UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549



 

FORM 10-Q



 

 
(Mark One)
x   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2017

OR

 
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period from            to           

Commission File Number: 001-32384



 

MACQUARIE INFRASTRUCTURE CORPORATION

(Exact Name of Registrant as Specified in Its Charter)



 

 
Delaware   43-2052503
(State or Other Jurisdiction of
Incorporation or Organization)
  (IRS Employer
Identification No.)

125 West 55th Street
New York, New York 10019

(Address of Principal Executive Offices) (Zip Code)

(212) 231-1000

(Registrant’s Telephone Number, Including Area Code)

(Former Name, Former Address and Former Fiscal Year if Changed Since Last Report): N/A



 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.

   
Large Accelerated Filer x   Accelerated Filer o
Non-accelerated Filer o   Smaller Reporting Company o   Emerging Growth Company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).Yes o No x

There were 82,667,915 shares of common stock, with $0.001 par value, outstanding at August 1, 2017.

 

 


 
 

TABLE OF CONTENTS

MACQUARIE INFRASTRUCTURE CORPORATION
 
TABLE OF CONTENTS

 
  Page
PART I. FINANCIAL INFORMATION
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations     1  
Quantitative and Qualitative Disclosures About Market Risk     29  
Controls and Procedures     29  
Consolidated Condensed Balance Sheets as of June 30, 2017 (Unaudited) and December 31, 2016     30  
Consolidated Condensed Statements of Operations for the Quarters and Six Months Ended June 30, 2017 and 2016 (Unaudited)     32  
Consolidated Condensed Statements of Comprehensive Income for the Quarters and Six Months Ended June 30, 2017 and 2016 (Unaudited)     33  
Consolidated Condensed Statements of Cash Flows for the Six Months Ended June 30, 2017 and 2016 (Unaudited)     34  
Notes to Consolidated Condensed Financial Statements (Unaudited)     36  
PART II. OTHER INFORMATION
 

Item 1.

Legal Proceedings

    54  

Item 1A.

Risk Factors

    54  

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

    54  

Item 3.

Defaults Upon Senior Securities

    54  

Item 4.

Mine Safety Disclosures

    54  

Item 5.

Other Information

    54  

Item 6.

Exhibits

    54  

Macquarie Infrastructure Corporation is not an authorized deposit-taking institution for the purposes of the Banking Act 1959 (Commonwealth of Australia) and its obligations do not represent deposits or other liabilities of Macquarie Bank Limited ABN 46 008 583 542 (MBL). MBL does not guarantee or otherwise provide assurance in respect of the obligations of Macquarie Infrastructure Corporation.

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Cautionary Note Regarding Forward-Looking Statements

In addition to historical information, this quarterly report on Form 10-Q (Quarterly Report) contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act and Section 21E of the Exchange Act. Forward-looking statements may appear throughout this Quarterly Report, including without limitation, the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section. We use words such as “believe”, “intend”, “expect”, “anticipate”, “plan”, “may”, “will”, “should”, “estimate”, “potential”, “project” and similar expressions to identify forward-looking statements. Such statements include, among others, those concerning our expected financial performance and strategic and operational plans, as well as all assumptions, expectations, predictions, intentions or beliefs about future events. You are cautioned that any such forward-looking statements are not guarantees of future performance and that a number of risks and uncertainties could cause actual results to differ materially from those anticipated in the forward-looking statements. Such risks and uncertainties include, but are not limited to, the risks identified in our Annual Report on the Form 10-K for the year ended December 31, 2016, and in other reports we file from time to time with the Securities and Exchange Commission (SEC).

Given the risks and uncertainties surrounding forward-looking statements, you should not place undue reliance on these statements. Many of these factors are beyond our ability to control or predict. Our forward-looking statements speak only as of the date of this Quarterly Report. Other than as required by law, we undertake no obligation to update or revise forward-looking statements, whether as a result of new information, future events or otherwise.

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PART I
 
FINANCIAL INFORMATION

Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion of the financial condition and results of operations of Macquarie Infrastructure Corporation (MIC) should be read in conjunction with the consolidated condensed financial statements and the notes to those statements included elsewhere herein.

MIC is a Delaware corporation formed on May 21, 2015. MIC’s predecessor, Macquarie Infrastructure Company LLC, was formed on April 13, 2004. Except as otherwise specified, all references in this Form 10-Q to “MIC”, “we”, “us”, and “our” refer to Macquarie Infrastructure Corporation and its subsidiaries.

MIC is externally managed by Macquarie Infrastructure Management (USA) Inc. (our Manager), pursuant to the terms of a Management Services Agreement, that is subject to the oversight and supervision of our Board of Directors. The majority of the members of our Board of Directors have no affiliation with Macquarie. Our Manager is a member of the Macquarie Group of companies comprising the Macquarie Group Limited and its subsidiaries and affiliates worldwide. Macquarie Group Limited is headquartered in Australia and is listed on the Australian Stock Exchange.

We currently own and operate a diversified portfolio of businesses that provide services to other businesses, government agencies and individuals primarily in the U.S. The businesses we own and operate are organized into four segments:

International-Matex Tank Terminals (IMTT):  a marine terminals business providing bulk liquid storage, handling and other services to third parties at ten terminals in the U.S. and two in Canada;
Atlantic Aviation:  a provider of fuel, terminal, aircraft hangaring and other services primarily to owners and operators of general aviation (GA) jet aircraft at 70 airports throughout the U.S.;
Contracted Power (CP):  comprising a gas-fired facility and controlling interests in wind and solar facilities in the U.S.; and
MIC Hawaii:   comprising an energy company that processes and distributes gas and provides related services (Hawaii Gas), and several smaller businesses collectively engaged in efforts to reduce the cost and improve the reliability and sustainability of energy, all based in Hawaii.

Our businesses generally operate in sectors with barriers to entry including high initial development and construction costs, long-term contracts or the requirement to obtain government approvals and a lack of immediate cost-effective alternatives to the services provided. Overall they tend to generate sustainable, stable and growing cash flows over the long term.

Overview

Use of Non-GAAP measures

In addition to our results under U.S. GAAP, we use certain non-GAAP measures to assess the performance and prospects of our businesses. In particular, we use EBITDA excluding non-cash items, Free Cash Flow and certain proportionately combined financial metrics. Proportionately combined financial metrics reflect MIC Corporate and our ownership interest in each of our businesses.

We measure EBITDA excluding non-cash items as it reflects our businesses’ ability to effectively manage the volume of products sold or services provided, the operating margin earned on those transactions and the management of operating expenses independent of the capitalization and tax attributes of those businesses.

In analyzing the financial performance of our businesses, we focus primarily on cash generation and Free Cash Flow in particular. We believe investors use Free Cash Flow as a measure of our ability to sustain and potentially increase our quarterly cash dividend and to fund a portion of our growth.

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See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Results of Operations — Consolidated — Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) excluding non-cash items, Free Cash Flow and Proportionately Combined Metrics” for further information on our calculation of EBITDA excluding non-cash items, Free Cash Flow and our proportionately combined metrics and for reconciliations of non-GAAP measures to the most comparable GAAP measures.

At IMTT, we focus on providing bulk liquid storage, handling and other services to customers who place a premium on ease of access and operational flexibility. The substantial majority of IMTT’s revenue is generated pursuant to “take-or-pay” contracts providing access to storage tank capacity and ancillary services.

At Atlantic Aviation, our focus is on attracting and maintaining relationships with GA aircraft owners and pilots and encouraging them to purchase fuel and other services from our fixed based operations (FBOs). Atlantic Aviation’s gross margin is correlated with the number of GA flight movements in the U.S. and the business’ ability to service a portion of the aircraft involved in those operations.

The businesses that comprise our CP segment generate revenue by producing and selling electric power pursuant primarily to long-dated power purchase agreements (PPAs) or tolling agreements all with creditworthy off-takers.

MIC Hawaii comprises Hawaii Gas and several smaller businesses collectively engaged in efforts to reduce the cost and improve the reliability and sustainability of energy in Hawaii. The businesses of MIC Hawaii generate revenue primarily from the provision of gas services to commercial, residential and governmental customers, the generation of power and the design and construction of building mechanical systems.

