our business activities expose us to risks associated with unfavorable changes in the market price of natural gas, NGL and crude oil. We also have exposure to interest rate risk as a result of the issuance of our debt obligations. Pursuant to our management’s approved risk management policy, we use derivative contracts to hedge or reduce our exposure to certain of these risks.

16


Energy Commodity Price Risk Management
As of September 30, 2014, we had the following outstanding commodity forward contracts to hedge our forecasted energy commodity purchases and sales:
 
Net open position long/(short)
Derivatives designated as hedging contracts
 
 
 
Crude oil fixed price
(22.3)
 
MMBbl
Natural gas fixed price
(25.3)
 
Bcf
Natural gas basis
(23.5)
 
Bcf
Derivatives not designated as hedging contracts
 
 
 
Crude oil fixed price
(0.2)
 
MMBbl
Crude oil basis
(3.3)
 
MMBbl
Natural gas fixed price
(4.5)
 
Bcf
Natural gas basis
(4.1)
 
Bcf
NGL fixed price
(0.4)
 
MMBbl

As of September 30, 2014, the maximum length of time over which we have hedged our exposure to the variability in future cash flows associated with energy commodity price risk is through December 2018.

Interest Rate Risk Management

As of September 30, 2014, we had a combined notional principal amount of $5,775 million of fixed-to-variable interest rate swap agreements, effectively converting the interest expense associated with certain series of our senior notes from fixed rates to variable rates based on an interest rate of LIBOR plus a spread. All of our swap agreements have termination dates that correspond to the maturity dates of the related series of senior notes and, as of September 30, 2014, the maximum length of time over which we have hedged a portion of our exposure to the variability in the value of this debt due to interest rate risk is through March 15, 2035.

As of December 31, 2013, we had a combined notional principal amount of $4,675 million of fixed-to-variable interest rate swap agreements. In February 2014, we entered into four separate fixed-to-variable interest rate swap agreements having a combined notional principal amount of $500 million. These agreements effectively convert a portion of the interest expense associated with our 3.50% senior notes due March 1, 2021, from a fixed rate to a variable rate based on an interest rate of LIBOR plus a spread. Additionally, in September 2014, we entered into five separate fixed-to-variable interest rate swap agreements having a combined notional principal amount of $600 million. These agreements effectively convert a portion of the interest expense associated with our 4.25% senior notes due September 1, 2024, from a fixed rate to a variable rate based on an interest rate of LIBOR plus a spread.


17


Fair Value of Derivative Contracts

The following table summarizes the fair values of our derivative contracts included on our accompanying consolidated balance sheets (in millions):
Fair Value of Derivative Contracts
 
 
 
Asset derivatives
 
Liability derivatives
 
 
 
September 30,
2014
 
December 31,
2013
 
September 30,
2014
 
December 31,
2013
 
Balance sheet location
 
Fair value
 
Fair value
 
Fair value
 
Fair value
Derivatives designated as hedging contracts
 
 
 
 
 
 
 
 
 
Energy commodity derivative contracts
Other current assets/(Other current liabilities)
 
$
42

 
$
18

 
$
(12
)
 
$
(33
)
 
Deferred charges and other assets/(Other long-term liabilities and deferred credits)
 
18

 
58

 
(22
)
 
(30
)
Subtotal
 
 
60

 
76

 
(34
)
 
(63
)
Interest rate swap agreements
Other current assets/(Other current liabilities)
 
111

 
76

 
(2
)
 

 
Deferred charges and other assets/(Other long-term liabilities and deferred credits)
 
163

 
141

 
(68
)
 
(116
)
Subtotal
 
 
274

 
217

 
(70
)
 
(116
)
Total
 
 
334

 
293

 
(104
)
 
(179
)
Derivatives not designated as hedging contracts
 
 
 
 
 
 
 
 
 
Energy commodity derivative contracts
Other current assets/(Other current liabilities)
 
