Capital Product Partners L.P.(CPLP) - 2022 Q4 - Annual Report

PART I Key Information The Partnership faces principal risks across its industry, operations, financing, regulations, and partnership structure Risks Related to Our Industry Performance is subject to cyclical shipping markets, vessel oversupply, global economic conditions, and inflationary pressures - The LNG, container, and drybulk shipping industries are cyclical and volatile, with recent market fluctuations across all segments[454] - An oversupply of vessel capacity is a significant risk, with large orderbooks for LNG (~50%) and container (~29.1%) vessels as of late 2022[470] - Shipping demand is influenced by global economic conditions, trade policies, and geopolitical events like the Russia-Ukraine conflict[470][487] - Worldwide inflationary pressures have increased operating costs and could potentially reduce demand for shipping services[456][485] - Vessel values are historically volatile, and declines could lead to impairment charges or breach of loan covenants[457][471] Risks Related to Our Business and Operations Operational success depends on managing charterer concentration, reliance on managers, and fleet maintenance risks - The company derives a significant portion of its revenues from a limited number of charterers, with BP (28%), HMM (18%), Cheniere (17%), and Hapag-Lloyd (16%) as main sources in 2022[490] - The business depends significantly on its Managers and General Partner for essential services and day-to-day management[492][479] - Scrubber retrofitting for three vessels in 2023 will require 40-75 off-hire days per vessel and incur significant costs[494] - The fleet's DWT weighted average age was 6.7 years as of March 2023, and an aging fleet may lead to higher costs and lower desirability[495] - Since 2011, the board has not deducted cash reserves for replacement capital expenditures, increasing reliance on external financing[504] Risks Related to Financing Activities Significant debt of $1.3 billion exposes the company to restrictive covenants and rising interest rate risks - As of December 31, 2022, total debt was $1,299.2 million, restricting financial flexibility and cash distributions[507] - Financing arrangements contain restrictive covenants, including minimum liquidity and maximum leverage ratios[508][529] - A significant portion of debt ($889.8 million) is floating rate, making the company vulnerable to rising interest rates[511][558] - The phase-out of LIBOR introduces uncertainty, as $784.8 million of debt was based on LIBOR as of year-end 2022[2][512] Regulatory Risks Operations are subject to extensive regulations, including economic sanctions and stringent environmental laws - The company is exposed to risks from economic sanctions and embargoes, particularly those related to Russia[3][4][513] - Stringent environmental laws (e.g., IMO 2020, EU ETS) require substantial compliance costs and may limit operations[5][515][6] - Vessels must maintain class certification through regular surveys to remain insured and employable[7][516] - The business is vulnerable to cyber-attacks, which could disrupt operations and lead to material adverse impacts[10][540] Risks Inherent in an Investment in Us Investment risks include discretionary distributions, conflicts of interest, and limited unitholder rights - The board of directors determines the cash distribution policy and can change it at any time, with no guarantee of payment[14][544][545] - The Marinakis family holds a 30.2% beneficial interest, creating significant influence and potential conflicts of interest[17][570][370] - The partnership agreement limits the fiduciary duties of the General Partner and directors to unitholders[19][24][25] - Unitholder voting rights are limited, with a 4.9% cap for any person or group owning more than 5% of units[52][555] - The General Partner has a call right to acquire all outstanding units if its ownership exceeds 90% of a class[28][610] Tax Risks Unitholders face potential adverse tax consequences from PFIC classification and other U.S. tax rules - There is a risk of classification as a "passive foreign investment company" (PFIC), which would have adverse U.S. tax consequences[104][105][145] - The Partnership may be subject to a 4% U.S. federal income tax on U.S. source income if it fails to qualify for the Section 883 exemption[106][107] - Unitholders may be subject to income tax in non-U.S. countries, such as Greece, if the Partnership is deemed to conduct business there[108][109] Information on the Partnership The Partnership focuses on fleet expansion and long-term charters with a modern fleet of 22 vessels History and Development of the Partnership The Partnership executed significant fleet expansion and financing activities from 2021 through early 2023 - In 2022-2023, CPLP acquired one LNG carrier and two container vessels from Capital Maritime, with a third pending[114][116][117] - In July 2022, the Partnership sold two container vessels for $130.0 million[81] - In 2021, the Partnership acquired six LNG carriers and three container vessels, significantly expanding into the LNG sector[84][85][87] - A new $30.0 million unit repurchase program was approved in January 2023 for a two-year period[113] Financing Activities (2021-2023) | Date | Activity | Amount | Purpose | | :--- | :--- | :--- | :--- | | Feb 2023 | Sale & Leaseback (CMBFL) | $184.0M | Finance LNG/C Asterix I acquisition | | Dec 2022 | Japanese Sale & Lease Back | $108.0M | Finance M/V Itajai Express acquisition | | Oct 2022 | Credit Facility (HCOB) | $105.0M | Finance M/V Manzanillo Express acquisition | | Jul 2022 | Bonds (Athens Stock Exchange) | €100.0M | General corporate purposes | | Oct 2021 | Bonds (Athens Stock Exchange) | €150.0M | General corporate purposes | Business Overview The business strategy centers on accretive fleet growth and securing medium- to long-term charters - The Partnership's primary strategies are to expand the fleet through accretive acquisitions and maintain long-term fixed charters[74][600] Fleet Composition as of March 31, 2023 | Vessel Type | Count | DWT (millions) | Capacity | Avg. Age (DWT weighted) | | :--- | :--- | :--- | :--- | :--- | | Neo-Panamax Container | 11 | 1.1 | 90,889 TEU | 7.8 years | | Panamax Container | 3 | 0.2 | 15,267 TEU | 14.9 years | | Capesize Bulk Carrier | 1 | 0.2 | N/A | 12.7 years | | LNG Carrier | 7 | 0.6 | 1.2M CBM | 1.6 years | | Total | 22 | 2.1 | | ~7.2 years | - Key customers include major industry players such as BP, Cheniere, Engie, HMM, CMA CGM, and Hapag-Lloyd[72][98][99] - The fleet is managed by Capital-Executive and Capital Gas under floating fee management agreements[73][79][102] - Operations are extensively regulated by international, national, and regional bodies covering environment, safety, and security[172][535] Organizational Structure The Partnership is a Marshall Islands limited partnership with 29 wholly-owned vessel-owning subsidiaries - CPLP is a Marshall Islands limited partnership with 29 wholly-owned subsidiaries in the Marshall Islands, Liberia, and Cyprus[213] - 22 of the significant subsidiaries are vessel-owning or leasing entities[213][236] Property, Plants and Equipment The Partnership's material property consists almost exclusively of its fleet of vessels securing its debt - The company's primary material property consists of its vessels, with no other significant physical properties owned[237] - All vessels serve as security for the company's financing arrangements[237] Operating and Financial Review and Prospects Financial performance improved in 2022 due to fleet expansion, though debt and interest costs also rose Operating Results Revenues and net income grew significantly in 2022, driven by fleet expansion and higher charter rates Financial Performance (Year Ended Dec 31) | Metric | 2022 | 2021 | | :--- | :--- | :--- | | Total Revenues | $299.1M | $184.7M | | Operating Income | $182.7M | $118.1M | | Interest Expense | ($55.4M) | ($20.1M) | | Net Income | $125.4M | $98.2M | - The $114.4 million increase in revenue was primarily due to the net addition of 3.4 vessels on average, especially higher-earning LNG carriers[251][269] - Total voyage expenses increased by $5.5 million to $16.2 million in 2022 due to the larger fleet and more voyage charters[254] - Vessel operating expenses rose by $20.4 million to $67.5 million in 2022, reflecting the increased number of vessels[272] - Interest expense and finance costs increased by $35.3 million due to higher average debt and a rise in the average interest rate to 4.1%[259][274] Liquidity and Capital Resources Liquidity relies on cash from operations and external financing to service debt and fund growth - Primary sources of funds are cash from operations, bank borrowings, and sale-leaseback arrangements[277][302] Key Liquidity and Capital Figures (as of Dec 31, 2022) | Metric | Value | | :--- | :--- | | Total Cash & Cash Equivalents | $154.8 million | | Total Debt | $1,299.2 million | | Total Partners' Capital | $638.4 million | Cash Flow Summary (Year Ended Dec 31) | Cash Flow Activity | 2022 | 2021 | | :--- | :--- | :--- | | Net Cash from Operating Activities | $172.6M | $111.2M | | Net Cash Used in Investing Activities | ($14.1M) | ($175.1M) | | Net Cash (Used in)/Provided by Financing Activities | ($35.1M) | $40.6M | - Financing arrangements contain covenants requiring a minimum liquidity of $0.5M per vessel and a maximum leverage ratio of 0.75[508][338] Critical Accounting Estimates Vessel impairment testing is the most critical estimate, highly sensitive to future charter rate assumptions - The most critical accounting estimate is the impairment of vessels, recognized if carrying value exceeds future net cash flows[343][856] - The impairment analysis relies on key assumptions including 10-year historical average charter rates and a 99.5% utilization rate[325][66][327] - As of December 31, 2022, the carrying value of certain vessels exceeded their market value by $5.9 million, but passed the cash flow test[589][324] - The impairment test is highly sensitive to charter rates; a 32.3% decline would be needed to trigger an impairment on the Cape vessel[327][347] Directors, Senior Management and Employees The Partnership is managed by its General Partner under the oversight of a seven-member Board of Directors - The Partnership is managed by its General Partner, with oversight from a seven-member Board of Directors, five of whom are elected[378][26] Key Management Personnel | Name | Position | | :--- | :--- | | Keith Forman | Director and Chairman of the Board | | Gerasimos (Jerry) Kalogiratos | Director and CEO of our General Partner | | Nikolaos Kalapotharakos | CFO of our General Partner | | Spyridon Leousis | CCO of our General Partner | - The Board has an independent Audit Committee, Conflicts Committee, and Compensation Committee[43][361] - For 