Dividends

Since January 1, 2016, MIC has paid or declared the following dividends:

       
Declared
  Period Covered   $ per Share   Record Date   Payable Date
August 1, 2017
    Second quarter 2017     $ 1.38       August 14, 2017       August 17, 2017  
May 2, 2017
    First quarter 2017       1.32       May 15, 2017       May 18, 2017  
February 17, 2017
    Fourth quarter 2016       1.31       March 3, 2017       March 8, 2017  
October 27, 2016
    Third quarter 2016       1.29       November 10, 2016       November 15, 2016  
July 28, 2016
    Second quarter 2016       1.25       August 11, 2016       August 16, 2016  
April 28, 2016
    First quarter 2016       1.20       May 12, 2016       May 17, 2016  
February 18, 2016
    Fourth quarter 2015       1.15       March 3, 2016       March 8, 2016  

We currently intend to maintain, and where possible, increase our quarterly cash dividend to our shareholders. The MIC Board has authorized a quarterly cash dividend of $1.38 per share for the quarter ended June 30, 2017, or a 4.5% increase over the dividend for the quarter ended March 31, 2017 and 10.4% increase over the dividend for the quarter ended June 30, 2016. In determining whether to adjust the amount of our quarterly dividend, our Board will take into account such matters as the state of the capital markets and general business conditions, the Company’s financial condition, results of operations, capital requirements, capital opportunities and any contractual, legal and regulatory restrictions on the payment of dividends by the Company to its stockholders or by its subsidiaries to the Company, and any other factors that it deems relevant, subject to maintaining a prudent level of reserves and without creating undue volatility in the amount of such dividends where possible. Moreover, the Company’s senior secured credit facility and the debt commitments at our businesses contain restrictions that may limit the Company’s ability to pay dividends. Although historically we have declared cash dividends on our shares, any or all of these or other factors could result in the modification of our dividend policy, or the reduction, modification or elimination of our dividend in the future.

Shared Services Initiative

We have implemented a shared services initiative to consolidate common back-office functions across our businesses, including Accounting, Human Resources, Tax, Information Technology and Risk Management support. We have incurred, and expect to continue to incur, implementation costs in 2017, principally in relation to severance and consulting services, and we expect to realize full year savings from this initiative in 2018. The expected savings will not be spread evenly or proportionally across our businesses.

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Results of Operations

Consolidated

Key Factors Affecting Operating Results for the Quarter:

growth in contributions from Atlantic Aviation and IMTT; and
contributions from acquisitions; partially offset by
unrealized losses on commodity hedges at Hawaii Gas; and
cost increases related to implementation of a shared services initiative and evaluation of various investment and acquisition opportunities.

Our consolidated results of operations are as follows:

               
  Quarter Ended
June 30,
  Change
Favorable/
(Unfavorable)
  Six Months Ended
June 30,
  Change
Favorable/
(Unfavorable)
     2017   2016   $   %   2017   2016   $   %
     ($ In Thousands, Except Share and Per Share Data) (Unaudited)
Revenue
                                                                       
Service revenue   $ 345,045     $ 306,221       38,824       12.7     $ 708,849     $ 618,462       90,387       14.6  
Product revenue     93,945       91,358       2,587       2.8       181,598       175,504       6,094       3.5  
Total revenue     438,990       397,579       41,411       10.4       890,447       793,966       96,481       12.2  
Costs and expenses
                                                                       
Cost of services     147,114       120,857       (26,257 )      (21.7 )      301,820       237,320       (64,500 )      (27.2 ) 
Cost of product sales     40,249       35,018       (5,231 )      (14.9 )      87,474       68,078       (19,396 )      (28.5 ) 
Selling, general and administrative     82,967       72,430       (10,537 )      (14.5 )      159,919       144,714       (15,205 )      (10.5 ) 
Fees to Manager – related party     18,433       16,392       (2,041 )      (12.5 )      36,656       31,188       (5,468 )      (17.5 ) 
Depreciation     57,063       59,662       2,599       4.4       114,744       112,883       (1,861 )      (1.6 ) 
Amortization of
intangibles
    15,898       16,713       815       4.9       33,591       34,500       909       2.6  
Total operating expenses     361,724       321,072       (40,652 )      (12.7 )      734,204       628,683       (105,521 )      (16.8 ) 
Operating income     77,266       76,507       759       1.0       156,243       165,283       (9,040 )      (5.5 ) 
Other income (expense)
                                                                       
Interest income     41       25       16       64.0       75       58       17       29.3  
Interest expense(1)     (35,356 )      (39,502 )      4,146       10.5       (60,838 )      (96,397 )      35,559       36.9  
Other income, net     1,738       271       1,467       NM       2,920       3,700       (780 )      (21.1 ) 
Net income before income taxes     43,689       37,301       6,388       17.1       98,400       72,644       25,756       35.5  
Provision for income taxes     (17,664 )      (16,220 )      (1,444 )      (8.9 )      (39,737 )      (31,387 )      (8,350 )      (26.6 ) 
Net income   $ 26,025     $ 21,081       4,944       23.5     $ 58,663     $ 41,257       17,406       42.2  
Less: net income (loss) attributable to noncontrolling interests     5       1,889       1,884       99.7       (3,372 )      (290 )      3,082       NM  
Net income attributable to MIC   $ 26,020     $ 19,192       6,828       35.6     $ 62,035     $ 41,547       20,488       49.3  
Basic income per share attributable to MIC   $ 0.32     $ 0.24       0.08       33.3     $ 0.75     $ 0.52       0.23       44.2  
Weighted average number of shares outstanding:
basic
    82,430,324       80,369,575       2,060,749       2.6       82,285,053       80,241,293       2,043,760       2.5  

NM — Not meaningful

(1) Interest expense includes losses on derivative instruments of $7.7 million and $6.8 million for the quarter and six months ended June 30, 2017, respectively. For the quarter and six months ended June 30, 2016, interest expense includes losses on derivative instruments of $14.9 million and $46.7 million, respectively.

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Results of Operations: Consolidated – (continued)

Revenue

Consolidated revenue increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily as a result of an increase in the wholesale cost of fuel and an increase in the volume of fuel sold at Atlantic Aviation, contributions from acquisitions generally and an increased contribution from IMTT including recognition of deferred revenue resulting from termination of a construction project by a biodiesel customer.

Cost of Services and Product Sales

Consolidated cost of services and product sales increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to an increase in the wholesale cost of jet fuel and propane, contributions from acquisitions generally and unrealized losses on commodity hedges.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to (i) $3.1 million and $5.4 million, respectively, of costs incurred in connection with the implementation of our shared services initiative; (ii) $4.9 million of costs incurred in connection with the evaluation of various investment and acquisition opportunities; and (iii) incremental costs associated with acquired businesses.

Fees to Manager

Our Manager is entitled to a monthly base management fee based primarily on our market capitalization and potentially a quarterly performance fee based on the total stockholder return relative to a U.S. utilities index. For the quarter and six months ended June 30, 2017, we incurred base management fees of $18.4 million and $36.7 million, respectively, compared with $16.4 million and $31.2 million for the quarter and six months ended June 30, 2016, respectively. No performance fees were generated in any of the above periods. The unpaid portion of base management fees and performance fees, if any, at the end of each reporting period is included in Due to Manager-related party in our consolidated condensed balance sheets.

In all of the periods shown below, our Manager elected to reinvest any fees to which it was entitled in additional shares. In accordance with the Third Amended and Restated Management Service Agreement, our Manager has currently elected to reinvest future base management fees and performance fees, if any, in additional shares.

     
Period   Base
Management
Fee Amount
($ in Thousands)
  Performance
Fee Amount
($ in Thousands)
  Shares
Issued
2017 Activities:
                          
Second quarter 2017   $ 18,433     $  —       233,394 (1) 
First quarter 2017     18,223             232,398  
2016 Activities:
                          
Fourth quarter 2016   $ 18,916     $       230,773  
Third quarter 2016     18,382             232,488  
Second quarter 2016     16,392             232,835  
First quarter 2016     14,796             234,179  

(1) Our Manager elected to reinvest all of the monthly base management fees for the second quarter of 2017 in shares. We issued 233,394 shares for the quarter ended June 30, 2017, including 77,860 shares that were issued in July 2017 for the June 2017 monthly base management fee.

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Results of Operations: Consolidated – (continued)

Depreciation

Depreciation expense decreased for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 primarily due to the write-off of tanks and docks in 2016 at IMTT. Depreciation expense increased for the six months ended June 30, 2017 compared with the six months ended June 30, 2016 primarily as a result of assets placed in service and contribution from acquisitions.

