Kodiak Gas Services, Inc. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements and related notes included elsewhere in this Report. The following discussion includes forward-looking statements that involve certain risks and uncertainties. For further information on items that could impact our future operating performance or financial condition, see the sections entitled “Risk Factors” in the IPO Prospectus and “Cautionary Statement Regarding Forward-Looking Statements” elsewhere in this Report. We assume no obligation to update any of these forward-looking statements, except as required by law. Unless otherwise indicated or the context otherwise requires, the historical financial information in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations” reflects only the historical financial results of Kodiak Gas Services, Inc. and its consolidated subsidiaries and references to the “Company,” “we,” “our,” or “us” are to Kodiak Gas Services, Inc. and its consolidated subsidiaries. Overview We are a leading operator of contract compression infrastructure in the U.S. Our compression operations are critical to our customers’ ability to reliably produce natural gas and oil to support growing global energy demand. We are a market leader in the Permian Basin, which is the largest producing natural gas and oil basin in the U.S. We operate our large horsepower compression units under stable, fixed-revenue contracts with blue-chip upstream and midstream customers. Our compression assets have long useful lives consistent with the expected production lives of the key regions where we operate. We believe our partnership-focused business model positions us as the preferred contract compression operator for our customers and creates long-standing relationships. We strategically invest in the training, development, and retention of our highly skilled and dedicated employees and believe their expertise and commitment to excellence enhances and differentiates our business model. Furthermore, we maintain an intense focus on being one of the most sustainable and responsible operators of contract compression infrastructure. We manage our business through two operating segments: Compression Operations and Other Services. Compression Operations consists of operating Company-owned and customer-owned compression infrastructure for our customers, pursuant to fixed-revenue contracts to enable the production, gathering and transportation of natural gas and oil. Other Services consists of a full range of contract services to support the needs of our customers, including station construction, maintenance and overhaul and other ancillary time and material based offerings. Our Other Services offerings are often cross-sold with Compression Operations. Trends and Outlook We provide contract compression infrastructure for customers in the oil and gas industry. Our assets are specifically utilized in natural gas compression applications in the Permian Basin, Eagle Ford Shale and other U.S. regions. Our customers are dependent on these applications to produce natural gas and oil and transport it to end markets. Our assets are central to meeting growing global natural gas and oil demand. Furthermore, the long-life nature of our assets and our fixed-revenue contracts help to protect our business from the impact of industry and broader macroeconomic cycles. Unconventional resources, large-scale centralized gathering and multi-well pad operations require more horsepower than conventional resources, driving demand for our large horsepower compression units. Upstream and midstream companies have increasingly prioritized capital discipline and return of capital to stockholders. We believe that our customers will increasingly continue to outsource their compression infrastructure needs to reduce capital expenditures outside of their core business and benefit from our technical skill and expertise. We believe that the industry is facing uncertainties and continued pressures from regulators and shifting sentiments from investors and other stakeholders, primarily related to broader adoption of emission reduction targets and other sustainability initiatives. Many energy companies, including some of our customers, have announced significant GHG emission reduction initiatives. We expect to partially benefit from this trend as 96% of our current fleet is capable of operating in the most stringent emissions regulatory environments in the U.S., which require emissions of 0.5g/bhp-hr NOx or less. A growing number of our customers are evaluating potential opportunities in electric compression infrastructure and we are well positioned to support them in these strategic initiatives. Eighty-four percent of our compression assets are strategically deployed in the Permian Basin and Eagle Ford Shale, which the United States Energy Information Administration (“EIA”) expects to maintain significant production volumes through at least 2050. We believe these two regions have the largest and lowest-cost unconventional resources in the U.S. exhibiting strong recent growth of natural gas and crude oil production from the two regions of 13% and 12%, respectively, on an average annual basis from 2017 to 2022. Additionally, there are significant U.S. liquefied natural gas (“LNG”) export projects in development, and overall LNG export capacity is expected to meaningfully grow over the next decade, in particular 20 Table of Contents along the U.S. Gulf Coast with liquefaction capacity expected to grow 41% from 14.5 MTPA in 2022 to 20.5 MTPA in 2025 from projects that have declared final investment decisions as of June 30, 2023. We expect this to translate into Permian Basin and Eagle Ford Shale natural gas production growth, requiring substantial additional compression horsepower. We believe these regions will play an increasingly important role in global energy security as the world continues to require reliable and growing natural gas and oil production to support increasing global energy demand. Ultimately, the extent to which our business will be impacted by the factors described above, as well as future developments beyond our control, cannot be predicted with reasonable certainty. However, we continue to believe in the long-term demand for our compression operations given the necessity of compression in gathering, processing and transportation of natural gas and centralized gas lift of oil. The foregoing market data and certain other statistical information is based on the EIA’s Annual Energy Outlook 2023, released on March 16, 2023 (the “EIA Report”). Although we believe the EIA Report is reliable as of its date, we have not independently verified the accuracy or completeness of the information contained therein. Some data is also based on our good faith estimates and our management’s understanding of industry conditions. The industry in which we operate is subject to a high degree of uncertainty and risk due to a variety of factors, including those described in the section entitled “Risk Factors” in the IPO Prospectus. Those and other factors could cause results to differ materially from those expressed in these publications. How We Evaluate Our Operations Revenue-Generating Horsepower Revenue-generating horsepower growth is the primary driver of our revenue growth, and it is the base measure for evaluating our efficiency of capital deployed. Revenue-generating horsepower includes compression units that are operating under contract and generating revenue and compression units which are available to be deployed and for which we have a signed contract or are subject to a firm commitment from our customer. Horsepower Utilization We calculate horsepower utilization as (i) revenue-generating horsepower divided by (ii) fleet horsepower. The primary reason for tracking and analyzing our horsepower utilization is to determine the percentage of our fleet that is currently generating revenue for future cash flow generation and the efficiency of our capital deployed. Revenue-Generating Horsepower per Revenue-Generating Compression Unit We calculate revenue-generating horsepower per revenue-generating compression unit as (i) total revenue-generating horsepower divided by (ii) total revenue-generating compression units. The primary reason for tracking and analyzing our revenue-generating horsepower per revenue-generating compression unit is to determine our expected operational and financial performance. Revenue One of our measures of financial performance is the amount of revenue generated quarterly and annually as revenue is an indicator of our overall business growth. We measure our revenue under two operating segments, Compression Operations and Other Services. We consider