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PETROLOGISTICS LP - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

August 11, 2014

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS Unless the context otherwise requires, references in this report to "PetroLogistics" for periods after the closing of our initial public offering (the "IPO") on May 9, 2012, refer to PetroLogistics LP. References in this Report to our "Sponsors" refer to Lindsay Goldberg LLC ("Lindsay Goldberg") and York Capital Management ("York Capital"). References to FHRHC refer to Flint Hills Resources Houston Chemical, LLC. For periods prior to the Merger, GP Equity Transfer, MLP Merger and GP Merger, references to "we," "us," "our" or like terms refer to PetroLogistics LP, unless the context otherwise requires. For periods after the Merger, GP Equity Transfer, MLP Merger and GP Merger, references to the "Company," "FHRHC," "we," "us," "our" or like terms refer to Flint Hills Resources Houston Chemical, LLC, unless the context otherwise requires. You should read the following discussion of the financial condition and results of operations for PetroLogistics in conjunction with (a) our accompanying interim consolidated financial statements and related notes (included elsewhere in this Report); (b) our consolidated financial statements and related notes included in our Form 10-K for the year ended December 31, 2013 (the "2013 Form 10-K"); and (c) our management's discussion and analysis of financial condition and results of operations included in our 2013 Form 10-K.



Forward-Looking Statements

This Report, including this Management's Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements. Statements that are predictive in nature, that depend upon or refer to future events or conditions or that include the words "will," "believe," "expect," "anticipate," "intend," "estimate" and other expressions that are predictions of or indicate future events and trends and that do not relate to historical matters identify forward-looking statements. Our forward-looking statements include statements about our business strategy, our industry, our future profitability, our cash distributions, our expected capital expenditures and the impact of such expenditures on our performance. These statements involve known and unknown risks, uncertainties and other factors that may cause our actual results and performance to be materially different from any future results or performance expressed or implied by these forward-looking statements including, but not limited to, the factors discussed under the caption "Factors Affecting the Comparability of Future Results" and those set forth under Part I, Item 1A, under the heading "Risk Factors" in our 2013 Form 10-K. You should not place undue reliance on our forward-looking statements. Although forward-looking statements reflect our good faith beliefs, forward-looking statements involve known and unknown risks, uncertainties and other factors, which may cause our actual results, performance or achievements to differ materially from anticipated future results, performance or achievements expressed or implied by such forward-looking statements. The forward-looking statements made herein are made only as of the date of this Report. We undertake no obligation to publicly update or revise any forward-looking statements after the date they are made, whether as a result of new information, future events, changed circumstances or otherwise, unless required by law.



Merger and Subsequent Events

On July 16, 2014, PetroLogistics completed the Merger pursuant to which it became a subsidiary of New Parent. For additional information on the Merger and certain events following the Merger, see the Explanatory Note at the beginning of this Report and Note 10 to the notes to consolidated financial statements included elsewhere in this Report. 21



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Overview

We currently own and operate the only U.S. propane dehydrogenation facility (or "our facility") producing propylene from propane. Propylene is one of the basic building blocks for petrochemicals that is utilized in the production of a variety of end uses including paints, coatings, building materials, clothing, automotive parts, packaging and a range of other consumer and industrial products. We are located in the vicinity of the Houston Ship Channel. We also have access to a global fractionation and storage hub for propane located in Mt. Belvieu, Texas. Our location provides us with access and connectivity to both customers and feedstock suppliers. As of June 30, 2014, we had multi-year contracts for the sale of our propylene with The Dow Chemical Company ("Dow"), Total Petrochemicals & Refining USA, Inc. ("Total"), BASF Corporation ("BASF') and INEOS Olefins and Polymers USA ("INEOS") that expire between 2016 and 2018 and a contract with LyondellBasell Industries N.V. ("LyondellBasell") that ends in December 2014. These customer contracts provide for minimum and maximum offtake volumes, with the minimum customer-contracted volumes representing approximately 75% of our current facility capacity and the maximum reflecting approximately 96% of our current facility capacity. Each of these customer contracts contain pricing terms based upon market rates. In addition to our contracted sales, we make additional propylene sales on a spot basis. Also, if necessary, we may purchase propylene in order to meet short-term customer obligations. Propylene comprised approximately 97% of our sales during both the three and six months ended June 30, 2014. Propylene also comprised 98% of our sales during both the three and six months ended June 30, 2013. In addition to propylene, we produce commercial quantities of hydrogen, C4 mix stream and C5+ stream.