Interest Expense and Losses on Derivative Instruments

Interest expense includes losses on derivative instruments of $7.7 million and $6.8 million for the quarter and six months ended June 30, 2017, respectively, compared with losses on derivative instruments of $14.9 million and $46.7 million for the quarter and six months ended June 30, 2016, respectively. Gains and losses on derivatives recorded in interest expense are attributable to the change in fair value of interest rate hedging instruments. For the six months ended June 30, 2016, interest expense also included the non-cash write-off of deferred financing costs at Hawaii Gas related to the February 2016 refinancing of its $80.0 million term loan debt and its $60.0 million revolving credit facility. Excluding the derivative adjustments and deferred financing cost write-offs, interest expense decreased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to a reduction in the weighted average interest rate, partially offset by a higher average debt balance. Cash interest expense was $26.4 million and $52.3 million for the quarter and six months ended June 30, 2017, respectively, compared with $27.2 million and $54.6 million for the quarter and six months ended June 30, 2016, respectively. See discussions of interest expense for each of our operating businesses below.

Other Income, net

Other income, net, increased for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 as a result of financing income from a third party developer of renewable projects on a revolving credit facility provided by our CP business and the associated development profit. Other income, net, decreased for the six months ended June 30, 2017 compared with the six months ended June 30, 2016 primarily due to the absence of insurance recoveries totaling $2.5 million from losses incurred at IMTT.

Income Taxes

We file a consolidated federal income tax return that includes the financial results for IMTT, Atlantic Aviation, Bayonne Energy Center (BEC), MIC Hawaii and our allocable share of the taxable income (loss) from our solar and wind facilities. The solar and wind facilities are held by limited liability companies and are treated as partnerships for tax purposes. Pursuant to a tax sharing agreement, the businesses included in our consolidated federal income tax return pay MIC an amount equal to the federal income tax each would have paid on a standalone basis as if they were not part of the consolidated federal income tax return.

For the year ending December 31, 2017, we expect any consolidated federal income tax liability our businesses may generate to be fully offset by net operating loss (NOL) carryforwards. Our federal NOL balance at December 31, 2016 was $398.1 million. We believe that we will be able to utilize all of our federal prior year NOLs and, together with planned tax strategies, we do not expect to make regular federal income tax payments any earlier than the second half of 2019.

At June 30, 2017, we expected that for the year ending December 31, 2017 we would report current year taxable income of approximately $95.0 million and pay approximately $1.5 million in Alternative Minimum Tax, net of available investment tax credits. In May 2017, we completed an investment in a renewable project that will, provided it has reached commercial operations prior to year-end, generate investment tax credits that would entirely offset the forecasted Alternative Minimum Tax. The project is expected to be in service during the fourth quarter of 2017.

For the year ending December 31, 2017, we expect our businesses collectively to pay state income taxes of approximately $13.5 million. In calculating our consolidated state income tax provision, we have provided a valuation allowance for certain state income tax NOLs, the use of which is uncertain.

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Results of Operations: Consolidated – (continued)

Protecting Americans from Tax Hikes Act (PATH Act)

The PATH Act retroactively extends several tax provisions applicable to corporations, including the extension of 50% bonus depreciation for eligible property placed in service in 2015, 2016 and 2017, 40% bonus depreciation for eligible property placed in service in 2018 and 30% bonus depreciation for eligible property placed in service in 2019. Other than the extension of the bonus depreciation provision, the Company does not expect the provisions of the PATH Act to have a material effect on its tax profile.

Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) excluding non-cash items, Free Cash Flow and Proportionately Combined Metrics

In addition to our results under U.S. GAAP, we use certain non-GAAP measures to assess the performance and prospects of our businesses. In particular, we use EBITDA excluding non-cash items, Free Cash Flow and certain proportionately combined financial metrics. Proportionately combined financial metrics reflect MIC Corporate and our ownership interest in each of our businesses.

We measure EBITDA excluding non-cash items as it reflects our businesses’ ability to effectively manage the volume of products sold or services provided, the operating margin earned on those transactions and the management of operating expenses independent of the capitalization and tax attributes of those businesses. We believe investors use EBITDA excluding non-cash items primarily as a measure of the operating performance of MIC’s businesses and to make comparisons with the operating performance of other businesses whose depreciation and amortization expense may vary widely from ours, particularly where acquisitions and other non-operating factors are involved. We define EBITDA excluding non-cash items as net income (loss) or earnings — the most comparable GAAP measure — before interest, taxes, depreciation and amortization and non-cash items including impairments, unrealized derivative gains and losses, adjustments for other non-cash items and pension expense reflected in the statements of operations. EBITDA excluding non-cash items also excludes base management fees and performance fees, if any, whether paid in cash or stock.

Given our varied ownership levels in our CP and MIC Hawaii segments, together with our obligations to report the results of these businesses on a consolidated basis, GAAP measures such as net income (loss) do not fully reflect all of the items we consider in assessing the amount of cash generated based on our ownership interest in our businesses. We note that the proportionately combined metrics used may be calculated in a different manner by other companies and may limit their usefulness as a comparative measure. Therefore, proportionately combined metrics should be used as a supplemental measure and not in lieu of our financial results reported under GAAP.

Our businesses are characteristically owners of high-value, long-lived assets capable of generating substantial Free Cash Flow. We define Free Cash Flow as cash from operating activities — the most comparable GAAP measure — which includes cash paid for interest, taxes and pension contributions, less maintenance capital expenditures, which includes principal repayments on capital lease obligations used to fund maintenance capital expenditures, and excludes changes in working capital.

We use Free Cash Flow as a measure of our ability to provide investors with an attractive risk-adjusted return by sustaining and potentially increasing our quarterly cash dividend and funding a portion of our growth. GAAP metrics such as net income (loss) do not provide us with the same level of visibility into the performance and prospects of the business as a result of: (i) the capital intensive nature of our businesses and the generation of non-cash depreciation and amortization; (ii) shares issued to our external Manager under the Management Services Agreement; (iii) our ability to defer all or a portion of current federal income taxes; (iv) non-cash unrealized gains or losses on derivative instruments; (v) amortization of tolling liabilities; (vi) gains (losses) on disposal of assets; and (vii) pension expenses. Pension expenses primarily consist of interest cost, expected return on plan assets and amortization of actuarial and performance gains and losses. Any cash contributions to pension plans are reflected as a reduction to Free Cash Flow. We believe that external consumers of our financial statements, including investors and research analysts, use Free Cash Flow both to assess MIC’s performance and as an indicator of its success in generating an attractive risk-adjusted return.

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Results of Operations: Consolidated – (continued)

In this Quarterly Report on Form 10-Q, we have disclosed Free Cash Flow on a consolidated basis and for each of our operating segments and MIC Corporate. We believe that both EBITDA excluding non-cash items and Free Cash Flow support a more complete and accurate understanding of the financial and operating performance of our businesses than would otherwise be achieved using GAAP results alone.

Free Cash Flow does not take into consideration required payments on indebtedness and other fixed obligations or other cash items that are excluded from our definition of Free Cash Flow. We note that Free Cash Flow may be calculated differently by other companies thereby limiting its usefulness as a comparative measure. Free Cash Flow should be used as a supplemental measure and not in lieu of our financial results reported under GAAP.

Classification of Maintenance Capital Expenditures and Growth Capital Expenditures

We categorize capital expenditures as either maintenance capital expenditures or growth capital expenditures. As neither maintenance capital expenditure nor growth capital expenditure is a GAAP term, we have adopted a framework to categorize specific capital expenditures. In broad terms, maintenance capital expenditures primarily maintain our businesses at current levels of operations, capability, profitability or cash flow, while growth capital expenditures primarily provide new or enhanced levels of operations, capability, profitability or cash flow. We consider a number of factors in determining whether a specific capital expenditure will be classified as maintenance or growth.

In some cases, specific capital expenditures contain characteristics of both maintenance and growth capital expenditures. We do not bifurcate specific capital expenditures into maintenance and growth components. Each discrete capital expenditure is considered within the above framework and the entire capital expenditure is classified as either maintenance or growth.

A reconciliation of net income to EBITDA excluding non-cash items and a reconciliation from cash provided by operating activities to Free Cash Flow, on a consolidated basis, is provided below. Similar reconciliations for each of our operating businesses and MIC Corporate follow.