our Compression Operations revenue to be our core operations and it will continue to be the largest revenue source for the Company. Adjusted Gross Margin We track Adjusted Gross Margin on an absolute dollar basis and as a percentage of revenue. We define Adjusted Gross Margin as revenue less cost of operations, exclusive of depreciation and amortization expense. We believe that Adjusted Gross Margin is useful to external users as a supplemental measure of our operating profitability. Adjusted Gross Margin is impacted primarily by the pricing trends for service operations and cost of operations, including labor rates for service technicians, volume and per compression unit costs for lubricant oils, quantity and pricing of routine preventative maintenance on compression units and property tax rates on compression units. Adjusted Gross Margin should not be considered an alternative to, or more meaningful than, gross margin or any other measure of financial performance presented in accordance with GAAP. Moreover, Adjusted Gross Margin as presented may not be comparable to similarly titled measures of other 21 Table of Contents companies. To compensate for the limitations of Adjusted Gross Margin as a measure of our performance, we believe that it is important to consider gross margin determined under GAAP, as well as Adjusted Gross Margin, to evaluate our operating profitability. See “—Non-GAAP Financial Measures.” Adjusted EBITDA We track Adjusted EBITDA on an absolute dollar basis and as a percentage of revenue. We define Adjusted EBITDA as net income before interest expense, net plus, (i) tax expense (benefit); (ii) depreciation and amortization; (iii) unrealized loss (gain) on derivatives; (iv) equity compensation expense; (v) transaction expenses; (vi) loss (gain) on sale of assets; and (vii) impairment of compression equipment. Adjusted EBITDA is used as a supplemental financial measure by our management and external users of our financial statements, such as investors, commercial banks and other financial institutions, to assess: • the financial performance of our assets without regard to the impact of financing methods, capital structure or historical cost basis of our assets; • the viability of capital expenditure projects and the overall rates of return on alternative investment opportunities; • the ability of our assets to generate cash sufficient to make debt payments and pay dividends; and • our operating performance as compared to those of other companies in our industry without regard to the impact of financing methods and capital structure. We believe that Adjusted EBITDA provides useful information to investors because, when viewed with our GAAP results and the accompanying reconciliation, they provide a more complete understanding of our performance than GAAP results alone. We also believe that external users of our financial statements benefit from having access to the same financial measures that management uses in evaluating the results of our business. Adjusted EBITDA should not be considered an alternative to, or more meaningful than, revenues, net income, operating income, cash flows from operating activities or any other measure of financial performance presented in accordance with GAAP as measures of operating performance and liquidity. Moreover, our Adjusted EBITDA as presented may not be comparable to similarly titled measures of other companies. See “—Non-GAAP Financial Measures.” Sources of Our Revenues Compression Operations Compression Operations revenue consists of operating company-owned and customer-owned compression infrastructure for our customers, pursuant to fixed-revenue contracts to enable the production, gathering and transportation of natural gas and oil. Additionally, revenue from these fixed-revenue contracts can include mobilization and demobilization charges that are directly reimbursable by our customers. Other Services Other Services revenue consists of a full range of contract services to support the needs of our customers including station construction, maintenance and overhaul, and other ancillary time and material based offerings. Principal Components of our Cost Structure Compression Operations Compression Operations expenses consist of direct and indirect expenses related to operating compression infrastructure assets, such as labor, supplies, machinery, freight, and crane expenses. Other Services Other Services expenses consist of compressor station construction and other ancillary expenses to support the needs of customers, including parts, labor, and materials. 22 Table of Contents Depreciation and Amortization Depreciation expense consists primarily of depreciation on property, plant and equipment purchased and leasehold improvements. Amortization expense consists primarily of amortization of intangible assets related to trade name and customer relationships. Selling, General and Administrative Expense Selling, General and Administrative expenses primarily consist of compensation and benefits-related costs associated with our finance, legal, human resources, information technology, administrative, and sales and marketing functions. Selling, General, and Administrative costs also consist of third-party professional service fees for external legal, accounting and other consulting services, rent and lease charges, insurance costs, and software expense. Long-lived Asset Impairment Long-lived assets, including property, plant, and equipment, and other finite-lived identifiable intangible assets, are reviewed for impairment whenever events or changes in circumstances, including the removal of compression units from the active fleet, indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the assets to future undiscounted net cash flows expected to be generated by the asset. Impairment losses are recognized in the period in which the impairment occurs and represent the excess of the asset carrying value over its fair value. There were no indicators that the carrying amount may not be recoverable for the six months ended June 30, 2023 and 2022. Interest Expense, Net Interest expense, net relates to interest incurred on outstanding borrowings under our ABL Facility (as defined below), the Term Loan (as defined below), the impact of interest rate swaps, and amortization of debt issuance cost, net of interest income earned on cash balances. Unrealized Gain (Loss) on Derivatives Unrealized gain (loss) on derivatives results from changes in the mark-to-market valuation of derivative instruments related to interest rate swaps whereby we have exchanged variable interest rates for fixed interest rates and entered into interest rate collars which represent a simultaneous purchase of a cap rate with the sale of a floor rate. Derivative instruments are used to manage our exposure to fluctuations in the variable interest rate of the ABL Facility and the Term Loan and thereby mitigate the risks and costs associated with financing activities. We have not designated any derivative instruments as hedge for accounting purposes and we do not enter into such instruments for speculative trading purposes. Gains and losses on derivatives are presented in the other income and expense section of the consolidated statements of operations as unrealized gain or loss on derivatives. Operational Highlights The following table summarizes certain horsepower and horsepower utilization percentages for our fleet for the periods presented. As of June 30, Percentage Change 2023 2022 Operating Data (at period end): Fleet horsepower(1) 3,180,906 3,084,406 3.1 % Revenue-generating horsepower(2) 3,177,286 3,074,613 3.3 % Fleet compression units 3,038 2,994 1.5 % Revenue-generating compression units 3,023 2,987 1.2 % Revenue-generating horsepower per revenue-generating compression unit(3) 1,051 1,029 2.1 % Horsepower utilization(4) 99.9 % 99.7 % 0.2 % (1) Fleet horsepower includes revenue-generating horsepower and idle horsepower, which is compression units that do not have a signed contract or are not subject to a firm commitment from our customer and are no longer generating revenue. Fleet horsepower excludes 32,340 and 60,025 of non-marketable or obsolete horsepower as of June 30, 2023 and 2022, respectively. 