7

 
4

 
(5
)
 
(5
)
Total
 
 
7

 
4

 
(5
)
 
(5
)
Total derivatives
 
 
$
341

 
$
297

 
$
(109
)
 
$
(184
)

Debt Fair Value Adjustments

The offsetting entry to adjust the carrying value of the debt securities whose fair value was being hedged is included within “Debt fair value adjustments” on our accompanying consolidated balance sheets. Our “Debt fair value adjustments” also include all unamortized debt discount/premium amounts, purchase accounting on our debt balances, and any unamortized portion of proceeds received from the early termination of interest rate swap agreements. As of September 30, 2014 and December 31, 2013, these fair value adjustments to our debt balances included (i) $597 million and $645 million, respectively, associated with fair value adjustments to our debt previously recorded in purchase accounting; (ii) $204 million and $101 million, respectively, associated with the offsetting entry for hedged debt; (iii) $470 million and $517 million, respectively, associated with unamortized premium from the termination of interest rate swap agreements; and offset by (iv) $59 million and $49 million, respectively, associated with unamortized debt discount amounts. As of September 30, 2014, the weighted-average amortization period of the unamortized premium from the termination of the interest rate swaps was approximately 16 years.

Effect of Derivative Contracts on the Income Statement
The following three tables summarize the impact of our derivative contracts on our accompanying consolidated statements of income (in millions):

18


Derivatives in fair value hedging
relationships
 
Location of gain/(loss) recognized
in income on derivatives
 
Amount of gain/(loss) recognized in income
on derivatives and related hedged item(a)
 
 
 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
 
 
 
2014
 
2013
 
2014
 
2013
Interest rate swap agreements
 
Interest expense
 
$
(21
)
 
$
(23
)
 
$
103

 
$
(317
)
Total
 
 
 
$
(21
)
 
$
(23
)
 
$
103

 
$
(317
)
Fixed rate debt
 
Interest expense
 
$
21

 
$
23

 
$
(103
)
 
$
317

Total
 
 
 
$
21

 
$
23

 
$
(103
)
 
$
317

______________
(a)
Amounts reflect the change in the fair value of interest rate swap agreements and the change in the fair value of the associated fixed rate debt, which exactly offset each other as a result of no hedge ineffectiveness.
Derivatives in
cash flow hedging
relationships
 
Amount of gain/(loss)
recognized in other 
comprehensive income on
derivative (effective
portion)(a)
 
Location of
gain/(loss)
reclassified from
Accumulated 
other 
comprehensive income
into income
(effective portion)
 
Amount of gain/(loss)
reclassified from
Accumulated other 
comprehensive income
into income
(effective portion)(b)
 
Location of
gain/(loss)
recognized in
income on
derivative
(ineffective portion
and amount
excluded from
effectiveness
testing)
 
Amount of gain/(loss)
recognized in income
on derivative
(ineffective portion
and amount
excluded from
effectiveness testing)
 
 
Three Months Ended
September 30,
 
 
 
Three Months Ended
September 30,
 
 
 
Three Months Ended
September 30,
 
 
2014
 
2013
 
 
 
2014
 
2013
 
 
 
2014
 
2013
Energy commodity derivative contracts
 
$
156

 
$
(102
)
 
Revenues-Natural gas sales
 
$
6

 
$

 
Revenues-Natural gas sales
 
$

 
$

 
 
 
 
 
 
Revenues-Product sales and other
 
(4
)
 
(30
)
 
Revenues-Product sales and other
 
26

 
(8
)
 
 
 
 
 
 
Costs of sales
 
(1
)
 
5

 
Costs of sales
 

 

Total
 
$
156

 
$
(102
)
 
Total
 
$
1

 
$
(25
)
 
Total
 
$
26

 
$
(8
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended
September 30,
 
 
 
Nine Months Ended
September 30,
 
 
 
Nine Months Ended
September 30,
 
 
2014
 
2013
 
 
 