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Results of Operations: Consolidated – (continued)

               
  Quarter Ended
June 30,
  Change
Favorable/
(Unfavorable)
  Six Months Ended
June 30,
  Change
Favorable/
(Unfavorable)
     2017   2016   $   %   2017   2016   $   %
     ($ In Thousands) (Unaudited)
Net income   $ 26,025     $ 21,081                       $ 58,663     $ 41,257                    
Interest expense, net(1)     35,315       39,477                         60,763       96,339                    
Provision for income taxes     17,664       16,220                         39,737       31,387                    
Depreciation     57,063       59,662                         114,744       112,883                    
Amortization of intangibles     15,898       16,713                         33,591       34,500                    
Fees to Manager-related
party
    18,433       16,392                         36,656       31,188                    
Pension expense(2)     1,627       2,197                         4,321       4,395                    
Other non-cash (income) expense, net(3)     (1,101 )      (4,958 )                     2,764       (9,190 )                
EBITDA excluding non-cash items   $ 170,924     $ 166,784       4,140       2.5     $ 351,239     $ 342,759       8,480       2.5  
EBITDA excluding non-cash items   $ 170,924     $ 166,784                       $ 351,239     $ 342,759                    
Interest expense, net(1)     (35,315 )      (39,477 )                        (60,763 )      (96,339 )                   
Adjustments to derivative instruments recorded in interest expense(1)     5,930       9,866                         2,683       36,471                    
Amortization of debt financing costs(1)     2,099       2,370                         4,301       5,249                    
Amortization of debt
discount(1)
    876                               1,495                          
Provision for income taxes, net of changes in deferred taxes     (2,618 )      (1,662 )                        (6,339 )      (4,168 )                   
Changes in working capital     (21,260 )      (8,529 )                  (43,412 )      (6,054 )             
Cash provided by operating activities     120,636       129,352                         249,204       277,918                    
Changes in working capital     21,260       8,529                         43,412       6,054                    
Maintenance capital expenditures     (6,480 )      (9,840 )                     (10,956 )      (20,253 )                
Free cash flow   $ 135,416     $ 128,041       7,375       5.8     $ 281,660     $ 263,719       17,941       6.8  

(1) Interest expense, net, includes adjustments to derivative instruments, non-cash amortization of deferred financing fees and non-cash amortization of debt discount related to the 2.00% Convertible Senior Notes due October 2023. For the six months ended June 30, 2016, interest expense also included a non-cash write-off of deferred financing fees related to the February 2016 refinancing at Hawaii Gas.
(2) Pension expense primarily consists of interest cost, expected return on plan assets and amortization of actuarial and performance gains and losses.
(3) Other non-cash (income) expense, net, primarily includes non-cash amortization of tolling liabilities, unrealized gains (losses) on commodity hedges and non-cash gains (losses) related to disposal of assets. See “Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) excluding non-cash items, Free Cash Flow and Proportionately Combined Metrics” above for further discussion.

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Reconciliation from Consolidated Free Cash Flow to Proportionately Combined Free Cash Flow

See “Results of Operations — Consolidated” above for a reconciliation of Free Cash Flow —  Consolidated basis to cash provided by operating activities, the most comparable GAAP measure. The following table is a reconciliation from Free Cash Flow on a consolidated basis to Free Cash Flow on a proportionately combined basis (in proportion to our ownership interests in each of our businesses). See “Results of Operations” below for a reconciliation of Free Cash Flow for each of our segments to cash provided by (used in) operating activities for such segment.

               
  Quarter Ended
June 30,
  Change
Favorable/
(Unfavorable)
  Six Months Ended
June 30,
  Change
Favorable/
(Unfavorable)
     2017   2016   $   %   2017   2016   $   %
     ($ In Thousands) (Unaudited)
Free Cash Flow – Consolidated basis   $ 135,416     $ 128,041       7,375       5.8     $ 281,660     $ 263,719       17,941       6.8  
100% of CP Free Cash Flow included in consolidated Free Cash Flow     (20,704 )      (17,871 )                        (30,543 )      (29,814 )                   
MIC's share of CP Free Cash Flow     18,462       16,147                         26,633       25,807                    
100% of MIC Hawaii Free Cash Flow included in consolidated Free Cash Flow     (9,295 )      (10,874 )                        (24,231 )      (21,736 )                   
MIC's share of MIC Hawaii Free Cash Flow     9,293       10,874                      24,226       21,736                 
Free Cash Flow – Proportionately Combined basis   $ 133,172     $ 126,317       6,855       5.4     $ 277,745     $ 259,712       18,033       6.9  

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Results of Operations: IMTT

Key Factors Affecting Operating Results for the Quarter:

an increase in revenue including recognition of deferred revenue resulting from termination of a construction project by a biodiesel customer and improved performance generally; partially offset by
an increase in costs, primarily due to timing of repair and maintenance expenditures.

               
  Quarter Ended
June 30,
  Change
Favorable/
(Unfavorable)
  Six Months Ended
June 30,
  Change
Favorable/
(Unfavorable)
     2017   2016   2017   2016
     $   $   $   %   $   $   $   %
     ($ In Thousands) (Unaudited)
Revenue     137,144       128,218       8,926       7.0       275,961       263,643       12,318       4.7  
Cost of services     49,224       46,459       (2,765 )      (6.0 )      99,070       96,760       (2,310 )      (2.4 ) 
Selling, general and administrative expenses     7,485       7,790       305       3.9       16,523       15,964       (559 )      (3.5 ) 
Depreciation and amortization     30,795       35,282       4,487       12.7       62,315       67,903       5,588       8.2  
Operating income     49,640       38,687       10,953       28.3       98,053       83,016       15,037       18.1  
Interest expense, net(1)     (11,763 )      (13,764 )      2,001       14.5       (20,520 )      (33,635 )      13,115       39.0  
Other income, net     452       464       (12 )      (2.6 )      1,160       3,452       (2,292 )      (66.4 ) 
Provision for income taxes     (15,716 )      (10,409 )      (5,307 )      (51.0 )      (32,264 )      (21,638 )      (10,626 )      (49.1 ) 
Net income(2)     22,613       14,978       7,635       51.0       46,429       31,195       15,234       48.8  
Less: net income attributable to noncontrolling interests                                   59       59       100.0  
Net income attributable to MIC(2)     22,613       14,978       7,635       51.0       46,429       31,136       15,293       49.1  
Reconciliation of net income to EBITDA excluding non-cash items and a reconciliation of cash provided by operating activities to Free Cash Flow:
                                                                       
Net income(2)     22,613       14,978                         46,429       31,195                    
Interest expense, net(1)     11,763       13,764                         20,520       33,635                    
Provision for income taxes     15,716       10,409                         32,264       21,638                    
Depreciation and amortization     30,795       35,282                         62,315       67,903                    
Pension expense(3)     1,350       1,831                         3,766       3,662                    
Other non-cash expense, net     69       115                      137       558                 
EBITDA excluding non-cash items     82,306       76,379       5,927       7.8       165,431       158,591       6,840       4.3  
EBITDA excluding non-cash items     82,306       76,379                         165,431       158,591                    
Interest expense, net(1)     (11,763 )      (13,764 )                        (20,520 )      (33,635 )                   
Adjustments to derivative instruments recorded in interest expense(1)     1,587       3,546                         267       13,156                    
Amortization of debt financing costs(1)     412       411                         823       831                    
Provision for income taxes, net of changes in deferred taxes     (1,155 )      (937 )                        (3,413 )      (2,167 )                   
Changes in working capital     (16,881 )      (7,676 )                  (16,145 )      (10,483 )             
Cash provided by operating activities     54,506       57,959                         126,443       126,293                    
Changes in working capital     16,881       7,676                         16,145       10,483                    
Maintenance capital expenditures     (2,987 )      (6,942 )                     (5,447 )      (13,239 )                
Free cash flow     68,400       58,693       9,707       16.5       137,141       123,537       13,604       11.0  

(1) Interest expense, net, includes adjustments to derivative instruments and non-cash amortization of deferred financing fees.
(2) Corporate allocation expense, intercompany fees and the tax effect have been excluded from the above table as they are eliminated on consolidation.
(3) Pension expense primarily consists of interest cost, expected return on plan assets and amortization of actuarial and performance gains and losses.

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Results of Operations: IMTT – (continued)

Revenue

IMTT generates the majority of its revenue from contracts typically comprising a fixed monthly charge (that escalates annually with inflation) for access to or use of its infrastructure. We refer to revenue generated from such contracts or fixed charges as firm commitments. Firm commitments are generally of medium term duration and at June 30, 2017, had a revenue weighted average remaining life of 2.1 years. Revenue from firm commitments comprised 78.8% and 80.1% of total revenue for the quarter ended June 30, 2017 and the trailing twelve months ended June 30, 2017, respectively.