23 Table of Contents (2) Revenue-generating horsepower includes compression units that are operating under contract and generating revenue and compression units which are available to be deployed and for which we have a signed contract or are subject to a firm commitment from our customer. (3) Calculated as (i) revenue-generating horsepower divided by (ii) revenue-generating compression units at period end. (4) Horsepower utilization is calculated as (i) revenue-generating horsepower divided by (ii) fleet horsepower. Horsepower The 3.1% and 3.3% increase in fleet horsepower and revenue-generating horsepower, respectively, were primarily attributable to an increase in the purchase and deployment of new compression units through organic growth with our existing customer base as well as select new customers in the key regions in which we operate. The 2.1% increase in revenue-generating horsepower per revenue-generating compression unit was due to the purchase and deployment of new, large horsepower units. 24 Table of Contents Financial Results of Operations Three months ended June 30, 2023 compared to the three months ended June 30, 2022 The following table presents selected financial and operating information for the periods presented ( in thousands ): For the Three Months Ended June 30, % Change 2023 2022 Revenues: Compression Operations $ 181,619 $ 162,808 11.6 % Other Services 21,687 14,343 51.2 % Total revenues 203,306 177,151 14.8 % Operating expenses: Cost of operations (exclusive of depreciation and amortization shown below) Compression Operations 65,017 58,336 11.5 % Other Services 18,099 11,774 53.7 % Depreciation and amortization 45,430 43,397 4.7 % Selling, general and administrative expenses 13,438 11,740 14.5 % Loss (gain) on sale of fixed assets (738 ) — nm Total operating expenses 141,246 125,247 12.8 % Income from operations 62,060 51,904 Other income (expenses): Interest expense, net (60,964 ) (36,829 ) 65.5 % Realized gain on derivatives 25,835 — nm Unrealized (loss) gain on derivatives (3,595 ) (3,386 ) 6.2 % Other (expense) income 32 (7 ) 557.1 % Total other expense (38,692 ) (40,222 ) (3.8 )% Income before income taxes 23,368 11,682 Income tax expense 5,851 2,781 110.4 % Net income $ 17,517 $ 8,901 96.8 % Revenues and Sources of Income Compression Operations Compression Operations revenue increased $18.8 million (11.6%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. $20.0 million of the increase was the result of an increase in average revenue-generating horsepower as a result of increased demand for our compression operations (consistent with increased operating activity in the oil and gas industry) and due to an increase in average revenue per revenue-generating horsepower per month. This was partially offset by a $1.2 million decrease in freight and crane charges that are directly reimbursable by our customers. Other Services Other Services revenue increased $7.3 million (51.2%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. This increase was primarily due to a $4.9 million increase in revenue from station construction services driven primarily by progress on new stations and a $2.4 million increase in revenue from parts and service, driven by increased customer demand. Operating Costs and Other Expenses Compression Operations Compression Operations expenses increased $6.7 million (11.5%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. This was primarily due to a $2.7 million increase in direct expenses, driven by increases in pricing and volume of fluids and parts to support increased activity, a $3.8 million increase in direct labor expenses related to increased headcount and salaries, a $1.1 million increase in indirect expenses; partially offset by a $0.9 million decrease in freight and crane charges that are directly reimbursable by our customers. 25 Table of Contents Other Services Other Services expense increased $6.3 million (53.7%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. This was primarily due to a $4.4 million increase in expenses from station construction services driven primarily by progress on new stations and a $1.9 million increase in expenses from parts and service costs. Depreciation and Amortization Depreciation and Amortization increased $2.0 million (4.7%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. This was primarily due to an increase in compression equipment purchased, which resulted in increased depreciation associated with that equipment. Selling, General and Administrative Expense Selling, General and Administrative expenses increased $1.7 million (14.5%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. This was primarily due to a $1.1 million increase in professional fees mainly related to transaction costs and a $0.6 million increase in other overhead expenses, primarily as a result of insurance, advertising, entertainment and office expenses. Interest Expense, Net Interest expense increased $24.2 million (65.5%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. This increase is primarily due (i) to the full period impact of an increase in borrowings under the ABL Facility and Term Loan, of which $825 million of which was related to the May 2022 recapitalization (as discussed in Note 9 (“Debt and Credit Facilities”) to the Condensed Consolidated Financial Statements included elsewhere in this Report) and (ii) increased effective interest rates on the ABL Facility and Term Loan. Realized Gain on Derivatives On June 29, 2023, the Company terminated its interest rate swaps and collars attributable to the Term Loan, resulting in the realization of $25.8 million in gains resulting from changes in the market value of such swaps and collars since their inception due to an increase in LIBOR rates. No such gains were realized in the three months ended June 30, 2022. Unrealized (Loss) Gain on Derivatives Unrealized (loss) gain on derivatives decreased $0.2 million (6.2%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. This is primarily related to a $24.8 million unrealized loss on settlement of the interest rate swaps and collars from the term loan; offset by a $21.2 million unrealized gain on the change in market value of our interest rate swaps and collars during the three months ended June 30, 2023 due to an increase in the long-term SOFR yield curve, as compared to a $3.4 million unrealized loss on the change in market value of our interest rate swaps and collars during the three months ended June 30, 2022 due to an decrease in the long-term SOFR and LIBOR yield curves. Income tax expense Income tax expense increased by $3.1 million (110.4%) for the three months ended June 30, 2023 compared to the three months ended June 30, 2022. This was primarily due to an increase in pre-tax income of $11.7 million for the three months ended June 30, 2023 compared to pre-tax income for the three months ended June 30, 2022. 26 Table of Contents Financial Results of Operations Six months ended June 30, 2023 compared to the six months ended June 30, 2022 The following table presents selected financial and operating information for the periods presented (in thousands) : For the Six Months Ended June 30, % Change 2023 2022 Revenues: Compression Operations $ 359,316 $ 320,303 12.2 % Other Services 34,102 25,189 35.4 % Total revenues 393,418 345,492 13.9 % Operating expenses: Cost of operations (exclusive of depreciation and amortization shown below) Compression Operations 127,787 111,273 14.8 % Other Services 27,087 20,601 31.5 % Depreciation and amortization 90,327 85,802 5.3 % Selling, general and administrative expenses 26,523 21,570 23.0 % Loss (gain) on sale of fixed assets (721 ) (7 ) nm Total operating expenses 271,003 239,239 13.3 % Income from operations 122,415 106,253 15.2 % Other income (expenses): Interest expense, net (119,687 ) (62,469 ) 91.6 % Realized gain on derivatives 25,835 — nm Unrealized (loss) gain on derivatives (21,529 ) 32,822 (165.6 )% Other income 1 9 (88.9 )% Total other expense (115,380 ) (29,638 ) 289.3 % Income before income taxes 7,035 76,615 (90.8 )% Income tax expense 1,861 18,159 (89.8 )% Net income $ 5,174 $ 58,456 (91.1 )% Revenues and Sources of Income Compression Operations Compression Operations revenue increased $39.0 million (12.2%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. $39.2 million of the increase was the result of an increase in average revenue-generating horsepower as a result of increased demand for our compression operations (consistent with increased operating activity in the oil and gas industry) and due to an increase in average revenue per revenue-generating horsepower per month. This was partially offset by a $0.2 million decrease in freight and crane charges that are directly reimbursable by our customers. Other Services Other Services revenue increased $8.9 million (35.4%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. This increase was primarily due to a $5.5 million increase in revenue from station construction services driven primarily by progress on new stations and $3.4 million from parts and service. Operating Costs and Other Expenses Compression Operations Compression Operations expenses increased $16.5 million (14.8%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. This was primarily due to a $7.0 million increase in direct expenses, driven by increases in pricing and volume of fluids and parts to support increased activity, a $6.8 million increase in direct labor expenses related to increased headcount and salaries, a $2.9 million increase in indirect expenses; partially offset by a $0.2 million decrease in freight and crane charges that are directly reimbursable by our customers. 