Factors Affecting the Comparability of Future Results

Our historical results of operations and cash flows may not be indicative of results of operations and cash flows to be expected in the future, principally for the following reasons:



· We will periodically experience planned and unplanned downtime. Safe and

reliable operations at our facility are critical to our performance and

financial results. As such, we plan for periodic periods of major maintenance,

during which the most significant activity is the replacement of the reactor

catalyst which is required approximately every three years based on estimated

catalyst life. Our first triennial turnaround commenced on September 28, 2013,

and lasted 32 days and had a total cost of $47.4 million which included

capitalized and deferred major maintenance costs and repairs and maintenance

expense. The scope of the work completed during the 2013 turnaround included

additional work within the reactors and the completion of other projects that

were designed to improve our reliability. The catalyst change-out projects may

last more or less than 32 days depending on the scope of the actual work

performed during the turnaround. We anticipate future catalyst change-out

projects to be similar as to time and cost, although the cost and duration of

other work performed during that time may vary. Also, we may undertake additional major maintenance and/or expansion projects. If we elect to undertake such projects, these projects will require additional time and expense. Our results of operations for the years in which we complete our triennial maintenance project, or turnaround, will be affected by the costs associated with the turnaround. Extraordinary maintenance activities performed during the turnaround which do not qualify for deferral are expensed, affecting our net income, and we will continue to incur production overhead costs during a turnaround, which also affects net income. Our sales might be affected by the lack of production during the turnaround, and we may purchase propylene inventory in order to supply customers during the turnaround, which may further increase our costs of sales. The additional capital costs and deferred maintenance costs incurred during a turnaround and expenses associated with extraordinary maintenance activities will affect our cash flows. 22



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· Our historical results of operations reflect losses on commodity derivative

contracts that may not be indicative of future results of operations.

Commencing October 2011 through March 2012, we entered into commodity

derivative contracts (the "propane swaps") with settlement dates in 2012 and

2013. On April 19, 2013, we, PL Manufacturing and the counterparty to the

propane swaps agreed to terminate the propane swaps remaining as of May 1,

2013. While we did not ultimately bear the cost of the propane swaps as a

result of an omnibus agreement (the "omnibus agreement") among our General

Partner, PetroLogistics, Propylene Holdings, PL Propylene, and PL

Manufacturing, we remained a party to the propane swaps, and were obligated to

make payments to the propane swap counterparties as they came due and to post

any collateral as required, under the terms of the propane swaps. As a result,

we recorded the fair value of the propane swaps on our consolidated balance

sheets with the related charge reflected in our consolidated statements of

comprehensive income. Volatility in the propane and crude oil commodity

markets significantly affected the fair value of our commodity derivative

contracts which significantly affected the gains or losses on commodity

derivative contracts recognized in our consolidated statements of comprehensive

income. With the termination of the propane swaps, we will no longer incur

such gains or losses.



· As the result of the Merger, our common units are no longer listed or traded on

the New York Stock Exchange and our Sponsors are no longer our controlling

Unitholders. Following the Merger, we are a subsidiary of Flint Hills

Resources, LLC. Further, in connection with the Merger, the board of directors

of our General Partner and each of our officers, including our co-chief

executive officers, our chief financial officer and our general counsel,

resigned. As a result, following the Merger we have a new owner and new senior

management. We expect our new management will evaluate our business and

operations and may make changes in how we operate. At the present time, we

cannot anticipate what changes may occur or the potential impact of these changes on our operations or results of operations.



Factors Affecting Results

We believe key factors that impact our operating results are (1) the propane-to-propylene spread, (2) our facility's capacity utilization and (3) customer sales.

Propane-to-Propylene Spread. The price spread between propane, our sole feedstock, and propylene, our primary product, largely determines our gross margin and is the key driver of our profitability.

Propylene sales constitute substantially all of our sales. Propylene is a commodity, and its price can be cyclical and highly volatile. The price of propylene depends on a number of factors, including general economic conditions, cyclical trends in end-user markets and supply and demand imbalances. At June 30, 2014, the customers under our propylene sales contracts (Dow, Total, BASF, INEOS and LyondellBasell) each paid market-based prices for propylene. A significant decrease in propylene prices would have a material adverse effect on revenue generated from these customers. In addition, a decrease in the price of propylene would result in decreased revenue from any sales of propylene on the spot market. Assuming annual sales of 1.3 billion pounds, a one cent increase (decrease) in the propane-to-propylene spread results in an annual increase (decrease) of $13 million in gross margin and approximately $0.09 per unit in distributable cash flow on an annual basis. Propane is the sole feedstock in our production process, and the cost of propane represents a substantial portion of our cost of sales. At June 30, 2014, Enterprise Products Operating LLC (together with its affiliates, "Enterprise") supplied 100% of our required propane feedstock volume under a multi-year contract at market-based prices, which prices are subject to fluctuations in response to changes in supply, demand, market uncertainties and a variety of additional factors beyond our control. See "Item 3. Quantitative and Qualitative Disclosures About Market Risk." 23