For the quarter and six months ended June 30, 2017, total revenue increased by $8.9 million and $12.3 million, respectively, compared with the quarter and six months ended June 30, 2016. The increase in revenue for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 was primarily due to recognition of deferred revenue resulting from termination of a construction project by a biodiesel customer. For the six months ended June 30, 2017, revenue also increased due to an increase in the level of spill response activity on the part of IMTT’s subsidiary, OMI Environmental Solutions (OMI). Revenue from firm commitments was flat for both periods.

Capacity utilization was 94.0% and 95.2% for the quarter and six months ended June 30, 2017, respectively, compared with 96.3% and 96.2% for the quarter and six months ended June 30, 2016, respectively. The decrease in utilization primarily reflects tanks coming out of service for repairs and inspections. IMTT expects utilization levels to be approximately 94% over the long term, as they have been historically.

Costs of Services and Selling, General and Administrative Expenses

Cost of services and selling, general and administrative expenses combined increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016. The increase for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 was primarily the result of higher repair and maintenance expenses and franchise taxes. The increase for the six months ended June 30, 2017 compared with the six months ended June 30, 2016 was primarily due to higher costs incurred by OMI as a result of increased spill related activity and franchise taxes associated with newly enacted legislation in Louisiana.

Depreciation and Amortization

Depreciation and amortization expense for the quarter and six months ended June 30, 2016 included the write-off of tanks and docks.

Interest Expense, Net

Interest expense includes losses on derivative instruments of $2.2 million and $1.7 million for the quarter and six months ended June 30, 2017, respectively, compared with losses on derivative instruments of $4.6 million and $15.4 million for the quarter and six months ended June 30, 2016, respectively. Excluding the derivative adjustments, interest expense remained flat for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 and decreased for the six months ended June 30, 2017 compared with the six months ended June 30, 2016. The decrease in interest expense for the six months ended June 30, 2017 was primarily due to the repayment of loans from prior owners during 2016. Cash interest expense was $9.7 million and $19.4 million for the quarter and six months ended June 30, 2017, respectively, compared with $9.8 million and $19.6 million for the quarter and six months ended June 30, 2016, respectively.

Other Income, net

Other income, net, included insurance recoveries totaling $2.5 million in the first quarter of 2016.

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Results of Operations: IMTT – (continued)

Income Taxes

The federal taxable income generated by IMTT is reported on our consolidated federal income tax return. The business files state income tax returns in the states in which it operates. For the year ending December 31, 2017, the business expects to pay state income taxes of approximately $5.0 million. The “Provision for income taxes, net of changes in deferred taxes” of $3.4 million for the six months ended June 30, 2017 in the above table includes $2.7 million of state income tax expense and $664,000 of federal income tax expense. Any current federal income tax payable is expected to be offset in consolidation with the application of NOLs at the MIC holding company level.

The majority of the difference between IMTT’s book and federal taxable income relates to depreciation of terminal fixed assets. For book purposes, these fixed assets are depreciated primarily over 15 to 30 years using the straight-line method of depreciation. For federal income tax purposes, these fixed assets are depreciated primarily over 5 to 15 years using accelerated methods. In addition, most terminal fixed assets placed in service between 2012 through 2016 qualified for the federal 50% bonus tax depreciation. A significant portion of Louisiana terminal fixed assets constructed in the period after Hurricane Katrina were financed with Gulf Opportunity Zone Bonds (GO Zone Bonds). GO Zone Bond financed assets are depreciated, for tax purposes, primarily over 9 to 20 years using the straight-line depreciation method. Most of the states in which the business operates do not allow the use of 50% bonus tax depreciation. However, Louisiana allows the use of 50% bonus depreciation except for assets financed with GO Zone Bonds.

Maintenance Capital Expenditures

For the six months ended June 30, 2017, IMTT incurred maintenance capital expenditures of $5.4 million and $8.3 million on an accrual basis and cash basis, respectively, compared with $13.2 million and $15.0 million on an accrual basis and cash basis, respectively, for the six months ended June 30, 2016. The decrease in maintenance capital expenditures for the six months ended June 30, 2017 was the result of high tank utilization levels and the timing of planned maintenance for the year. IMTT expects to incur between $25.0 million and $30.0 million of maintenance capital expenditures in 2017.

Results of Operations: Atlantic Aviation

Atlantic Aviation generates a significant portion of its revenue from sales of jet fuel. Accordingly, revenue can fluctuate based on the cost of the commodity and reported revenue may not reflect the business’ ability to effectively manage volume and price. For example, an increase in revenue may be attributable to an increase in the cost of the jet fuel and not an increase in the volume sold or price per gallon. Conversely, a decline in revenue may be attributable to a decrease in the cost of jet fuel and not a reduction in the volume sold or price.

Gross margin, which we define as revenue less cost of services, excluding depreciation and amortization, is the effective “top line” for Atlantic Aviation as it is reflective of the business’ ability to drive growth in the volume of products and services sold and the margins earned on those sales over time. We believe that our investors view gross margin as reflective of our ability to manage volume and price throughout the commodity cycle. Gross margin can be reconciled to operating income — the most comparable GAAP measure — by subtracting selling, general and administrative expenses and depreciation and amortization in the table below.

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Results of Operations: Atlantic Aviation – (continued)

Key Factors Affecting Operating Results for the Quarter:

an increase in gross margin on a same store basis, together with contributions from acquisitions; partially offset by
higher selling, general and administrative expenses.

               
  Quarter Ended
June 30,
  Change
Favorable/
(Unfavorable)
  Six Months Ended
June 30,
  Change
Favorable/
(Unfavorable)
     2017   2016   2017   2016
     $   $   $   %   $   $   $   %
     ($ In Thousands) (Unaudited)
Revenue     196,939       179,218       17,721       9.9       409,692       357,206       52,486       14.7  
Cost of services (exclusive of depreciation and amortization of intangibles shown separately below)     86,957       74,440       (12,517 )      (16.8 )      180,879       140,602       (40,277 )      (28.6 ) 
Gross margin     109,982       104,778       5,204       5.0       228,813       216,604       12,209       5.6  
Selling, general and administrative expenses     52,596       51,381       (1,215 )      (2.4 )      106,486       103,992       (2,494 )      (2.4 ) 
Depreciation and amortization     23,575       24,702       1,127       4.6       48,608       46,893       (1,715 )      (3.7 ) 
Operating income     33,811       28,695       5,116       17.8       73,719       65,719       8,000       12.2  
Interest expense, net(1)     (5,907 )      (8,924 )      3,017       33.8       (9,353 )      (22,238 )      12,885       57.9  
Other (expense) income, net     (19 )      (49 )      30       61.2       (105 )      341       (446 )      (130.8 ) 
Provision for income taxes     (11,077 )      (7,973 )      (3,104 )      (38.9 )      (25,627 )      (17,715 )      (7,912 )      (44.7 ) 
Net income(2)     16,808       11,749       5,059       43.1       38,634       26,107       12,527       48.0  
Reconciliation of net income to EBITDA excluding non-cash items and a reconciliation of cash provided by operating activities to Free Cash Flow:
                                                                       
Net income(2)     16,808       11,749                         38,634       26,107                    
Interest expense, net(1)     5,907       8,924                         9,353       22,238                    
Provision for income taxes     11,077       7,973                         25,627       17,715                    
Depreciation and amortization     23,575       24,702                         48,608       46,893                    
Pension expense(3)     5       17                         10       34                    
Other non-cash (income) expense, net     (22 )      339                      40       248                 
EBITDA excluding non-cash items     57,350       53,704       3,646       6.8       122,272       113,235       9,037       8.0  
EBITDA excluding non-cash items     57,350       53,704                         122,272       113,235                    
Interest expense, net(1)     (5,907 )      (8,924 )                        (9,353 )      (22,238 )                   
Convertible senior notes interest(4)     (2,013 )                              (3,757 )                         
Adjustments to derivative instruments recorded in interest expense(1)     2,553       1,179                         2,686       6,787                    
Amortization of debt financing costs(1)     221       905                         535       1,705                    
Provision for income taxes, net of changes in deferred taxes     (1,730 )      (910 )                        (4,602 )      (2,362 )                   
Changes in working capital     784       226                   (5,332 )      6,270              
Cash provided by operating activities     51,258       46,180                         102,449       103,397                    
Changes in working capital     (784 )      (226 )                        5,332       (6,270 )                   
Maintenance capital expenditures     (1,981 )      (1,457 )                     (2,906 )      (3,741 )                
Free cash flow     48,493       44,497       3,996       9.0       104,875       93,386       11,489       12.3  

(1) Interest expense, net, includes adjustments to derivative instruments and non-cash amortization of deferred financing fees.
(2) Corporate allocation expense, intercompany fees and the tax effect have been excluded from the above table as they are eliminated on consolidation.
(3) Pension expense primarily consists of interest cost, expected return on plan assets and amortization of actuarial and performance gains and losses.
(4) Represents the cash interest expense reclassified from MIC Corporate related to the 2.00% Convertible Senior Notes due October 2023, proceeds of which were used to pay down a portion of Atlantic Aviation's credit facility in October 2016.