27 Table of Contents Other Services Other Services expense increased $6.5 million (31.5%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. This was primarily due to a $3.9 million increase in expenses from station construction services driven primarily by progress on new stations and $2.6 million from parts and service costs, driven by increased customer demand. Depreciation and Amortization Depreciation and Amortization increased $4.5 million (5.3%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. This was primarily due to an increase in compression equipment purchased, which resulted in increased depreciation associated with that equipment. Selling, General and Administrative Expense Selling, General and Administrative expenses increased $5.0 million (23.0%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. This was primarily due to a $2.3 million increase in labor and benefit expenses (including $0.3 million of equity compensation), a $1.5 million increase in other overhead expenses, primarily as a result of increased travel, advertising, entertainment and office expenses and insurance, and a $1.2 million increase in professional fees mainly associated with transaction costs. Interest Expense, Net Interest expense increased $57.2 million (91.6%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. This is primarily due to (i) an increase in borrowings under the ABL Facility and Term Loan, of which $825 million was related to the May 2022 recapitalization (as discussed in Note 9 (“Debt and Credit Facilities”) to the Condensed Consolidated Financial Statements included elsewhere in this Report) and (ii) increased effective interest rates on the ABL Facility and Term Loan. Realized Gain on Derivatives On June 29, 2023, the Company terminated its interest rate swaps and collars attributable to the Term Loan, resulting in the realization of $25.8 million in gains resulting from changes in the market value of such swaps and collars since their inception due to an increase in LIBOR rates. No such gains were realized in the six months ended June 30, 2022. Unrealized (Loss) Gain on Derivatives Unrealized (loss) gain on derivatives decreased $54.4 million (-165.6%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. This is primarily related to a $24.8 million unrealized loss on the settlement of the interest rate swaps and collars from the Term Loan; offset by a $21.2 million unrealized gain on the change in market value of our existing interest rate swaps and collars during the six months ended June 30, 2023 due to an increase in the long-term SOFR yield curve, as compared to a $32.8 million unrealized gain on the change in market value of our interest rate swaps and collars during the six months ended June 30, 2022 due to an increase in the long-term SOFR and LIBOR yield curves. Income tax expense Income tax expense decreased by $16.3 million (-89.8%) for the six months ended June 30, 2023 compared to the six months ended June 30, 2022. This was primarily due to a decrease in pre-tax income of $69.6 million for the six months ended June 30, 2023 compared to pre-tax income for the six months ended June 30, 2022. Liquidity and Capital Resources Overview Our ability to fund operations, finance capital expenditures, service our debt, and pay dividends depends on the levels of our operating cash flows and access to the capital and credit markets. Our primary sources of liquidity are cash flows generated from our operations and our borrowing availability under the ABL Facility. Our cash flow is affected by numerous factors including prices and demand for our infrastructure compression assets, conditions in the financial markets and other factors. We believe cash generated by operating activities will be sufficient to service our debt, fund working capital, fund our estimated capital expenditures and, as our board of directors may determine from time to time in its discretion, pay dividends. 28 Table of Contents Cash Requirements Capital Expenditures The compression infrastructure business is capital intensive, requiring significant investment to expand, maintain, and upgrade existing operations. Our capital requirements have consisted primarily of, and we anticipate that our capital requirements will continue to consist primarily of, the following: • Growth Capital Expenditures: (1) capital expenditures made to expand the operating capacity or operating income capacity of assets by acquisition of additional compression units, (2) capital expenditures made to maintain the operating capacity or operating income capacity of assets by acquisition of replacement compression units and (3) capital expenditures not related to our compression units—such as trucks, wash trailers, crane trucks, leasehold improvements, technology hardware and software and related implementation expenditures, furniture and fixtures, and other general items that are typically capitalized to operate the business that have a useful life beyond one year. We make capital expenditures not related to our compression units (as described in clause (3) above) if and when necessary to support the operations of our revenue generating horsepower. • Maintenance Capital Expenditures: periodic capital expenditures incurred at predetermined operating intervals to maintain consistent and reliable operating capacity of our assets over the near term. Such maintenance capital expenditures typically involve overhauls of significant components of our compression units, such as the engine and compressor, pistons, rings, heads, and bearings. These maintenance capital expenditures are predictable and the majority of these expenditures are tied to a detailed, unit-by-unit schedule based on hours of operation or age. We utilize a disciplined and systematic asset management program whereby we perform major unit overhauls and engine replacements on a defined schedule based on hours of operation. As a result, our maintenance capital expenditures may vary considerably from year to year based on when such assets were added to the fleet. Maintenance capital expenditures along with regularly scheduled preventive maintenance expenses are typically sufficient to sustain operating capacity of our assets over the full expected useful life of the compression units. Maintenance capital expenditures do not include expenditures to replace compression units when they reach the end of their useful lives. The majority of our growth capital expenditures are related to the acquisition cost of new compression units. Maintenance capital expenditures are related to overhauls of significant components of our compression equipment, such as the engine and compressor, which return the components to a like-new condition, but do not modify the application for which the compression equipment was designed. For the six months ended June 30, 2023, growth capital expenditures were $68.3 million and maintenance capital expenditures were $15.7 million. For the six months ended June 30, 2022, growth capital expenditures were $126.6 million and maintenance capital expenditures were $17.4 million. The decrease in growth capital expenditures was primarily related to the timing of new compressor equipment purchases to support organic growth. The decrease in maintenance capital expenditures was primarily a result of a decrease in scheduled unit overhauls that occurred based on the age and operating hours of such units. Dividends Our board of directors may elect to declare cash dividends on our common stock, subject to our compliance with applicable law, and depending on, among other things, economic conditions, our financial condition, results of operations, projections, liquidity, earnings, legal requirements, and restrictions in the agreements governing our indebtedness (as further discussed herein). If and to the extent our board of directors were to declare a cash dividend to our stockholders, we expect the dividend to be paid from our Discretionary Cash Flow. The timing, amount and financing of dividends, if any, will be subject to the discretion of our board of directors from time to time. Over the long-term, we expect to fund any dividends and our budgeted growth capital expenditures using our Discretionary Cash Flow. In the event our Discretionary Cash Flow is insufficient for the purpose of funding any such dividends and our budgeted growth capital expenditures for such period, we may fund such shortfall (i) with additional borrowings under our ABL Facility, which as of June 30, 2023 had $375 million available (subject to the requirement that our availability under the borrowing base under the ABL Facility exceeds the greater of (x) 10% of the total commitments under the facility of $2.2 billion or (y) $200 million or (ii) reduce our growth capital expenditures for such period. Any such additional borrowings under our ABL Facility will result in an increase in our interest expense for such period. Any such reduction in our growth capital expenditures may result in lower growth in our revenue-generating horsepower in future periods. 