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Capacity Utilization. Our facility had an original nameplate capacity of 1.2 billion pounds of propylene annually. However, based on plant optimization and operating improvements, our facility currently has an annual production capacity of approximately 1.4 billion pounds. Actual annual production will vary based on a number of factors, including the amount of downtime for planned and unplanned maintenance on the facility and the overall efficiency of the facility. Any significant planned or unplanned downtime may affect not only production, and therefore sales, but also capital expenditures and direct operating expenses, primarily maintenance expenses and fuel and utilities. Customer Sales. Our results are affected by customer demand. When propylene production exceeds customer nominations, we build inventory for future sales or seek opportunities to sell the excess production on the spot market. When customer nominations exceed our propylene production and we elect not to declare force majeure, we satisfy the shortfall out of inventory or purchase propylene on the spot market. In certain circumstances, a customer will nominate more than it will actually take in a month. In those situations, we deliver the excess product into storage and defer the sales recognition until the customer takes actual delivery. We invoice customers for quantities delivered to the customer and for quantities delivered into storage on the customer's behalf and are paid by the customer based on its actual monthly nominations. As a result of the foregoing, customer billings in one month may not result in sales until a future month. Results of Operations The period-to-period comparisons of our results of operations have been prepared using the historical periods included in our consolidated financial statements. In order to effectively review and assess our historical financial information below, we have also included a description of the components of the various financial statement line items included in this Report.



Sales. Sales are comprised of propylene sales and by-product sales, which include hydrogen, C4 mix stream and C5+ stream.

Cost of Sales. Cost of sales represents the costs of propylene and by-products sold. These costs include the cost of propane, fuel and utilities used in the propylene production process, as well as direct operating expenses and insurance and property tax expenses associated with our facility. Direct operating expenses include all direct and indirect labor at our facility, materials, supplies, and other expenses associated with the operation and maintenance of the facility. Depreciation, amortization and accretion expenses, exclusive of amortization of deferred financing fees, as well as equity-based compensation expense for awards granted to operating personnel are also included within cost of sales. During periods in which our facility operates below normal capacity, we record charges to cost of sales to reflect unabsorbed fixed overhead costs. General and Administrative Expense. General and administrative expense includes salary and benefits costs for executive management, accounting and information technology personnel, as well as legal, audit, tax and other professional service costs and charges for equity-based compensation expense. Also included in general and administrative expense is development expense which includes preliminary engineering and design work for capital projects which do not qualify for capitalization under GAAP. (Gain) Loss on Derivatives. Our propane swaps were recorded as derivative assets and liabilities, as applicable, at fair value on our consolidated balance sheets. Our derivative contracts did not qualify for hedge accounting treatment. Consequently, the associated realized and unrealized gains and losses were recorded as current expense or income in the consolidated statements of comprehensive income. Unrealized gains or losses on derivatives represent the non-cash change in the fair value of these derivative instruments and do not impact operating cash flows until settlement occurs. For further discussion see "-Liquidity and Capital Resources." 24



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Interest Expense, net. Interest expense, net, includes expense incurred on outstanding debt balances, the amortization of loan discount and deferred financing fees and loan commitment expenses under our credit facilities. Loan commitment expense is comprised of the fees assessed on the unutilized portion of our credit facility. Interest income results from earnings on available cash balances and is offset against interest expense. Income Tax Expense. As an entity operating in the State of Texas, we are subject to the Texas Margin Tax. This tax represents a tax on gross margin, as adjusted, and is reported as income tax expense in the accompanying statements of comprehensive income. Three Months Ended June 30, 2014 Compared to Three Months Ended June 30, 2013 Three Months Ended June 30, Increase/(Decrease) 2014 2013 % (Unaudited) (Amounts in Thousands) Sales $ 211,916$ 159,378$ 52,538 33 % Cost of sales 144,496 111,081 33,415 30 % Gross profit 67,420 48,297 19,123 40 % General and administrative expense 10,622 5,321 5,301 100 % (Gain) loss on derivatives, net - (5,438 ) (5,438 ) (100 )% Operating income 56,798 48,414 8,384 17 % Interest expense, net (6,447 ) (6,431 ) 16 0 % Net income before income tax expense 50,351 41,983 8,368 20 % Income tax expense (1,084 ) (576 ) 508 88 % Net income $ 49,267$ 41,407$ 7,860 19 % Sales. For the three months ended June 30, 2014 and 2013, we recognized sales on approximately 314.6 million and 264.6 million pounds of propylene, respectively. Propylene produced and delivered out of storage increased from 3.2 million pounds in the second quarter of 2013 compared to 20.4 million pounds in the second quarter of 2014. Also contributing to the increase in sales was an increase in the average polymer grade contract benchmark propylene price. The average polymer grade contract benchmark propylene price in the three months ended June 30, 2014, was 69.7 cents per pound compared to an average of 63.3 cents per pound for the three months ended June 30, 2013, an increase of 6.4 cents per pound or 10%. Three Months Ended June 30, Increase/(Decrease) 2014 2013 % (Unaudited) (Amounts in Thousands) Propane $ 93,980$ 70,449$ 23,531 33 % Fuel and utilities 12,809 10,498 2,311 22 % Depreciation, amortization and accretion 11,287 10,670 617 6 % Insurance and property taxes 3,940 4,504 (564 ) (13 )% Direct operating expenses and other 11,953 8,604 3,349 39 % Total production costs 133,969 104,725 29,244 28 % Purchased propylene 6,139 12,916 (6,777 ) (52 )% Change in inventory 4,388 (6,560 ) 10,948 167 % Cost of sales $ 144,496$ 111,081$ 33,415 30 % 25