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Results of Operations: Atlantic Aviation – (continued)

Revenue and Gross Margin

The majority of the revenue and gross margin earned by Atlantic Aviation is generated through fueling GA aircraft at facilities located on the 70 U.S. airports at which the business operates. Atlantic Aviation pursues a strategy of maintaining and, where appropriate, increasing dollar-based margins on fuel sales. Generally, fluctuations in the cost of jet fuel are passed through to the customer.

Revenue and gross margin are driven, in part, by the volume of fuel sold and the dollar-based margin/fee per gallon on those sales. Revenue increased 9.9% and 14.7% for the quarter and six months ended June 30, 2017, respectively, compared with the quarter and six months ended June 30, 2016 as a result of higher wholesale cost of fuel, an increase in the volume of fuel sold, contribution from acquisitions and increased rental and ancillary services revenue. The higher wholesale cost of fuel was largely offset by a corresponding increase in cost of services, resulting in an increase in gross margin of 5.0% and 5.6% for the quarter and six months ended June 30, 2017, respectively, compared with the quarter and six months ended June 30, 2016.

Atlantic Aviation seeks to extend FBO leases prior to their maturity to improve our visibility into the cash generating capacity of these assets. Atlantic Aviation calculates a weighted average remaining lease life based on EBITDA excluding non-cash items in the prior calendar year adjusted for the impact of acquisitions/dispositions. The weighted average remaining lease life was 19.8 years at June 30, 2017 compared with 19.5 years at June 30, 2016. Notwithstanding the passage of one year, the length of the remaining lease life increased as a result of acquisitions and successful extensions of leaseholds.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased 2.4% for both the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to incremental costs associated with acquisitions.

Depreciation and Amortization

Depreciation and amortization expense decreased for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 primarily as a result of full amortization of intangible assets at certain FBOs, partially offset by an increase in depreciation and amortization expense as a result of assets placed in service. Depreciation and amortization expense increased for the six months ended June 30, 2017 compared with the six months ended June 30, 2016 primarily as a result of assets placed in service.

Operating Income

Operating income increased for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 due to the increase in gross margin and decrease in depreciation and amortization, partially offset by the increase in selling, general and administrative expenses.

Operating income increased for the six months ended June 30, 2017 compared with the six months ended June 30, 2016 due to the increase in gross margin, partially offset by increases in selling, general and administrative expenses and depreciation and amortization expense.

Interest Expense, Net

Interest expense includes losses on derivative instruments of $2.5 million and $2.7 million for the quarter and six months ended June 30, 2017, respectively, compared with losses on derivative instruments of $3.3 million and $11.0 million for the quarter and six months ended June 30, 2016, respectively. Excluding the derivative adjustments, interest expense decreased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 due to a lower weighted average interest rate resulting from the October 2016 refinancing and a lower average debt balance.

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Results of Operations: Atlantic Aviation – (continued)

Cash interest expense was $5.2 million and $9.9 million for the quarter and six months ended June 30, 2017, respectively, compared with $6.8 million and $13.7 million for the quarter and six months ended June 30, 2016, respectively. Cash interest expense for the quarter and six months ended June 30, 2017 is inclusive of the interest expense related to the $402.5 million of 2.00% Convertible Senior Notes due October 2023, proceeds of which were used in part to reduce the drawn balance of Atlantic Aviation’s revolving credit facility.

Income Taxes

The federal taxable income generated by Atlantic Aviation is reported on our consolidated federal income tax return. The business files state income tax returns in the states in which it operates. The tax expense in the table above includes both state taxes and the portion of the consolidated federal tax liability attributable to the business.

For the year ending December 31, 2017, the business expects to pay state income taxes of approximately $6.5 million. The “Provision for income taxes, net of changes in deferred taxes” of $4.6 million for the six months ended June 30, 2017 in the above table includes $2.8 million of state income tax expense and $1.8 million of federal income tax expense. Any current federal income tax payable is expected to be offset in consolidation with the application of NOLs at the MIC holding company level.

Maintenance Capital Expenditures

For the six months ended June 30, 2017, Atlantic Aviation incurred maintenance capital expenditures of $2.9 million both on an accrual basis and cash basis compared with $3.7 million and $4.0 million on an accrual basis and cash basis, respectively, for the six months ended June 30, 2016.

Results of Operations: Contracted Power

Key Factors Affecting Operating Results for the Quarter:

an increase in revenue from the wind and solar facilities, including contributions from an acquired facility, partially offset by a decrease in revenue from BEC;
a decrease in cost of product sales primarily due to lower gas consumption tied to lower generation at BEC; and
an increase in other income, net.

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TABLE OF CONTENTS

Results of Operations: Contracted Power – (continued)

               
  Quarter Ended
June 30,
  Change
Favorable/
(Unfavorable)
  Six Months Ended
June 30,
  Change
Favorable/
(Unfavorable)
     2017   2016   2017   2016
     $   $   $   %   $   $   $   %
     ($ In Thousands) (Unaudited)
Product revenue     40,166       38,300       1,866       4.9       68,236       68,479       (243 )      (0.4 ) 
Cost of product sales     5,498       5,794       296       5.1       10,357       10,151       (206 )      (2.0 ) 
Selling, general and administrative expenses     6,244       6,547       303       4.6       11,409       12,507       1,098       8.8  
Depreciation and amortization     14,861       13,847       (1,014 )      (7.3 )      30,201       27,693       (2,508 )      (9.1 ) 
Operating income     13,563       12,112       1,451       12.0       16,269       18,128       (1,859 )      (10.3 ) 
Interest expense, net(1)     (8,767 )      (11,002 )      2,235       20.3       (14,150 )      (28,850 )      14,700       51.0  
Other income, net     1,341       3       1,338       NM       2,106       308       1,798       NM  
(Provision) benefit for income taxes     (1,845 )      (1,917 )      72       3.8       (1,872 )      387       (2,259 )      NM  
Net income (loss)(2)     4,292       (804 )      5,096       NM       2,353       (10,027 )      12,380       123.5  
Less: net income (loss) attributable to noncontrolling interest     16       1,889       1,873       99.2       (3,333 )      (349 )      2,984       NM  
Net income (loss) attributable to MIC(2)     4,276       (2,693 )      6,969       NM       5,686       (9,678 )      15,364       158.8  
Reconciliation of net income (loss) to EBITDA excluding non-cash items and a reconciliation of cash provided by operating activities to Free Cash Flow:
                                                                       
Net income (loss)(2)     4,292       (804 )                        2,353       (10,027 )                   
Interest expense, net(1)     8,767       11,002                         14,150       28,850                    
Provision (benefit) for income taxes     1,845       1,917                         1,872       (387 )                   
Depreciation and amortization     14,861       13,847                         30,201       27,693                    
Other non-cash income, net (3)     (2,232 )      (1,945 )                     (4,256 )      (3,965 )                
EBITDA excluding non-cash items     27,533       24,017       3,516       14.6       44,320       42,164       2,156       5.1  
EBITDA excluding non-cash items     27,533       24,017                         44,320       42,164                    
Interest expense, net(1)     (8,767 )      (11,002 )                        (14,150 )      (28,850 )                   
Adjustments to derivative instruments recorded in interest expense(1)     1,474       4,504                         (360 )      15,772                    
Amortization of debt financing costs(1)     379       354                         758       737                    
Provision/benefit for income taxes, net of changes in deferred taxes     85       (2 )                        (3 )      (9 )                   
Changes in working capital     (8,003 )      (5,470 )                  (7,861 )      (2,858 )             
Cash provided by operating activities     12,701       12,401                         22,704       26,956                    
Changes in working capital     8,003       5,470                         7,861       2,858                    
Maintenance capital expenditures                                (22 )                      
Free cash flow     20,704       17,871       2,833       15.9       30,543       29,814       729       2.4  

NM — Not meaningful

(1) Interest expense, net, includes adjustments to derivative instruments and non-cash amortization of deferred financing fees.
(2) Corporate allocation expense, intercompany fees and the tax effect have been excluded from the above table as they are eliminated on consolidation.
(3) Other non-cash income, net, primarily includes amortization of tolling liabilities. See “Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) excluding non-cash items, Free Cash Flow and Proportionately Combined Metrics” above for further discussion.