29 Table of Contents Contractual Obligations Our material contractual obligations as of June 30, 2023 consisted of the following: • Long-term debt of $2.8 billion, which is due in 2028. See Note 19 (“Subsequent Events”) to the Condensed Consolidated Financial Statements included elsewhere in this Report; • Purchase commitments of $129.2 million are due within 12 months, primarily consisting of commitments to purchase compression units. See Note 13 (“Commitments and Contingencies”) to the Condensed Consolidated Financial Statements included elsewhere in this Report. Other Commitments As of June 30, 2023, other commitments include operating lease payments totaling $58.5 million. Sources of Cash Cash Flows The following table summarizes our cash flows for the six months ended June 30, 2023, and 2022 ( in thousands ): Six Months Ended June 30, 2023 2022 $ Variance Net cash provided by operating activities $ 117,968 $ 127,647 $ (9,679 ) Net cash used in investing activities (92,993 ) (145,950 ) 52,957 Net cash provided by (used in) financing activities (4,035 ) 10,135 (14,170 ) Net increase (decrease) in cash and cash equivalents $ 20,940 $ (8,168 ) $ 29,108 Operating Activities The $9.7 million decrease in net cash provided by operating activities for the six months ended June 30, 2023 compared to the six months ended June 30, 2022 was primarily due to a $53.3 million decrease in net income, adjusted for non-cash items which is mainly related to a $54.4 million increase in unrealized loss on derivative instruments, and a $6.8 million decrease in working capital primarily consisting of an increase in accounts receivable due to an increase in revenue from compression operations, an increase in prepaid expenses and other current assets due to an increase in deferred IPO costs, a decrease in accrued liabilities due to payment made to vendors during the year; partially offset by an increase in accounts payable, contract liabilities. Investing Activities The $53.0 million decrease in net cash used in investing activities for the six months ended June 30, 2023 compared to the six months ended June 30, 2022 was primarily due to lower levels of both maintenance and growth capital expenditures. Financing Activities The $14.2 million increase in net cash used in financing activities for the six months ended June 30, 2023 compared to the six months ended June 30, 2022 was primarily due to a decrease in borrowings on debt instruments of $721.9 million, an increase in payments on debt instruments of $83.3 million, and an increase in payments of debt issuance cost of $4.6 million. This was offset by a decrease in equity distribution of $795.7 million. Description of Indebtedness Asset Based Lending Facility As of January 1, 2022, a wholly-owned subsidiary of Kodiak had an ABL Facility with unaffiliated secured lenders and JPMorgan Chase Bank, N.A., as administrative agent. On March 22, 2023, wholly-owned subsidiaries of Kodiak entered into the Fourth Amended and Restated ABL Credit Agreement with the lenders party thereto and JPMorgan Chase Bank, N.A., as administrative agent (as amended or restated from time to time, the “ABL Credit Agreement”), whereby the total facility (among other things) was increased to $2.2 billion and certain changes were made to our financial covenants and maturity date. The maturity date of the ABL Facility is March 22, 2028. See Note 9 (“Debt and Credit Facilities”) to the Condensed Consolidated Financial Statements included elsewhere in this Report. The ABL Credit Agreement requires that we meet certain financial ratios. 30 Table of Contents Commencing with the first fiscal quarter ending after the completion of the IPO, our fixed charge coverage ratio will be replaced by an interest coverage ratio (as defined in the ABL Credit Agreement) that may not be less than 2.50 to 1.00, determined as of the last day of each fiscal quarter. Commencing with the first fiscal quarter ending after the completion of the IPO but prior to the occurrence of certain issuances of unsecured debt (for purposes of this description, an “Unsecured Debt Issuance”), our Leverage Ratio (as defined in the ABL Credit Agreement), determined quarterly as of the last day of each fiscal quarter, may not exceed (i) 5.25 to 1.00 for the fiscal quarters ending September 30, 2023 and December 31, 2023, (ii) 5.00 to 1.00 for the fiscal quarter ending March 31, 2024, (iii) 4.75 to 1.00 for the fiscal quarter ending June 30, 2024 and (iv) 4.50 to 1.00 for each fiscal quarter ending on or after September 30, 2024. Commencing with the first fiscal quarter ending after both the completion of the IPO and the occurrence of an unsecured debt issuance, (a) our Leverage Ratio, determined quarterly as of the last day of each fiscal quarter, may not exceed (x) 5.75 to 1.00 for the first four fiscal quarters ending after the occurrence of the unsecured debt issuance and (y) 5.25 to 1.00 for each fiscal quarter ending thereafter; and (b) our Secured Leverage Ratio (as defined in the ABL Credit Agreement), determined quarterly as of the last day of each fiscal quarter, may not exceed (x) 3.50 to 1.00 for the first four fiscal quarters ending after the occurrence of the unsecured debt issuance and (y) 3.00 to 1.00 for each fiscal quarter ending thereafter. All obligations under the ABL Facility are collateralized by essentially all the assets of the Company. We were in compliance with all covenants as of June 30, 2023 and December 31, 2022. The ABL Credit Agreement also restricts the Company’s ability to: incur additional indebtedness and guarantee indebtedness; pay dividends or make other distributions or repurchase or redeem equity interests; prepay, redeem or repurchase certain debt; issue certain preferred units or similar equity securities; make loans and investments; sell, transfer or otherwise dispose of assets; incur liens; enter into transactions with affiliates; enter into agreements restricting the Company’s restricted subsidiaries’ ability to pay dividends; enter into certain swap agreements; amend certain organizational documents; enter into sale and leaseback transactions; and consolidate, merge or sell all or substantially all of the Company’s assets. The applicable interest rate under the ABL Facility is (i) in the case of SOFR-based borrowings, the Term SOFR or Daily Simple SOFR rate then in effect (subject to a floor of 0%) plus 0.10% plus a spread that depends on our Leverage Ratio as of the most recent determination date ranging from 2.00% if our Leverage Ratio is less than or equal to 3.00:1.00 to 3.00% if our Leverage Ratio is greater than 5.50:1.00 and (ii) in the case of prime rate-based borrowings, the prime rate (subject to a floor of 2.5%) plus a spread that depends on our Leverage Ratio as of the most recent determination date ranging from 1.00% if our Leverage Ratio is less than or equal to 3.00:1.00 to 2.00% if our Leverage Ratio is greater than 5.50:1.00. The applicable interest rates as of June 30, 2023 were 10.25% (prime rate plus 2.00%) and 8.34% (Term SOFR rate plus 0.10% plus 3.00%). The applicable interest rates as of December 31, 2022 were 9.50% (prime rate plus 2.00%) and 7.60% (Term SOFR rate plus 0.10% plus 3.00%). Term Loan As of January 1, 2022, a wholly-owned subsidiary of Kodiak had a term loan (the “Term Loan”) pursuant to a credit agreement with unaffiliated unsecured lenders and Wells Fargo Bank, N.A., as administrative agent. On May 19, 2022, we entered into the Term Loan Credit Agreement (as amended from time to time, the “Term Loan Credit Agreement”) whereby we increased the aggregate commitments under the Term Loan from $400 million to $1 billion and made certain changes to our financial covenants, including (i) the financial covenants were not measured for the second quarter of 2022 and (ii) the maximum Leverage Ratio (calculated based on the ratio of Consolidated Total Debt to Consolidated EBITDA, each as defined in the Term Loan Credit Agreement) was increased to 7.50x through the first quarter of 2023; 7.25x thereafter through the third quarter of 2023; 7.00x thereafter through the first quarter of 2024; 6.75x thereafter through the first quarter of 2025; 6.50x thereafter through the first quarter of 2026; 6.25x thereafter through the fourth quarter of 2026; and 6.00x in the first quarter of 2027 and thereafter. We were in compliance with all financial covenants as of June 30, 2023 and December 31, 2022. 