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Cost of Sales. Cost of sales was $144.5 million, or approximately 68% of sales for the three months ended June 30, 2014, compared to $111.1 million, or approximately 70% of sales, for the same period during 2013, which represents an increase of $33.4 million. Propylene production for the second quarter of 2014 totaled approximately 296.0 million pounds of propylene compared to 254.8 million pounds of propylene produced during the second quarter of 2013, which represents an increase in production of approximately 16%. The primary component of cost of sales was the propane feedstock, which represented approximately 70% and 67% of total production costs for the three months ended June 30, 2014 and 2013, respectively. An increase in propane pricing from an average of $0.91 per gallon in 2013 to $1.06 per gallon in 2014 combined with an increase in propylene production in the second quarter of 2014 compared to the same period in 2013 resulted in an increase in propane expense of $23.5 million. In the second quarter of 2013, we purchased propylene from third parties for $12.9 million in anticipation of our October 2013 triennial turnaround as compared to $6.1 million of propylene purchased from third parties in the second quarter of 2014. The change in inventory represents the change in the production value of the product inventory between the beginning and end of the period based on the weighted average cost of production. This amount fluctuated with our average cost of production and the amount of product inventory we carried. During the quarter ended June 30, 2013, we recognized a gain of approximately $3.9 million for insurance recoveries for losses incurred in 2011 related to our gas turbines and 2012 related to a compressor. We have reported the gain from the insurance recoveries against cost of sales for the three months ended June 30, 2013, as the losses for repairs on the equipment was originally recorded as cost of sales. Cost of sales for the three months ended June 30, 2013, before the insurance recoveries totaled $115.0 million. General and Administrative Expense. General and administrative expense was $10.6 million for the three months ended June 30, 2014, compared to $5.3 million for the three months ended June 30, 2013, which represented an increase of $5.3 million. The higher general and administrative expense for the three months ended June 30, 2014, was primarily attributable to an additional $6.7 million in expenses related to professional services related to the Merger. (Gain) Loss on Derivatives. The net gain on derivatives represented the net realized and unrealized gains and losses on the propane swaps. We recorded the propane swaps at fair value using observable inputs based on market data obtained from independent sources. Because the propane swaps did not qualify for hedge accounting treatment, the mark-to-market adjustments were reported in our consolidated statements of comprehensive income. We incurred no gains or losses associated with propane swaps during the three months ended June 30, 2014, as all swap positions were terminated during the second quarter of 2013. The net gain on derivatives of $5.4 million for the three months ended June 30, 2013, was comprised of mark-to-market unrealized gains of $44.6 million and realized losses of $39.2 million which were recognized at each monthly settlement date. Interest Expense, net. Interest expense of $6.4 million was incurred for the three months ended June 30, 2014, on an average daily debt balance of $365.8 million. For the three months ended June 30, 2013, we incurred $6.4 million in interest expense on an average debt balance of $365.0 million. Total interest expense for the three months ended June 30, 2014 and 2013, includes $0.5 million of amortized deferred financing costs. Loan commitment expense was $0.2 million for the three months ended June 30, 2014 and 2013. Income Tax Expense. Income tax expense was $1.1 million for the three months ended June 30, 2014, compared to $0.6 million for the three months ended June 30, 2013, in each case, resulting from income taxes incurred on gross margin with the State of Texas. 26



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Six Months Ended June 30, 2014 Compared to Six Months Ended June 30, 2013