2014
 
2013
 
 
 
2014
 
2013
Energy commodity derivative contracts
 
$
(13
)
 
$
(73
)
 
Revenues-Natural gas sales
 
$
(6
)
 
$

 
Revenues-Natural gas sales
 
$

 
$

 
 
 
 
 
 
Revenues-Product sales and other
 
(36
)
 
(15
)
 
Revenues-Product sales and other
 
(6
)
 
(2
)
 
 
 
 
 
 
Costs of sales
 
7

 

 
Costs of sales
 

 

Total
 
$
(13
)
 
$
(73
)
 
Total
 
$
(35
)
 
$
(15
)
 
Total
 
$
(6
)
 
$
(2
)
______________
(a)
We expect to reclassify an approximate $33 million gain associated with energy commodity price risk management activities included in our Partners’ Capital as of September 30, 2014 into earnings during the next twelve months (when the associated forecasted sales and purchases are also expected to occur); however, actual amounts reclassified into earnings could vary materially as a result of changes in market prices.
(b)
Amounts reclassified were the result of the hedged forecasted transactions actually affecting earnings (i.e., when the forecasted sales and purchases actually occurred).
Derivatives not designated
as accounting hedges
 
Location of gain/(loss) recognized
in income on derivatives
 
Amount of gain/(loss) recognized in income on derivatives
 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
 
 
 
2014
 
2013
 
2014
 
2013
Energy commodity derivative contracts
 
Revenues-Natural gas sales
 
$
4

 
$

 
$
(12
)
 
$

 
 
Revenues-Product sales and other
 
5

 
(11
)
 
4

 
(7
)
 
 
Costs of sales
 
(3
)
 
2

 
4

 
2

 
 
Other expense (income)
 

 
(1
)
 
(2
)
 
(1
)
Total
 
 
 
$
6

 
$
(10
)
 
$
(6
)
 
$
(6
)

Credit Risks

We have counterparty credit risk as a result of our use of financial derivative contracts. Our counterparties consist primarily of financial institutions, major energy companies and local distribution companies. This concentration of

19


counterparties may impact our overall exposure to credit risk, either positively or negatively, in that the counterparties may be similarly affected by changes in economic, regulatory or other conditions.

We maintain credit policies with regard to our counterparties that we believe minimize our overall credit risk. These policies include (i) an evaluation of potential counterparties’ financial condition; (ii) collateral requirements under certain circumstances; and (iii) the use of standardized agreements which allow for netting of positive and negative exposure associated with a single counterparty. Based on our policies, exposure, credit and other reserves, our management does not anticipate a material adverse effect on our financial position, results of operations, or cash flows as a result of counterparty performance.
Our OTC swaps and options are entered into with counterparties outside central trading organizations such as futures, options or stock exchanges. These contracts are with a number of parties, all of which have investment grade credit ratings. While we enter into derivative transactions with investment grade counterparties and actively monitor their ratings, it is nevertheless possible that, from time to time, losses will result from counterparty credit risk in the future.
In conjunction with the purchase of exchange-traded derivative contracts or when the market value of our derivative contracts with specific counterparties exceeds established limits, we are required to provide collateral to our counterparties, which may include posting letters of credit or placing cash in margin accounts. As of both September 30, 2014 and December 31, 2013, we had no outstanding letters of credit supporting our hedging of energy commodity price risks associated with the sale of natural gas, NGL and crude oil.
We also have agreements with certain counterparties to our derivative contracts that contain provisions requiring us to post additional collateral upon a decrease in our credit rating. As of September 30, 2014, we estimate that if our credit rating was downgraded one notch, we would be required to post no additional collateral to our counterparties. If we were downgraded two notches (that is, below investment grade), we would be required to post $2 million of additional collateral.

Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income
Cumulative revenues, expenses, gains and losses that under GAAP are included within our comprehensive income but excluded from our earnings are reported as “Accumulated other comprehensive (loss) income” within “Partners’ Capital” in our consolidated balance sheets. Changes in the components of our Accumulated other comprehensive (loss) income” not including non-controlling interests are summarized as follows (in millions):
 
Net unrealized
gains/(losses)
on cash flow
hedge derivatives
 
Foreign
currency
translation
adjustments
 
Pension and
other
postretirement
liability adjs.
 
Total
Accumulated other
comprehensive
income/(loss)
Balance as of December 31, 2013
$
24

 
$
(4
)
 
$
13

 
$
33

Other comprehensive (loss) income before reclassifications
(13
)
 
(104
)
 
(4
)
 
(121
)
Amounts reclassified from accumulated other comprehensive income
35

 

 

 
35

Net current-period other comprehensive (loss) income
22

 
(104
)
 
(4
)
 
(86
)
Balance as of September 30, 2014
$
46

 
$
(108
)
 
$
9

 
$
(53
)

 
Net unrealized
gains/(losses)
on cash flow
hedge derivatives
 
Foreign
currency
translation
adjustments
 
Pension and
other
postretirement
liability adjs.
 
Total
Accumulated other
comprehensive
income/(loss)
Balance as of December 31, 2012
$
66

 
$
132

 
$
(30
)
 
$
168

Other comprehensive (loss) income before reclassifications
(72
)
 
(72
)
 
32

 
(112
)
Amounts reclassified from accumulated other comprehensive income
15

 

 

 
15

Net current-period other comprehensive (loss) income
(57
)
 
(72
)
 
32

 
(97
)
Balance as of September 30, 2013
$
9

 
$
60

 
$
2

 
$
71


20



6. Fair Value

The fair values of our financial instruments are separated into three broad levels (Levels 1, 2 and 3) based on our assessment of the availability of observable market data and the significance of non-observable data used to determine fair value. Each fair value measurement must be assigned to a level corresponding to the lowest level input that is significant to the fair value measurement in its entirety.
The three broad levels of inputs defined by the fair value hierarchy are as follows:
Level 1 Inputs—quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date;
Level 2 Inputs—inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for substantially the full term of the asset or liability; and
Level 3 Inputs—unobservable inputs for the asset or liability. These unobservable inputs reflect the entity’s own assumptions about the assumptions that market participants would use in pricing the asset or liability, and are developed based on the best information available in the circumstances (which might include the reporting entity’s own data).

Fair Value of Derivative Contracts
The following two tables summarize the fair value measurements of our (i) energy commodity derivative contracts and (ii) interest rate swap agreements, based on the three levels established by the Codification (in millions). Certain of our derivative contracts are subject to master netting agreements.
 
Balance Sheet asset
fair value measurements using
 
Amounts not offset in the Balance Sheet
 
Net Amount
 
Level 1
 
Level 2
 
Level 3
 
Gross Amount
 
Financial Instruments
 
Cash Collateral Held(b)
As of September 30, 2014
 
 
 
 
 
 
 
 
 
 
 
 
 
Energy commodity derivative contracts(a)
$
4

 
$
59

 
$
4

 
$
67

 
$
(27
)
 
$

 
$
40

Interest rate swap agreements
$

 
$
274

 
$

 
$
274

 
$
(44
)
 
$

 
$
230

As of December 31, 2013
 
 
 
 
 
 
 
 
 
 
 
 
 
Energy commodity derivative contracts(a)
$
4

 
$
46

 
$
30

 
$
80

 
$
(44
)
 
$

 
$
36

Interest rate swap agreements
$

 
$
217

 
$

 
$
217

 
$
(28
)
 
$

 
$
189

 
Balance Sheet liability
fair value measurements using
 
Amounts not offset in the Balance Sheet
 
Net Amount
 
Level 1
 
Level 2
 
Level 3
 
Gross Amount
 
Financial Instruments
 
Cash Collateral Posted(c)
As of September 30, 2014