31 Table of Contents On March 31, 2023, our wholly-owned subsidiary entered into the First Amendment to the Term Loan Credit Agreement, which extended the maturity date to September 22, 2028. Lender fees and costs totaling $0.75 million were incurred for this amendment and will be amortized over the life of the loans to interest expense. Borrowings under the Term Loan incurred interest at the following applicable rates: interest rates were based on 6.00% plus an alternate base rate and 7.00% plus an adjusted eurocurrency rate for alternate base rate loans and eurocurrency loans, respectively. The interest rates were 12.16% and 10.67% as of June 30, 2023 and December 31, 2022, respectively. As disclosed in Note 19 - (“Subsequent Events”) to the Condensed Consolidated Financial Statements included elsewhere in this Report, we used the net proceeds of our IPO, together with the proceeds resulting from the Term Loan Derivative Settlement and borrowings under our ABL Facility, to repay $300 million of borrowings outstanding under the Term Loan on July 3, 2023. In connection with the IPO, all of the Company’s and its subsidiaries’ remaining obligations under the Term Loan were assumed by a parent entity of Kodiak Holdings, and the Company’s obligations thereunder were terminated. As a result, the Company is no longer a borrower or guarantor under, nor otherwise obligated with respect to the debt outstanding under the Term Loan. Derivatives and Hedging Activities To mitigate a portion of the exposure to fluctuations in the variable interest rate of the ABL Facility and the Term Loan, we have entered into various derivative instruments. Our interest rate swaps exchange variable interest rates for fixed interest rates. We have not designated any derivative instruments as hedges for accounting purposes and do not enter into such instruments for speculative or trading purposes. See Note 10 (“Derivative Instruments”) to the Condensed Consolidated Financial Statements included elsewhere in this Report. Parent Entity Distribution On June 27, 2023, we made a cash distribution of $42.3 million to a parent entity of Kodiak Holdings prior to the consummation of the IPO, of which $11.0 million was funded with cash on hand and $31.3 million was funded with borrowings under the ABL Facility. Non-GAAP Financial Measures Management uses a variety of financial and operating metrics to analyze our performance. These metrics are significant factors in assessing our operating results and profitability and include the non-GAAP financial measures of Adjusted Gross Margin, Adjusted Gross Margin Percentage, Adjusted EBITDA, Adjusted EBITDA Percentage, Discretionary Cash Flow and Free Cash Flow. Adjusted Gross Margin and Adjusted Gross Margin Percentage Adjusted Gross Margin is a non-GAAP financial measure. We define Adjusted Gross Margin as revenue less cost of operations, exclusive of depreciation and amortization expense. We believe that Adjusted Gross Margin is useful as a supplemental measure to our operating profitability. Adjusted Gross Margin is impacted primarily by the pricing trends for service operations and cost of operations, including labor rates for service technicians, volume and per compression unit costs for lubricant oils, quantity and pricing of routine preventative maintenance on compression units and property tax rates on compression units. Adjusted Gross Margin should not be considered an alternative to, or more meaningful than, gross margin or any other measure of financial performance presented in accordance with GAAP. Moreover, Adjusted Gross Margin as presented may not be comparable to similarly titled measures of other companies. Because we capitalize assets, depreciation and amortization of equipment is a necessary element of our costs. To compensate for the limitations of Adjusted Gross Margin as a measure of our performance, we believe that it is important to consider gross margin determined under GAAP, as well as Adjusted Gross Margin, to evaluate our operating profitability. 32 Table of Contents Adjusted Gross Margin for Compression Operations Three Months Ended June 30, Six Months Ended June 30, 2023 2022 2023 2022 (in thousands) (in thousands) Total revenues $ 181,619 $ 162,808 $ 359,316 $ 320,303 Cost of operations (excluding depreciation and amortization) (65,017 ) (58,336 ) (127,787 ) (111,273 ) Depreciation and amortization (45,430 ) (43,397 ) (90,327 ) (85,802 ) Gross margin $ 71,172 $ 61,075 $ 141,202 $ 123,228 Gross Margin Percentage 39.2 % 37.5 % 39.3 % 38.5 % Depreciation and amortization 45,430 43,397 90,327 85,802 Adjusted Gross Margin $ 116,602 $ 104,472 $ 231,529 $ 209,030 Adjusted Gross Margin Percentage(1) 64.2 % 64.2 % 64.4 % 65.3 % (1) Calculated using Adjusted Gross Margin for Compression Operations as a percentage of total Compression Operations revenues. Adjusted Gross Margin for Other Services Three Months Ended June 30, Six Months Ended June 30, 2023 2022 2023 2022 (in thousands) (in thousands) Total revenues $ 21,687 $ 14,343 $ 34,102 $ 25,189 Cost of operations (excluding depreciation and amortization) (18,099 ) (11,774 ) (27,087 ) (20,601 ) Depreciation and amortization — — — — Gross margin $ 3,588 $ 2,569 $ 7,015 $ 4,588 Gross Margin Percentage 16.5 % 17.9 % 20.6 % 18.2 % Depreciation and amortization — — — — Adjusted Gross Margin $ 3,588 $ 2,569 $ 7,015 $ 4,588 Adjusted Gross Margin Percentage(1) 16.5 % 17.9 % 20.6 % 18.2 % (1) Calculated using Adjusted Gross Margin for Other Services as a percentage of total Other Services revenues. Adjusted EBITDA and Adjusted EBITDA Percentage We define Adjusted EBITDA as net income before interest expense, net plus, (i) tax expense (benefit); (ii) depreciation and amortization; (iii) realized loss (gain) on derivatives; (iv) unrealized loss (gain) on derivatives; (v) equity compensation expense; (vi) transaction expenses; (vii) loss (gain) on sale of assets; and (viii) impairment of compression equipment. We define Adjusted EBITDA Percentage as Adjusted EBITDA divided by total revenues. Adjusted EBITDA and Adjusted EBITDA Percentage are used as supplemental financial measures by our management and external users of our financial statements, such as investors, commercial banks and other financial institutions, to assess: • the financial performance of our assets without regard to the impact of financing methods, capital structure or historical cost basis of our assets; • the viability of capital expenditure projects and the overall rates of return on alternative investment opportunities; • the ability of our assets to generate cash sufficient to make debt payments and pay dividends; and • our operating performance as compared to those of other companies in our industry without regard to the impact of financing methods and capital structure. We believe that Adjusted EBITDA and Adjusted EBITDA Percentage provide useful information because, when viewed with our GAAP results and the accompanying reconciliation, they provide a more complete understanding of our performance than GAAP results alone. We also believe that external users of our financial statements benefit from having access to the same financial measures that management uses in evaluating the results of our business. Adjusted EBITDA and Adjusted EBITDA Percentage should not be considered as alternatives to, or more meaningful than, revenues, net income, operating income, cash flows from operating activities or any other measure of financial performance presented in accordance with GAAP as measures of operating performance and liquidity. Moreover, our Adjusted EBITDA and Adjusted EBITDA Percentage as presented may not be comparable to similarly titled measures of other companies. 