Six Months Ended June 30, Increase/(Decrease) 2014 2013 % (Unaudited) (Amounts in Thousands) Sales $ 431,904$ 368,088$ 63,816 17 % Cost of sales 306,085 225,204 80,881 36 % Gross profit 125,819 142,884 (17,065 ) (12 )% General and administrative expense 15,365 10,758 4,607 43 % (Gain) loss on derivatives, net - (1,700 ) (1,700 ) (100 )% Operating income 110,454 133,826 (23,372 ) (17 )% Interest expense, net (12,885 ) (13,549 ) (664 ) (5 )% Loss on extinguishment of debt - (20,446 ) (20,446 ) (100 )% Net income before income tax expense 97,569 99,831 (2,262 ) (2 )% Income tax expense (1,635 ) (1,347 ) 288 21 % Net income loss $ 95,934$ 98,484$ (2,550 ) (3 )% Sales. For the six months ended June 30, 2014 and 2013, we recognized sales on approximately 625.3 million and 553.3 million pounds of propylene, respectively. Propylene produced and delivered out of storage increased from 4.6 million pounds in the six months ended June 30, 2013, compared to 15.2 million pounds in the six months ended June 30, 2014. Also contributing to the increase in sales was an increase in the average benchmark polymer grade propylene price of 2.3 cents per pound from an average of 69.2 cents per pound for the six months ended June 30, 2013, to an average of 71.5 cents per pound for the six months ended June 30, 2014. In addition to the increase in propylene sales, by-product sales increased $3.2 million in the six months ended June 30, 2014, compared to the comparable period of 2013 as a direct result of higher propylene production volume in 2014. Six Months Ended June 30, Increase/(Decrease) 2014 2013 % (Unaudited) (Amounts in Thousands) Propane $ 217,793$ 148,461$ 69,332 47 % Fuel and utilities 25,490 19,877 5,613 28 % Depreciation, amortization and accretion 23,818 20,354 3,464 17 % Insurance and property taxes 8,182 8,785 (603 ) (7 )% Direct operating expenses and other 22,611 17,931 4,680 26 % Total production costs 297,894 215,408 82,486 38 % Purchased propylene 6,139 27,392 (21,253 ) (78 )% Change in inventory 2,052 (17,596 ) 19,648 112 % Cost of sales $ 306,085$ 225,204$ 80,881 36 % 27



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Cost of Sales. Cost of sales was $306.1 million or 71% of sales for the six months ended June 30, 2014, compared to $225.2 million, or approximately 61% of sales, for the six months ended June 30, 2013. Total propylene production volume in the six months ended June 30, 2014 and 2013 was 611.5 and 553.7 million pounds of propylene, respectively. This increase in production volume was driven by unplanned downtime at the facility during the six months ended June 30, 2013. The primary component of cost of sales was the propane feedstock, which represented 73% and 69% of total production costs for the six months ended June 30, 2014 and 2013, respectively. The increase in propane expense in 2014 from the first six months of 2013 is partially due to the 10% increase in propylene production volumes in 2014. Also contributing to the increase in propane expense was a higher average propane price of $1.18 per gallon in 2014 compared to $0.88 per gallon in 2013, an increase of 34%. In addition, fuel and utilities expense increased $5.6 million or 28% due to the increase in propylene production. Depreciation, amortization and accretion expense was $23.8 million for the six months ended June 30, 2014, compared to $20.4 million for the six months ended June 30, 2013, an increase of $3.5 million. The increase in cost of sales was partially offset by a decrease in propylene purchased from third parties from $27.4 million in the first half of 2013 to $6.1 million in the first half of 2014. In 2013, we purchased significantly more volumes of propylene from third parties in preparation for the planned triennial turnaround in the third quarter of 2013. The change in inventory represents the change in the production value of the product inventory between the beginning and end of the period based on the weighted average cost of production, including the cost of propane. This amount fluctuates with our average cost of production and the amount of product inventory we carry. During the six months ended June 30, 2013, we recognized a gain of approximately $3.9 million for insurance recoveries for losses incurred in 2011 related to our gas turbines and 2012 related to a compressor. Of this amount, we received payments of approximately $2.5 million with the remaining $1.4 million reflected as a receivable at June 30, 2013. All remaining amounts were received in 2013. We reported the gain from the insurance recoveries against cost of sales for the six months ended June 30, 2013, as the losses for repairs on the equipment was originally recorded as cost of sales. Cost of sales for the six months ended June 30, 2013, before the insurance recoveries totaled $229.1 million. General and Administrative Expense. General and administrative expense was $15.4 million for the six months ended June 30, 2014, compared to $10.8 million for the six months ended June 30, 2013, an increase of $4.6 million. The increase was primarily attributable to costs incurred in connection with the Merger in the first half of 2014. This increase was offset by a decrease of $1.1 million for development expense related to potential expansion and profit enhancement projects at our facility. (Gain) Loss on Derivatives. The net gain on derivatives of $1.7 million for the six months ended June 30, 2013, was comprised of mark-to-market unrealized gains of $63.1 million and realized losses of $61.4 million which were recognized at each monthly settlement date. The realized losses incurred during the period consist of $27.0 million for the recurring monthly settlement of the propane swap positions and $34.4 million for the termination of the remaining propane swaps on April 19, 2013. Interest Expense, Net. We incurred interest expense of $11.4 million for the six months ended June 30, 2014, on an average daily debt balance of $366.0 million and $11.8 million on an average daily balance of $357.1 million for the six months ended June 30, 2013. Interest expense for the six months ended June 30, 2014 and 2013 also included $1.0 million and $1.1 million, respectively, of deferred financing cost amortization as well as loan commitment expense for both the six months ended June 30, 2014 and 2013, of $0.4 million. Loss on Early Extinguishment of Debt. We recognized a loss on extinguishment of debt of $20.4 million for the six months ended June 30, 2013, related to the refinancing of our 2012 Credit Facilities. The loss on extinguishment resulted from the write-off of approximately $7.7 million of amortized deferred financing costs associated with the 2012 Credit Facilities, the write-off of $5.8 million of unamortized original issue discount associated with the 2012 Credit Facilities, and the payment of a $6.9 million call premium for the prepayment of the 2012 Term Loan Facility. See discussion under "Liquidity and Capital Resources." Income Tax Expense. Income tax expense, resulting from income taxes incurred on gross margin with the State of Texas, was $1.6 million for the six months ended June 30, 2014, compared to $1.3 million for the same period in 2013. 28