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Results of Operations: Contracted Power – (continued)

Revenue

Revenue increased by $1.9 million for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 and decreased by $243,000 for the six months ended June 30, 2017 compared with the six months ended June 30, 2016. The increase was primarily due to improved wind and solar resources in the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016. For the quarter and six months ended June 30, 2017, solar resources were approximately 101% and 99%, respectively, of long-term historical average and wind resources were approximately 97% and 93%, respectively, of long-term historical average.

At BEC, revenue decreased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 due to lower capacity prices and lower energy margins driven by a reduction in utilization. Capacity prices impact only the 37.5% untolled portion of BEC’s capacity and were lower than in the prior comparable period due to the regional system operator’s updated capacity requirements. Energy margins for the untolled portion were lower as a result of the milder than average weather during the first half of 2017. The remaining 62.5% of BEC’s capacity generates revenue pursuant to a fixed price tolling agreement with a creditworthy off-taker.

Cost of Product Sales

Cost of product sales decreased for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 primarily due to lower gas consumption at BEC as a result of lower generation. Cost of product sales increased for the six months ended June 30, 2017 compared with the six months ended June 30, 2016 primarily due to incremental costs associated with an acquisition completed in December 2016.

Selling, General and Administrative Expenses

Selling, general and administrative expenses decreased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to lower costs related to leased engines and insurance savings at BEC. This decrease was partially offset by incremental costs associated with an acquisition completed in December 2016.

Depreciation and Amortization

Depreciation and amortization expense increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to incremental expenses associated with an acquisition completed in December 2016.

Other Income, net

Other income, net, increased for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 as a result of financing income from a third party developer of renewable projects on a revolving credit facility provided by CP and the associated development profit.

Interest Expense, Net

Interest expense includes losses on derivative instruments of $2.7 million and $2.3 million for the quarter and six months ended June 30, 2017, respectively, compared with losses on derivative instruments of $6.3 million and $19.5 million for the quarter and six months ended June 30, 2016, respectively. Excluding the derivative adjustments, interest expense increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to debt assumed in an acquisition completed in December 2016, partially offset by lower average debt balances on all other existing facilities. Cash interest expense was $7.0 million and $13.8 million for the quarter and six months ended June 30, 2017, respectively, compared with $6.1 million and $12.3 million for the quarter and six months ended June 30, 2016, respectively.

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Results of Operations: Contracted Power – (continued)

Income Taxes

Our solar and wind facilities are held in limited liability companies that are treated as partnerships for tax purposes. As such, these entities do not pay federal or state income taxes on a standalone basis, but each partner pays federal and state income taxes based on their allocated share of taxable income. For the year ending December 31, 2017, MIC expects its allocated share of the federal taxable income from these facilities to be a loss of approximately $10.0 million. For 2016, MIC’s allocated share of the federal taxable income from these facilities was a loss of approximately $23.0 million.

The federal taxable income generated by BEC is reported on our consolidated federal income tax return and is subject to New York state income tax as part of a combined return. For the year ending December 31, 2017, the business does not expect to have a federal or a state income tax liability. Future current federal taxable income attributable to BEC may be offset in consolidation with the application of NOLs at the MIC holding company level.

Other Matters

CP relies on a small number of suppliers to provide long term operations and maintenance (O&M) and other services for its facilities. One of those O&M providers, SunEdison, Inc. (SunEdison), filed for bankruptcy in April 2016. SunEdison’s contract was terminated in May 2017 and a new service provider has taken over the O&M and other services for these facilities effective August 1, 2017.

Results of Operations: MIC Hawaii

MIC Hawaii comprises Hawaii Gas and several smaller businesses collectively engaged in efforts to reduce the cost and improve the reliability and sustainability of energy in Hawaii. The businesses of MIC Hawaii generate revenue primarily from the provision of gas services to commercial, residential and governmental customers, the generation of power and the design and construction of building mechanical systems.

Hawaii Gas generates a significant portion of its revenue from the sale of gas. Accordingly, revenue can fluctuate based on the cost of the commodity and may not reflect the business’ ability to effectively manage volume and price. For example, an increase in revenue may be attributable to an increase in the cost of gas and not an increase in the volume sold or price per therm. Conversely, a decline in revenue may be attributable to a decrease in the cost of gas and not a reduction in volume sold or price per therm.

Gross margin, which we define as revenue less cost of product sales and services, excluding depreciation and amortization, is the effective “top line” for Hawaii Gas as it is reflective of the business’ ability to drive growth in the volume of products and services and the margins earned on those sales over time. We believe that investors utilize gross margin as it is reflective of our performance in managing volume and price throughout the commodity cycle. Gross margin is reconciled to operating income — the most comparable GAAP measure — by subtracting selling, general and administrative expenses and depreciation and amortization in the table below.

Key Factors Affecting Operating Results for the Quarter:

contributions from acquisitions;
unrealized losses from commodity hedges; and
an increase in selling, general and administrative costs.

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Results of Operations: MIC Hawaii – (continued)

               
  Quarter Ended
June 30,
  Change
Favorable/
(Unfavorable)
  Six Months Ended
June 30,
  Change
Favorable/
(Unfavorable)
     2017   2016   2017   2016
     $   $   $   %   $   $   $   %
     ($ In Thousands) (Unaudited)
Product revenue     53,779       53,058       721       1.4       113,362       107,025       6,337       5.9  
Service revenue     12,193             12,193       NM       25,650             25,650       NM  
Total revenue     65,972       53,058       12,914       24.3       139,012       107,025       31,987       29.9  
Cost of product sales (exclusive of depreciation and amortization of intangibles shown separately below)     34,751       29,224       (5,527 )      (18.9 )      77,117       57,927       (19,190 )      (33.1 ) 
Cost of services (exclusive of depreciation and amortization of intangibles shown separately below)     10,944             (10,944 )      NM       21,884             (21,884 )      NM  
Cost of revenue – total     45,695       29,224       (16,471 )      (56.4 )      99,001       57,927       (41,074 )      (70.9 ) 
Gross margin     20,277       23,834       (3,557 )      (14.9 )      40,011       49,098       (9,087 )      (18.5 ) 
Selling, general and administrative expenses     6,770       4,434       (2,336 )      (52.7 )      12,855       9,690       (3,165 )      (32.7 ) 
Depreciation and amortization     3,730       2,544       (1,186 )      (46.6 )      7,211       4,894       (2,317 )      (47.3 ) 
Operating income     9,777       16,856       (7,079 )      (42.0 )      19,945       34,514       (14,569 )      (42.2 ) 
Interest expense, net(1)     (2,207 )      (2,229 )      22       1.0       (3,918 )      (4,653 )      735       15.8  
Other expense, net     (36 )      (147 )      111       75.5       (241 )      (401 )      160       39.9  
Provision for income taxes     (2,563 )      (5,706 )      3,143       55.1       (5,942 )      (11,617 )      5,675       48.9  
Net income(2)     4,971       8,774       (3,803 )      (43.3 )      9,844       17,843       (7,999 )      (44.8 ) 
Less: net loss attributable to noncontrolling interests     (11 )            11       NM       (39 )            39       NM  
Net income attributable to MIC(2)     4,982       8,774       (3,792 )      (43.2 )      9,883       17,843       (7,960 )      (44.6 ) 
Reconciliation of net income to EBITDA excluding non-cash items and a reconciliation of cash provided by operating activities to Free Cash Flow:
                                                                       