33 Table of Contents Given we are a capital intensive business, depreciation, impairment of compression equipment and the interest cost of acquiring compression equipment are necessary elements of our costs. To compensate for these items, we believe that it is important to consider both net income and net cash provided by operating activities determined under GAAP, as well as Adjusted EBITDA and Adjusted EBITDA Percentage, to evaluate our financial performance and our liquidity. Our Adjusted EBITDA and Adjusted EBITDA Percentage exclude some, but not all, items that affect net income and net cash provided by operating activities, and these measures may vary among companies. Management compensates for the limitations of Adjusted EBITDA and Adjusted EBITDA Percentage as an analytical tool by reviewing the comparable GAAP measures, understanding the differences between the measures and incorporating this knowledge into management’s decision-making processes. The following table reconciles net income, the most directly comparable GAAP financial measure, to Adjusted EBITDA, its most directly comparable Non-GAAP financial measure, for each of the periods presented (in thousands) : Three Months Ended June 30, Six Months Ended June 30, 2023 2022 2023 2022 Net income $ 17,517 $ 8,901 $ 5,174 $ 58,456 Interest expense, net 60,964 36,829 119,687 62,469 Tax expense 5,851 2,781 1,861 18,159 Depreciation and amortization 45,430 43,397 90,327 85,802 Realized (gain) on derivatives (25,835 ) — (25,835 ) — Unrealized loss (gain) on derivatives 3,595 3,386 21,529 (32,822 ) Equity compensation expense(1) 29 — 908 619 Transaction expenses(2) 1,072 1,600 1,273 1,600 Gain on sale of assets (738 ) — (721 ) (7 ) Adjusted EBITDA $ 107,885 $ 96,894 $ 214,203 $ 194,276 Adjusted EBITDA Percentage 53.1 % 54.7 % 54.4 % 56.2 % (1) For the six months ended June 30, 2023 and 2022 there were $0.9 million and $0.6 million, respectively, of non-cash adjustments for equity compensation expense related to the Time-Vesting Units. (2) Represents certain costs associated with non-recurring professional services, our equity owners’ expenses and other costs. The following table reconciles net cash provided by operating activities to Adjusted EBITDA for each of the periods presented (in thousands) : Three Months Ended June 30, Six Months Ended June 30, 2023 2022 2023 2022 Net cash provided by operating activities $ 94,678 $ 72,851 $ 117,968 $ 127,647 Interest expense, net 60,964 36,829 119,687 62,469 Tax expense 5,851 2,781 1,861 18,159 Deferred tax provision (benefit) (3,282 ) (1,116 ) (761 ) (14,974 ) Realized gain on derivatives (25,835 ) — (25,835 ) — Transaction expenses(1) 1,072 1,600 1,273 1,600 Other(2) (6,763 ) (4,315 ) (13,109 ) (6,912 ) Change in operating assets and liabilities (18,800 ) (11,736 ) 13,119 6,287 Adjusted EBITDA $ 107,885 $ 96,894 $ 214,203 $ 194,276 (1) Represents certain costs associated with non-recurring professional services, our equity owners’ expenses and other costs. (2) Includes amortization of debt issuance costs, non-cash lease expense, provision for credit losses and inventory reserve. 34 Table of Contents Discretionary Cash Flow We define Discretionary Cash Flow as net cash provided by operating activities less maintenance capital expenditures, transaction expenses, certain changes in operating assets and liabilities and certain other expenses. We believe Discretionary Cash Flow is a useful liquidity and performance measure and supplemental financial measure for us in assessing our ability to pay cash dividends to our stockholders, make growth capital expenditures and assess our operating performance. Our ability to pay dividends is subject to limitations due to restrictions contained in our ABL Credit Agreement as further described elsewhere herein. Discretionary Cash Flow is presented for supplemental informational purposes only and should not be considered a substitute for financial information presented in accordance with GAAP, such as revenues, net income, operating income (loss) or cash flows from operating activities. Discretionary Cash Flow as presented may not be comparable to similarly titled measures of other companies. Free Cash Flow We define Free Cash Flow as net cash provided by operating activities less maintenance and growth capital expenditures, transaction expenses, certain changes in operating assets and liabilities and certain other expenses. We believe Free Cash Flow is a liquidity measure and useful supplemental financial measure for us in assessing our ability to pursue business opportunities and investments to grow our business and to service our debt. Free Cash Flow is presented for supplemental informational purposes only and should not be considered a substitute for financial information presented in accordance with GAAP, such as revenues, net income (loss), operating income (loss) or cash flows from operating activities. Free Cash Flow as presented may not be comparable to similarly titled measures of other companies. The following table reconciles net cash provided by operating activities, to Discretionary Cash Flow and Free Cash Flow, for each of the periods presented (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2023 2022 2023 2022 Net cash provided by operating activities $ 94,678 $ 72,851 $ 117,968 $ 127,647 Maintenance capital expenditures(1) (10,940 ) (9,320 ) (15,743 ) (17,431 ) Transaction expenses(2) 1,072 1,600 1,273 1,600 Gain on sale of assets (738 ) — (721 ) (7 ) Change in operating assets and liabilities (18,800 ) (11,736 ) 13,119 6,287 Other(3) (399 ) (898 ) (1,317 ) (1,693 ) Discretionary Cash Flow $ 64,873 $ 52,497 $ 114,579 $ 116,403 Growth capital expenditures(4)(5) (32,529 ) (54,689 ) (68,344 ) (126,590 ) Proceeds from sale of assets 1,023 1 1,055 13 Free Cash Flow $ 33,367 $ (2,191 ) $ 47,290 $ (10,174 ) (1) See “Management’s Discussion and Analysis of Financial Condition and Results of Operations —Liquidity and Capital Resources —Cash Requirements —Capital Expenditures” for information regarding amounts designated as maintenance capital expenditures. (2) Represents certain costs associated with non-recurring professional services, our equity owners’ expenses and other costs. (3) Includes non-cash lease expense, provision for credit losses and inventory reserve. (4) For the three months ended June 30, 2023 and 2022, growth capital expenditures include a $2.0 million and a $10.1 million decrease in accrued capital expenditures, respectively. For the six months ended June 30, 2023 and 2022, growth capital expenditures includes a $10.0 million and a $1.9 million decrease in accrued capital expenditures, respectively. (5) For the three months ended June 30, 2023 and 2022, there were $4.8 million and $1.7 million of non-unit growth capital expenditures, respectively. For the six months ended June 30, 2023 and 2022, there were $7.2 million and $2.2 million of non-unit growth capital expenditures, respectively. Remaining amounts for the six months ended June 30, 2023 and 2022 represent growth capital expenditures to expand our operating capacity. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Cash Requirements—Capital Expenditures” for information regarding amounts designated as growth capital expenditures. 35 Table of Contents The following table reconciles net income to Discretionary Cash Flow and Free Cash Flow, for each of the periods presented (in thousands): Three Months Ended June 30, Six Months Ended June 30, 2023 2022 2023 2022 (in thousands) (in thousands) Net income $ 17,517 $ 8,901 $ 5,174 $ 58,456 Depreciation and amortization 45,430 43,397 90,327 85,802 Unrealized loss (gain) on derivatives 3,595 3,386 21,529 (32,822 ) Deferred tax provision (benefit) 3,282 1,116 761 14,974 Amortization of debt issuance costs 5,626 3,417 11,071 5,212 Equity compensation expense(1) 29 — 908 619 Transaction expenses(2) 1,072 1,600 1,273 1,600 Gain on sale of assets (738 ) — (721 ) (7 ) Maintenance capital expenditures(3) (10,940 ) (9,320 ) (15,743 ) (17,431 ) Discretionary Cash Flow $ 64,873 $ 52,497 $ 114,579 $ 116,403 Growth capital expenditures(4)(5) (32,529 ) (54,689 ) (68,344 ) (126,590 ) Proceeds from sale of assets 1,023 1 1,055 13 Free Cash Flow $ 33,367 $ (2,191 ) $ 47,290 $ (10,174 ) (1) For the six months ended June 30, 2023 and 2022, there were $0.9 million and $0.6 million, respectively, of non-cash adjustments for equity compensation expense related to the Time Vesting Units. (2) Represents certain costs associated with non-recurring professional services, our equity owners’ expenses and other costs. (3) See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Cash Requirements—Capital Expenditures” for information regarding amounts designated as maintenance capital expenditures. (4) For the three months ended June 30, 2023 and 2022, growth capital expenditures include a $2.0 million and a $10.1 million decrease in accrued capital expenditures, respectively. For the six months ended June 30, 2023 and 2022, growth capital expenditures include a $10.0 million and a $1.9 million decrease in accrued capital expenditures, respectively. (5) For the three months ended June 30, 2023 and 2022, there were $4.8 million and $1.7 million of non-unit growth capital expenditures, respectively. For the six months ended June 30, 2023 and 2022, there were $7.2 million and $2.2 million of non-unit growth capital expenditures, respectively. Remaining amounts for the six months ended June 30, 2023 and 2022 represent growth capital expenditures to expand our operating capacity. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Cash Requirements—Capital Expenditures” for information regarding amounts designated as growth capital expenditures. 36 Table of Contents Critical Accounting Policies and Estimates The discussion and analysis of our financial condition and results of operations is based upon certain financial estimates, judgments and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the periods presented. We base our estimates on historical experience, available information and various other assumptions we believe to be reasonable under the circumstances. On an ongoing basis, we evaluate our estimates; however, actual results may differ from these estimates under different assumptions or conditions. The accounting policies that we believe require management’s most difficult, subjective or complex judgments and are the most critical to its reporting of results of operations and financial position are as follows: Business Combinations and Goodwill Goodwill acquired in connection with business combinations represents the excess of consideration over the fair value of net assets acquired. Certain assumptions and estimates are employed in determining the fair value of assets acquired and liabilities assumed. Goodwill is not amortized, but is reviewed for impairment annually, or more frequently if impairment indicators arise that suggest the carrying value of goodwill may not be recovered. Goodwill - Impairment Assessments We evaluate goodwill for impairment annually and whenever events or changes indicate that it is more likely than not that the fair value at the reporting unit level could be less than its carrying value (including goodwill). We estimate the fair value based on a number of factors, including macroeconomic conditions, industry and market considerations, cost factors, overall financial performance and Company specific events. Estimating projected cash flows requires us to make certain assumptions as it relates to future operating performance. Application of the goodwill impairment test requires judgments, including a qualitative assessment to determine whether there are any impairment indicators, and determining the fair value of the reporting unit. A number of significant assumptions and estimates are involved in the application of the income approach to forecast future cash flows, including revenue and operating income growth rates, discount rates and other factors. While we believe that our estimates of current value are reasonable, if actual results differ from the estimates and judgments used including such items as future cash flows and the volatility inherent in markets which we serve, impairment charges against the carrying value of those assets could be required in the future. No events or circumstances occurring that indicated that the fair value of the entity may be below its carrying amount. No goodwill impairment was recorded for the three and six months ended June 30, 2023 and 2022. Impairment of Long-Lived Assets Long-lived assets, including property, plant, and equipment, and other finite-lived identifiable intangible assets, are reviewed for impairment whenever events or changes in circumstances, including the removal of compression units from our active fleet, indicate that the carrying amount of an asset may not be recoverable. Such events and changes may include significant changes in performance relative to expected operating results, significant changes in asset use, significant negative industry or economic trends, and changes in our business strategy, among others. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the assets to estimated future undiscounted net cash flows expected to be generated by the asset. Impairment losses are recognized in the period in which the impairment occurs and represent the excess of the asset carrying value over its fair value estimated future undiscounted net cash flows. No impairment was recorded for the three and six months ended June 30, 2023 and 2022. Estimated Useful Lives of Property, Plant and Equipment Property, plant and equipment is carried at cost. Depreciation is computed on a straight-line basis using useful lives that are estimated based on assumptions and judgments that reflect both historical experience and expectations regarding future use of our assets. The use of different assumptions and judgments in the calculation of depreciation, especially those involving useful lives, would likely result in significantly different net book values of our assets and results of operations. Commitments and Contingencies From time to time, we may be involved in various claims and litigation arising in the ordinary course of business. Additionally, our compliance with state and local sales tax regulations is subject to audit by various taxing authorities. Certain taxing authorities have either claimed or issued an assessment that specific operational processes, which we and others in our industry regularly conduct, result in transactions that are subject to state sales taxes. We and others in our industry have disputed these claims and assessments based on either existing tax statutes or published guidance by the taxing authorities. 37 Table of Contents We utilize both internal and external counsel in evaluating our potential exposure to adverse outcomes from orders, judgments or settlements. While we are unable to predict the ultimate outcome of these actions, the accounting standard for contingencies requires management to make judgments about future events that are inherently uncertain. We are required to record a loss during any period in which we believe a contingency is probable and can be reasonably estimated. To the extent that actual outcomes differ from our estimates, or additional facts and circumstances cause us to revise our estimates, our earnings will be affected. We record legal costs as incurred, and all recorded legal liabilities are revised, as required, as better information becomes available to us. As of June 30, 2023, based on the information currently available, we have accrued a contingent liability of approximately $28.4 million relating to the Sales Tax Audit for the periods currently under audit classified in accrued liabilities on the consolidated balance sheet. For the year ended December 31, 2020, we wrote off an outstanding receivable balance of $3.7 million, due to us from a previous acquisition, to bad debt expense. Additionally, we recorded a contingent liability of $3.7 million related to the remaining 50% of the receivable balance due to the seller in accrued liabilities. As of June 30, 2023, none of the outstanding receivables had been collected. As of June 30, 2023, there are no other legal matters for which resolution could have a material adverse effect on the consolidated financial statements. Fair Value of Derivative Instruments We use any of three valuation approaches to measure fair value: the market approach, the income approach, and the cost approach in determining the appropriate valuation methodologies based on the nature of the asset or liability being measured and the reliability of the inputs used in arriving at fair value. We record derivative instruments at fair value using level 2 inputs of the fair value hierarchy. The interest rate swaps and interest rate collars are valued using a discounted cash flow analysis on the expected cash flows of each derivative using observable inputs including interest rate curves and credit spreads. As of June 30, 2023, $43.8 million was recorded for the fair value of the asset of the derivative instruments compared to $65.3 million asset of the derivative instruments recorded as of December 31, 2022. Recently Adopted Accounting Pronouncements In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-13, Financial Instruments—Credit Losses (“Topic 326”): Measurement of Credit Losses on Financial Instruments which changes the impairment model for financial assets measured at amortized cost and certain other instruments, including trade and other receivables, held-to-maturity debt securities and loans, and requires entities to use a new current expected credit loss model that will result in earlier recognition of allowance for losses. The Company adopted this Topic 326 on January 1, 2023. The adoption of this amendment did not have a material impact on the Company’s consolidated financial statements. 38 Table of Contents