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Critical Accounting Policies

The preparation of our financial statements in accordance with U.S. GAAP requires that management make estimates and assumptions affecting the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of sales and expenses during the reporting period. There were no changes in our critical accounting policies for the period covered by this Report.



Liquidity and Capital Resources

Our principal source of liquidity is cash flows from operations. Our principal uses of cash have been and are expected to be for working capital, distributions, capital expenditures and funding our debt service obligations. We believe that our cash from operations will be adequate to satisfy commercial commitments for the next twelve months and that cash flow together with borrowings under the New Credit Facility (as defined below) will be adequate to fund our planned capital expenditures and working capital needs. Our ability to make payments on and to refinance our indebtedness, to fund planned capital expenditures and to satisfy our other capital and commercial commitments will depend on our ability to generate cash flows in the future. This, to a certain extent, is subject to the prevailing propane-to-propylene spread, natural gas prices and general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control. Our business may not generate sufficient cash flows from operations, and future borrowings may not be available to us under our credit facilities in amounts sufficient to enable us to finance necessary capital expenditures, service our indebtedness or fund our other liquidity needs. Our borrowing capacity has been increased. In connection with the Merger, the MLP Merger and the GP Merger, we assumed a New Credit Facility with an affiliate of New Parent that provides for revolving borrowings of up to $290.0 million. In addition, a $500 million Demand Note was contributed to Merger Sub and as a result the Merger and the MLP Merger, is an asset of FHRHC. The Demand Note is payable to us by New Parent. See the Explanatory Note at the beginning of this Report and Note 10 to the notes to consolidated financial statements included in this Report for additional information.



Capital Spending

During the six months ended June 30, 2014, we incurred capital expenditures of $15.7 million primarily for 109 splitter project, gas turbine upgrades, the replacement of two heat exchangers, and various upgrades and profit improvement projects. During the six months ended June 30, 2013, we incurred capital expenditures of $24.9 million consisting of catalyst for the turnaround, a fifth gas turbine, costs related to a regen air heater that was replaced during the turnaround and other capital costs related to the turnaround. Our future capital spending will be determined by new management and our new owner. 29