2022, directors received aggregate cash compensation of $0.6 million, and the General Partner was paid $2.05 million for services[389][94] - Under the Omnibus Incentive Compensation Plan, 743,800 unvested units were awarded in March 2022[366][367] Major Unitholders and Related-Party Transactions The Marinakis family holds a 30.2% beneficial interest, leading to numerous related-party transactions - As of April 17, 2023, the Marinakis family may be deemed to beneficially own a 30.2% interest in the Partnership[370] - Significant related-party transactions in 2022-2023 included the acquisition of three vessels from Capital Maritime[411][412][402] - In 2021, the Partnership acquired nine vessels from related parties, involving cash, debt, and the issuance of 1,153,846 common units[413][414][415] - The Partnership has floating rate management agreements with Capital-Executive and Capital Gas, both affiliated with the Marinakis family[403][404] - Conflicts of interest exist due to the relationships, and the partnership agreement modifies fiduciary duties to permit these transactions[1018][1035] Financial Information The Partnership aims to distribute all available cash quarterly, subject to board discretion and IDR tiers - The Partnership's policy is to distribute all 'available cash' quarterly, after expenses and reserves set by the board[1076][957] - Distributions are characterized as from 'operating surplus' first, then 'capital surplus'[1081][648] - The General Partner holds Incentive Distribution Rights (IDRs), entitling it to an increasing share of cash distributions[644][1106] Incentive Distribution Rights (IDR) Tiers | Distribution Level | Total Quarterly Distribution per Unit | Unitholders' Share | General Partner's Share | | :--- | :--- | :--- | :--- | | Minimum Quarterly | Up to $1.6275 | 98% | 2% | | First Target | Up to $1.75* | 98% | 2% | | Second Target | Above $1.75 up to $1.8725 | 85% | 15% | | Third Target | Above $1.8725 up to $2.0475 | 75% | 25% | | Thereafter | Above $2.0475 | 65% | 35% | - The board of directors has broad discretion in establishing reserves, which affects the amount of available cash for distribution[958][1053] Additional Information This section covers governance, material contracts, and key tax considerations for the Marshall Islands entity Taxation The Partnership is a tax-exempt Marshall Islands entity that has elected to be taxed as a U.S. corporation - The Partnership and its subsidiaries are not subject to income or capital gains tax in the Marshall Islands[655][680] - For U.S. federal income tax purposes, the Partnership has elected to be taxed as a corporation[683] - The Partnership believes it qualifies for the Section 883 Exemption, exempting its U.S. source shipping income from U.S. tax[686][687][688] - The Partnership believes it is not a Passive Foreign Investment Company (PFIC), treating charter income as non-passive services income[699][718] - Distributions to U.S. Holders are generally treated as dividends and may be 'qualified dividend income' taxed at preferential rates[669][696] Quantitative and Qualitative Disclosures about Market Risk The Partnership is primarily exposed to foreign exchange, interest rate, inflation, and credit risks - The company manages foreign currency risk on its Euro-denominated bonds by using cross-currency swap agreements[739] - The Partnership is exposed to interest rate risk from its floating-rate debt; a 1% rate increase would have raised 2022 interest expense by $9.3 million[741][905] - Inflationary pressures have increased operating, voyage, and administrative costs, with management fees also subject to CPI adjustment[762] - Credit risk is concentrated with cash held at a few financial institutions and revenues derived from a few key charterers[741][953] Controls and Procedures Management and an independent auditor concluded that disclosure and internal controls were effective as of year-end 2022 - Management concluded that as of December 31, 2022, the Partnership's disclosure controls and procedures were effective[745] - Management assessed internal control over financial reporting based on the 2013 COSO framework and concluded that it was effective[767] - The independent auditor, Deloitte, issued an unqualified attestation report on the effectiveness of internal controls[768][795] - No material changes in internal control over financial reporting occurred during the year[935] PART III Financial Statements This section contains the Partnership's audited consolidated financial statements for 2020, 2021, and 2022 Notes to the Consolidated Financial Statements Notes detail vessel transactions, $1.3 billion in debt, and significant related-party dealings - In 2022, the Partnership acquired one vessel and sold two others, recognizing a gain on sale of $47.3 million[747][788] - In 2021, the Partnership acquired nine vessels and sold two, recognizing a gain on sale of $46.8 million[875][747] Long-Term Debt Composition (as of Dec 31, 2022) | Debt Type | Amount (in millions) | | :--- | :--- | | Credit Facilities | $215.8 | | Sale and Lease Back Agreements | $814.8 | | Unsecured Bonds | $266.6 | | Seller's Credit | $6.0 | | Total Debt | $1,303.2 | - Debt arrangements contain financial covenants, including a minimum EBITDA to net interest expense ratio of 2:1[673] - The Partnership has significant related-party transactions for vessel acquisitions and management services[863][864][867]