Net income(2)     4,971       8,774                         9,844       17,843                    
Interest expense, net(1)     2,207       2,229                         3,918       4,653                    
Provision for income taxes     2,563       5,706                         5,942       11,617                    
Depreciation and amortization     3,730       2,544                         7,211       4,894                    
Pension expense(3)     272       349                         545       699                    
Other non-cash expense (income),
net(4)
    897       (3,654 )                     6,468       (6,406 )                
EBITDA excluding non-cash items     14,640       15,948       (1,308 )      (8.2 )      33,928       33,300       628       1.9  
EBITDA excluding non-cash items     14,640       15,948                         33,928       33,300                    
Interest expense, net(1)     (2,207 )      (2,229 )                        (3,918 )      (4,653 )                   
Adjustments to derivative instruments recorded in interest expense(1)     316       637                         90       756                    
Amortization of debt financing
costs(1)
    99       88                         204       752                    
Provision for income taxes, net of changes in deferred taxes     (2,041 )      (2,129 )                        (3,492 )      (5,146 )                   
Changes in working capital     (1,837 )      4,011                   (10,317 )      6,948              
Cash provided by operating activities     8,970       16,326                         16,495       31,957                    
Changes in working capital     1,837       (4,011 )                        10,317       (6,948 )                   
Maintenance capital expenditures     (1,512 )      (1,441 )                     (2,581 )      (3,273 )                
Free cash flow     9,295       10,874       (1,579 )      (14.5 )      24,231       21,736       2,495       11.5  

NM — Not meaningful

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Results of Operations: MIC Hawaii – (continued)

(1) Interest expense, net, includes adjustments to derivative instruments related to interest rate swaps and non-cash amortization of deferred financing fees. For the six months ended June 30, 2016, interest expense also included a non-cash write-off of deferred financing fees related to the February 2016 refinancing at Hawaii Gas.
(2) Corporate allocation expense, intercompany fees and the tax effect have been excluded from the above table as they are eliminated on consolidation.
(3) Pension expense primarily consists of interest cost, expected return on plan assets and amortization of actuarial and performance gains and losses.
(4) Other non-cash expense (income), net, primarily includes non-cash adjustments related to unrealized gains (losses) on commodity hedges. See “Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) excluding non-cash items, Free Cash Flow and Proportionately Combined Metrics” above for further discussion.

Revenue and Gross Margin

Revenue increased by $12.9 million for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 and by $32.0 million for the six months ended June 30, 2017 compared with the six months ended June 30, 2016. The increase is primarily attributable to contributions from acquisitions, an increase in the cost of gas and an increase of 0.7% and 2.5% in the volume of gas sold by Hawaii Gas for the quarter and six months ended June 30, 2017, respectively. On an underlying basis, adjusting for changes in customer inventory, the volume of gas sold increased by 1.7% and 1.4% in the quarter and six months ended June 30, 2017, respectively, compared with the quarter and six months ended June 30, 2016.

Gross margin decreased by $3.6 million for the quarter ended June 30, 2017 compared with the quarter ended June 30, 2016 and by $9.1 million for the six months ended June 30, 2017 compared with the six months ended June 30, 2016. The decrease is primarily attributable to unrealized losses on commodity hedges of $481,000 and $5.7 million at Hawaii Gas for the quarter and six months ended June 30, 2017, respectively, compared with unrealized gains on commodity hedges of $4.1 million and $7.4 million for the quarter and six months ended June 30, 2016, respectively. Gross margin, excluding the impact of unrealized gains and losses on commodity hedges, increased by $1.0 million and $4.1 million, or 5.3% and 9.7%, for the quarter and six months ended June 30, 2017, respectively, compared with the quarter and six months ended June 30, 2016. The increase was primarily as a result of acquisitions.

Hawaii Gas’ utility gas rates are regulated by the Hawaii Public Utilities Commission (HPUC) in periodic rate cases, the most recent of which was filed in 2008. Hawaii Gas initiates a rate case by submitting a request to the HPUC for an increase in regulated revenue based, for example, on an increase in rate base or higher costs related to providing service.

On August 1, 2017, Hawaii Gas filed a general rate case application with the HPUC requesting an annual increase in regulated revenues of $15.0 million. To the extent that new rates are approved by regulators, we expect that any interim rate increases, if any, could take effect in mid-2018.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to incremental costs from acquisitions.

Depreciation and Amortization

Depreciation and amortization expense increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to incremental expenses associated with acquisitions.

Operating Income

Operating income decreased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 due to the decrease in gross margin, an increase in selling, general and administrative expenses and an increase in depreciation and amortization expense.

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Results of Operations: MIC Hawaii – (continued)

Interest Expense, Net

Interest expense includes losses on derivative instruments of $329,000 and $173,000 for the quarter and six months ended June 30, 2017, respectively, compared with losses on derivative instruments of $678,000 and $843,000 for the quarter and six months ended June 30, 2016, respectively. For the six months ended June 30, 2016, interest expense also included the non-cash write-off of deferred financing costs at Hawaii Gas related to the refinancing of its $80.0 million term loan and its $60.0 million revolving credit facility. Excluding the derivative adjustments and the write-off of the deferred financing costs, interest expense increased for the quarter and six months ended June 30, 2017 compared with the quarter and six months ended June 30, 2016 primarily due to debt assumed in acquisitions and the financing of solar facilities constructed in the past year. Cash interest expense was $1.8 million and $3.6 million for the quarter and six months ended June 30, 2017, respectively, compared with $1.5 million and $3.1 million for the quarter and six months ended June 30, 2016, respectively.

Income Taxes

The federal taxable income generated by the MIC Hawaii businesses is reported on our consolidated federal income tax return and is subject to Hawaii state income tax on a stand-alone basis. The tax expense in the table above includes both state tax and the portion of the consolidated federal tax liability attributable to the businesses. For the year ending December 31, 2017, the business expects to pay state income taxes of approximately $1.5 million. The “Provision for income taxes, net of changes in deferred taxes” of $3.5 million for the six months ended June 30, 2017 in the above table, includes $3.0 million of federal income tax expense and $516,000 of state income tax expense. Any current federal income tax payable is expected to be offset in consolidation with the application of NOLs at the MIC holding company level.

Maintenance Capital Expenditures

For the six months ended June 30, 2017, MIC Hawaii incurred maintenance capital expenditures of $2.6 million and $3.0 million on an accrual basis and cash basis, respectively, compared with $3.3 million and $3.8 million on an accrual basis and cash basis, respectively, for the six months ended June 30, 2016.

Other Matters

On June 30, 2017, Hawaii Gas entered into a new collective bargaining agreement that became effective on May 1, 2017 and expires on April 30, 2020. Hawaii Gas believes it has a good relationship with its union and non-union employees.

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Results of Operations: Corporate and Other

               
  Quarter Ended
June 30,
  Change
Favorable/
(Unfavorable)
  Six Months Ended
June 30,
  Change
Favorable/
(Unfavorable)
     2017   2016   2017   2016
     $   $   $   %   $   $   $   %
     ($ In Thousands) (Unaudited)
Fees to Manager-related party     18,433       16,392       (2,041 )      (12.5 )      36,656       31,188       (5,468 )      (17.5 ) 
Selling, general and administrative expenses(1)     11,092       3,451       (7,641 )      NM       15,087       4,906       (10,181 )      NM  
Operating loss     (29,525 )      (19,843 )      (9,682 )      (48.8 )      (51,743 )      (36,094 )      (15,649 )      (43.4 ) 
Interest expense, net(2)     (6,671 )      (3,558 )      (3,113 )      (87.5 )      (12,822 )      (6,963 )      (5,859 )      (84.1 ) 
Benefit for income taxes     13,537       9,785       3,752       38.3       25,968       19,196       6,772       35.3  
Net loss(3)     (22,659 )      (13,616 )      (9,043 )      (66.4 )      (38,597 )      (23,861 )      (14,736 )      (61.8 ) 
Reconciliation of net loss to EBITDA excluding non-cash items and a reconciliation of cash used in operating activities to Free Cash Flow:
                                                                       
Net loss(3)     (22,659 )      (13,616 )                        (38,597 )      (23,861 )                   
Interest expense, net(2)     6,671       3,558                         12,822       6,963                    
Benefit for income taxes     (13,537 )      (9,785 )                        (25,968 )      (19,196 )                   
Fees to Manager-related party     18,433       16,392                         36,656       31,188                    
Other non-cash expense     187       187                      375       375                 
EBITDA excluding non-cash items     (10,905 )      (3,264 )      (7,641 )      NM       (14,712 )      (4,531 )      (10,181 )      NM  
EBITDA excluding non-cash items     (10,905 )      (3,264 )                        (14,712 )      (4,531 )                   
Interest expense, net(2)     (6,671 )      (3,558 )                        (12,822 )      (6,963 )