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Index Notes and Credit Facilities Notes and Debt Refinancing. On March 28, 2013, we and our wholly-owned finance subsidiary, PetroLogistics Finance Corp., co-issued jointly and severally $365.0 million of senior unsecured notes due 2020 (the "Notes"), and we amended and extended our prior revolving credit facility (as amended, the "2013 Revolving Credit Facility" and together with the Notes, the "2013 Credit Facilities") from $120 million to $170 million with Morgan Stanley Senior Funding, Inc. (the "Agent"), and the lender parties thereto. We used the net proceeds from the issuance of the Notes, after underwriting fees of $7.3 million, to (1) repay all borrowings outstanding under our $350.0 million term loan facility (the "2012 Term Loan Facility") in the amount of approximately $347.4 million, (2) pay approximately $6.9 million for the call premium and costs associated with the cancellation of our 2012 Term Loan Facility and (3) pay $3.0 million in commitment fees for the 2013 Revolving Credit Facility and approximately $0.4 million in transaction fees. In addition, we paid approximately $1.3 million in third-party transaction costs from cash on hand. The Notes were issued at the par value of $365 million, and are reported as long-term debt in our consolidated balance sheet at June 30, 2014. At June 30, 2014, the indenture governing the Notes and the 2013 Revolving Credit Facility contained certain restrictive financial covenants including limitations on our ability to incur additional debt and the requirement under the terms of the 2013 Revolving Credit Facility to maintain a total senior secured leverage ratio, as defined, no greater than 2.0 to 1.0, but as to the senior secured leverage ratio test only in the event that on the last day of any quarter beginning with the quarter ended June 30, 2013, the aggregate amounts outstanding under the 2013 Revolving Credit Facility exceeds $120 million. At June 30, 2014, there were no outstanding borrowings under the 2013 Revolving Credit Facility, and our borrowing capacity was $170 million. The 2013 Revolving Credit Facility was repaid in full and terminated in connection with the Merger. Interest Rate and Fees. The Notes bear interest at a fixed rate of 6.25% per annum, payable on April 1 and October 1. Prior to the repayment and termination of the 2013 Revolving Credit Facility in connection with the completion of the Merger, the 2013 Revolving Credit Facility bore interest at a rate per annum based on an underlying base rate plus an applicable margin. The applicable margin for the 2013 Revolving Credit Facility ranged from 2.0% for loans bearing interest at the alternate base rate to 3.0% for loans bearing interest at LIBOR. The alternate base rate was defined as the greater of the prime rate in effect or the federal funds effective rate in effect plus ½ of 1.0%. The 2013 Revolving Credit Facility also contained a facility commitment fee at a rate of 0.50% per annum based on the daily unused amount of the commitment amount of $170 million payable in arrears on the last day of March, June, September and December of each year. Amortization and Final Maturity. The Notes have a maturity date of April 1, 2020. Prior to April 1, 2016, we may redeem all or part of the Notes at a redemption price equal to the sum of 100% of the principal amount of the Notes, plus a "make-whole" premium, plus accrued and unpaid interest, if any, to the date of redemption. We may also redeem some or all of the Notes from the period beginning on April 1, 2016 through March 31, 2018, at a premium (expressed as a percentage of principal) plus accrued and unpaid interest, if any, on the Notes redeemed to the applicable redemption date. From April 1, 2018 through the maturity date, we may redeem some or all of the Notes at par plus accrued and unpaid interest, if any, on the Notes redeemed to the applicable redemption date. 30



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Guarantees. The Notes rank equally in right of payment with all of our existing and future senior indebtedness. Prior to the merger of PetroLogistics into PL Propylene, the Notes were guaranteed on a senior unsecured basis by PetroLogistics' wholly owned subsidiary PL Propylene. The full and unconditional guarantee ranked equally with all of the existing and future senior indebtedness of PL Propylene. At June 30, 2014, PL Propylene and PetroLogistics Finance Corp. were our only subsidiaries. At June 30, 2014, PetroLogistics had no independent assets or operations and there were no significant restrictions upon our ability to obtain funds from our subsidiaries by dividend or loan. Finance Corp. has no material assets and did not conduct any operations. None of the assets of our subsidiaries represent restricted net assets pursuant to Rule 4-08(e)(3) of Regulation S-X under the Securities Act of 1933, as amended. The Notes and any future guarantee are effectively subordinated to all of our and such guarantor subsidiaries' existing and future secured indebtedness to the extent of the value of the assets securing such indebtedness. In addition, the Notes are structurally subordinated to all future indebtedness and other liabilities of any of our subsidiaries that are not issuers or guarantors of the Notes. Following the merger of PetroLogistics into PL Propylene, the guarantee of PL Propylene was released. Flint Hills Resources Houston Chemical, LLC, formerly known as PL Propylene, became a joint and several co-issuer under the Notes with FHR Houston Chemical Finance Corp. In connection with our refinancing, we wrote off approximately $20.4 million of unamortized deferred financing costs, unamortized issue discount, and retirement premium associated with the prior credit facility in the first half of 2013. The write-off of these costs is reflected as a loss on extinguishment of debt in our consolidated statements of comprehensive income for the six month periods ended June 30, 2013. At June 30, 2014, we had $170.0 million available under the 2013 Revolving Credit Facility. Termination of the 2013 Revolving Credit Facility and Assumption of the New Credit Facility. In connection with the Merger, FHR Propylene entered into a $290.0 million unsecured revolving credit facility as the borrower with the lenders party thereto and FHR Liquidity Holdings I, LLC, as administrative agent (the "New Credit Facility"). PetroLogistics (as successor by merger to FHR Propylene) assumed the rights and obligations of FHR Propylene under the New Credit Facility. FHRHC (as successor by merger to PetroLogistics) subsequently assumed the rights and obligations of PetroLogistics under the New Credit Facility. The New Credit Facility matures on July 1, 2020. The lender under the New Credit Facility is an affiliate of New Parent. The lender's obligations under the New Credit Facility, including the obligations to extend credit, are guaranteed by New Parent. The New Credit Facility is pari passu in right of payment with the Notes. The New Credit Facility accrues interest, at the election of the borrower, at an alternative base rate or based on LIBOR, in each case, plus an applicable margin. The applicable margin for the New Credit Facility ranges, based on FHRHC's credit ratings, from 0.625% to 1.500% for loans bearing interest at LIBOR or from 0.000% to 0.500% for loans bearing interest at the alternate base rate. The alternate base rate is defined as the greater of the prime rate in effect or the federal funds effective rate in effect plus ½ of 1.0%. As of the date of this Report, the applicable margin was 0.750% for loans bearing interest at LIBOR or 0.000% for loans bearing interest at the alternative base rate.



