Derivative Financial Instruments

Derivative financial instruments are executed on our behalf by an affiliate of the General Partner to reduce our exposure to changes in commodity prices for natural gas. Natural gas is the largest and most volatile component of the manufacturing cost for nitrogen-based fertilizers.

The derivatives that we use are primarily natural gas fixed price swaps and options traded in the over-the-counter (OTC) markets. The derivative contract prices are based on NYMEX future prices based on physical delivery of natural gas at the Henry Hub in Louisiana, the most common and financially liquid location of reference for derivative financial instruments related to natural gas. However, we purchase natural gas for our manufacturing facility from suppliers whose prices are based primarily on the ONEOK index (based on physical delivery of natural gas in Oklahoma, rather than at the Henry Hub). This creates a location basis differential between the derivative contract price and the price we pay for physical delivery of natural gas. Accordingly, the prices underlying the derivative financial instruments we use may not exactly match the prices of natural gas we purchase and consume. We enter into natural gas derivative contracts with respect to gas to be consumed by us in the future, and settlements of those derivative contracts are scheduled to coincide with our anticipated purchases of natural gas used to manufacture nitrogen products during those future periods. We use natural gas derivatives as an economic hedge of gas price risk, but without the application of hedge accounting.

The gross fair values of derivatives in our consolidated balance sheets are shown below. All balance sheet amounts from derivatives arise from natural gas derivatives that are not designated as hedging instruments. For additional information on derivative fair values, see Note 8—Fair Value Measurements.



	December 31,
	2017			2016
	(in millions)
Derivative Assets
Unrealized gains in other current assets	$	—		$	7.9
Unrealized gains in other assets	—			1.1
Total derivative assets	—			9.0
Derivative Liabilities
Unrealized losses in other current liabilities	(3.2		)	—
Unrealized losses in other liabilities	—			(1.6		)
Total derivative liabilities	(3.2		)	(1.6		)
Net derivative (liabilities) assets	$	(3.2	)	$	7.4

The effect of derivatives in our consolidated statements of operations is shown below. All amounts arise from natural gas derivatives that are not designated as hedging instruments and are recorded in cost of goods sold.



	Year ended December 31,
	2017			2016			2015
	(in millions)
Unrealized net mark-to-market (losses) gains	$	(10.6	)	$	35.3		$	(23.1	)
Realized net losses	(3.0		)	(16.7		)	(10.6		)
Net derivative (losses) gains	$	(13.6	)	$	18.6		$	(33.7	)

As of December 31, 2017 and 2016, we had open natural gas derivative contracts for 8.4 million MMBtus (millions of British thermal units) of natural gas and 29.4 million MMBtus of natural gas, respectively. The derivative portfolio at December 31, 2017 includes natural gas derivatives that economically hedge a portion of anticipated natural gas purchases through December 2018. For the year ended December 31, 2017, we used derivatives to cover approximately 48% of our natural gas consumption.

The counterparties to our derivative contracts are multinational commercial banks, other major financial institutions and large energy companies. The derivatives are executed with several counterparties, generally under International Swaps and Derivatives Association (ISDA) agreements. The ISDA agreements are master netting arrangements commonly used for OTC derivatives that mitigate exposure to counterparty credit risk, in part, by creating contractual rights of netting and setoff, the specifics of which vary from agreement to agreement. These rights are described further below:


•	Settlement netting generally allows the parties to net, into a single net payable or receivable, ordinary settlement obligations arising under the ISDA agreement on the same day, in the same currency, for the same types of derivative instruments, and through the same pairing of offices.

•

Close-out netting rights are provided in the event of a default or other termination event (as defined in the ISDA agreements), including bankruptcy. Depending on the cause of early termination, the non-defaulting party may elect to terminate all or some transactions outstanding under the ISDA agreement. The values of all terminated transactions and certain other payments under the ISDA agreement are netted, resulting in a single net close-out amount payable to or by the non-defaulting party. Termination values may be determined using a mark-to-market approach or based on a party's good faith estimate of its loss. If the final net close-out amount is payable by the non-defaulting party, that party's obligation to make the payment may be conditioned on factors such as the termination of all derivative transactions between the parties or payment in full of all of the defaulting party's obligations to the non-defaulting party, in each case regardless of whether arising under the ISDA agreement or otherwise.

•

Setoff rights are provided by certain of the ISDA agreements and generally allow a non-defaulting party to elect to set off, against the final net close-out payment, other matured and contingent amounts payable between the parties under the ISDA agreement or otherwise. Typically, these setoff rights arise upon the early termination of all transactions outstanding under an ISDA agreement following a default or specified termination event.

Most of the ISDA agreements contain credit-risk-related contingent features such as cross-default provisions and credit support thresholds that are dependent upon the credit ratings of the General Partner affiliate. In the event of certain defaults or a credit ratings downgrade of the General Partner affiliate, the counterparty may request early termination and net settlement of certain derivative trades or may require the General Partner affiliate to collateralize derivatives in a net liability position. The General Partner affiliate’s revolving credit agreement, at any time when it is secured, provides a cross collateral feature for those derivatives that are with counterparties that are party to, or affiliates of parties to, the revolving credit agreement so that no separate collateral would be required for those counterparties in connection with such derivatives. In the event the General Partner affiliate's revolving credit agreement becomes unsecured, the General Partner affiliate could be required to post separate collateral in connection with such derivatives. As of December 31, 2017 and 2016, the aggregate fair value of the derivative instruments with credit-risk-related contingent features in a net liability position was $3.2 million and $1.6 million, respectively, which also approximates the fair value of the maximum amount of assets needed to settle the obligations if the credit-risk-related contingent features were triggered and the General Partner affiliate was unable to post collateral at the reporting dates. As of December 31, 2017 and 2016, we and the General Partner affiliate had no cash collateral on deposit for derivative contracts assigned to us. The credit support documents executed in connection with certain ISDA agreements generally provide the General Partner affiliate and the counterparties the right to set off collateral against amounts owing under the ISDA agreements upon the occurrence of a default or a specified termination event.

The following table presents amounts relevant to offsetting of our derivative assets and liabilities as of December 31, 2017 and 2016:



				Gross amounts not offset in consolidated balance sheets
				Gross amounts not offset in consolidated balance sheets
	Gross and net amounts presented in consolidated balance sheets⁽¹⁾			Financial instruments			Cash collateral received (pledged)		Net amount
	(in millions)
December 31, 2017
Total derivative assets	$	—		$	—		$	—	$	—
Total derivative liabilities	(3.2		)	—			—		(3.2		)
Net derivative liabilities	$	(3.2	)	$	—		$	—	$	(3.2	)
December 31, 2016
Total derivative assets	$	9.0		$	1.6		$	—	$	7.4
Total derivative liabilities	(1.6		)	(1.6		)	—		—
Net derivative assets	$	7.4		$	—		$	—	$	7.4

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⁽¹⁾	We report the fair values of our derivative assets and liabilities on a gross basis in our consolidated balance sheets. As a result, the gross amounts recognized and net amounts presented herein are the same.