The

New Credit Facility also contains a facility commitment fee ranging, based on FHRHC's credit ratings, between a rate of 0.050% to 0.225% per annum based on the daily unused amount of the commitment amount of $290 million payable in arrears on the last day of March, June, September and December of each year. As of the date of this Report, the facility commitment fee was 0.060%. The New Credit Facility contains customary affirmative and negative covenants and events of default for financings of this nature for investment grade borrowers. Upon completion of the Merger, PetroLogistics caused PL Propylene to terminate the 2013 Revolving Credit Facility. With proceeds of loans borrowed by PetroLogistics under the New Credit Facility, all indebtedness, liabilities and obligations (other than contingent reimbursement and indemnification obligations for which a claim had not been made as of the termination date) were paid in full, and all commitments of the lenders to extend credit under the 2013 Revolving Credit Facility were terminated in full. No prepayment or early termination penalties or premiums were incurred as a result of the termination of the 2013 Revolving Credit Facility. 31



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Termination of Indenture Covenants Governing the Notes. Following the Merger, the ratings of the Notes were upgraded by Standard & Poor's Ratings Services from B to AA- and by Moody's Investors Service from B2 to A3. As permitted under the terms of the Indenture governing the Notes, FHRHC delivered an officers' certificate to the trustee under the Indenture terminating substantially all of the covenants under the Indenture, except for the SEC reporting covenant.



Cash Flows

Operating Activities. Net cash provided by operating activities for the six months ended June 30, 2014, was $132.4 million. This positive cash flow from operating activities resulted from net income of $95.9 million which reflects certain non­cash items for equity-based compensation, depreciation, amortization and accretion, amortization of deferred financing costs and deferred income taxes totaling $27.4 million. Cash flows from operations increased $9.1 million as a result of a net decrease in working capital driven by a $16.5 million decrease in accounts receivable and a $6.8 million decrease in inventory. These decreases in assets were offset by decreases in accrued liabilities and deferred revenue totaling $3.3 million and $10.0 million, respectively. Inventory and deferred revenue decreased as a result of an increase in propylene deliveries in the first half of 2014 while accrued liabilities decreased due primarily to the payment of accrued property taxes in January 2014. Accounts receivable decreased as a result of lower nominations in June 2014 compared to December 2013 and also as a result of a reduction in the average benchmark polymer grade propylene price from 70.5 cents per pound in December 2013 to 67.5 cents per pound in June 2014. Net cash provided by operating activities for the six months ended June 30, 2013, was $78.9 million. This positive cash flow from operating activities resulted from net income of $98.5 million which includes certain non­cash items for unrealized gains on derivatives, equity-based compensation, depreciation, amortization and accretion, amortization of deferred financing costs, loss on extinguishment of debt and deferred income taxes totaling $24.8 million net. Cash flows from operations was increased by a $5.2 million net decrease in working capital driven primarily by a $13.7 million decrease in accounts receivable and a $30.3 million decrease in prepaid expenses and other current assets for the return of cash held in collateral by the propane swaps counterparty following the termination of the propane swaps. These working capital decreases were offset by an $18.8 million inventory increase for propylene stored in advance of our 2013 turnaround and a $20.7 million decrease in accounts payable. Investing Activities. Net cash used in investing activities for the six months ended June 30, 2014 and 2013, was $15.7 million and $24.9 million, respectively, related to capital expenditures for our facility. Financing Activities. Net cash used in financing activities for the six months ended June 30, 2014, was $93.8 million, which resulted from cash distributions to unit holders during the period. Net cash used in financing activities for the six months ended June 30, 2013, was $38.8 million. Our cash flows used in financing activities resulted from net borrowings of approximately $6.8 million offset by net cash distributions totaling $44.4 million. Additionally, we had cash outflows for financing costs of $1.2 million related to the 2013 Credit Facilities.



Off-Balance Sheet Arrangements

We do not have any material "off-balance sheet arrangements" as such term is defined within the rules and regulations of the SEC.

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