##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549
 Form 10-Q/A-2 (MARK ONE)x
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003ORo
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934FOR THE TRANSITION PERIOD FROM TO.
 Commission File No. 1-13071  Hanover Compressor Company (Exact name of
registrant as specified in its charter)
  
 Delaware
(State or Other Jurisdiction of
Incorporation or Organization)
    
    76-0625124
(I.R.S. Employer
Identification No.)12001 North Houston Rosslyn, Houston, Texas
(Address of principal executive offices)
    
    77086
(Zip Code)
 (281) 447-8787
(Registrants telephone number, including area code)  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 is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes x No o Number of shares of the Common Stock of the registrant outstanding as of
November 7, 2003: 82,297,300 shares.




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TABLE OF CONTENTS  Part I. Financial InformationITEM 1. FINANCIAL STATEMENTSCONDENSED CONSOLIDATED BALANCE SHEETCONDENSED CONSOLIDATED STATEMENT OF OPERATIONSCONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (LOSS)CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWSNOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTSITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONSITEM 3. QUANTATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKITEM 4. CONTROLS AND PROCEDURESPART II. OTHER INFORMATIONITEM 1. LEGAL PROCEEDINGSITEM 6: EXHIBITS AND REPORTS ON FORM 8-KSIGNATURESEXHIBIT INDEXCertification of CEO Pursuant to Section 302Certification of CFO Pursuant to Section 302Certification of CEO Pursuant to Section 906Certification of CFO Pursuant to Section 906    Table of Contents  EXPLANATORY NOTE We are filing this Quarterly Report on Form 10-Q/A-2 for the quarterly period
ended September 30, 2003 in order to record a goodwill impairment charge for
our subsidiary, Belleli Energy S.r.l. (Belleli). During the performance of
our annual goodwill impairment review in the fourth quarter of 2003, we
determined the present value of Bellelis expected future cash flows was less
than our carrying value of Belleli. This resulted in a full impairment charge
for the $35.5 million in goodwill associated with Belleli. Upon further
analysis, it was determined that the factors resulting in the goodwill
impairment charge were also present during the third quarter of 2003 and that
the exercise of our purchase option in the third quarter of 2003 and the
presence of such factors should have resulted in an interim goodwill impairment
test under Statement of Financial Accounting Standards 142, Goodwill and Other
Intangible Assets (SFAS 142) and an impairment charge at that time. Our
financial results previously reported for the third quarter of 2003 did not
include the impairment charge. The table below indicates the impact of this
adjustment (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30, 2003
    
    September 30, 2003as reported
    
    as restated
    
    as reported
    
    as restatedRevenue
    
    $
    275,197
    
    
    $
    275,197
    
    
    $
    825,248
    
    
    $
    825,248Gross profit
    
    
    108,858
    
    
    
    108,858
    
    
    
    334,990
    
    
    
    334,990Income (loss) before cumulative
effect of accounting changes
    
    
    (23,043
    )
    
    
    (58,509
    )
    
    
    (49,435
    )
    
    
    (84,901
    )Net income (loss)
    
    
    (109,953
    )
    
    
    (145,419
    )
    
    
    (136,345
    )
    
    
    (171,811
    )Earnings (loss) per common and
common equivalent share:Basic:Income (loss)
before cumulative
effect of
accounting changes
    
    $
    (0.28
    )
    
    $
    (0.72
    )
    
    $
    (0.62
    )
    
    $
    (1.05
    )Net income (loss)
    
    $
    (1.35
    )
    
    $
    (1.79
    )
    
    $
    (1.69
    )
    
    $
    (2.12
    )Diluted:Income (loss)
before cumulative
effect of
accounting changes
    
    $
    (0.28
    )
    
    $
    (0.72
    )
    
    $
    (0.62
    )
    
    $
    (1.05
    )Net income (loss)
    
    $
    (1.35
    )
    
    $
    (1.79
    )
    
    $
    (1.69
    )
    
    $
    (2.12
    )
 The goodwill impairment has been reflected in the unaudited condensed consolidated financial statements for the three and nine
months ended September 30, 2003 included in this Form 10-Q/A-2. We have also revised our discussion in Part I,
Item 2. Managements Discussion and Analysis of Financial Condition and Results
of Operations to reflect the foregoing. 2




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Part I. Financial Information 
 ITEM 1. FINANCIAL STATEMENTS 
 HANOVER COMPRESSOR COMPANY
CONDENSED CONSOLIDATED BALANCE SHEET
(in thousands of dollars, except for par value and share amounts)
(unaudited) September 30,2003
    
    December 31,Restated
    
    2002ASSETSCurrent assets:Cash and cash equivalents
    
    $
    33,455
    
    
    $
    19,011Restricted cashsecurities settlement escrow
    
    
    29,581
    
    
    
    Accounts receivable, net of allowance of $8,086 and $5,162
    
    
    207,515
    
    
    
    211,722Inventory, net
    
    
    158,571
    
    
    
    166,004Costs and estimated earnings in excess of billings on uncompleted contracts
    
    
    60,275
    
    
    
    57,346Prepaid taxes
    
    
    5,743
    
    
    
    7,664Assets held for sale
    
    
    22,696
    
    
    
    69,408Other current assets
    
    
    40,442
    
    
    
    49,933Total current assets
    
    
    558,278
    
    
    
    581,088Property, plant and equipment, net
    
    
    2,046,687
    
    
    
    1,167,675Goodwill, net
    
    
    179,315
    
    
    
    180,519Intangible and other assets
    
    
    53,747
    
    
    
    74,058Investments in non-consolidated affiliates
    
    
    169,755
    
    
    
    150,689Total assets
    
    $
    3,007,782
    
    
    $
    2,154,029LIABILITIES AND COMMON STOCKHOLDERS EQUITYCurrent liabilities:Short-term debt
    
    $
    40,551
    
    
    $
    31,997Current maturities of long-term debt
    
    
    197,762
    
    
    
    1,744Accounts payable, trade
    
    
    62,687
    
    
    
    72,637Accrued liabilities
    
    
    151,535
    
    
    
    189,639Advance billings
    
    
    28,794
    
    
    
    36,156Liabilities held for sale
    
    
    957
    
    
    
    22,259Billings on uncompleted contracts in excess of costs and estimated earnings
    
    
    21,710
    
    
    
    14,571Total current liabilities
    
    
    503,996
    
    
    
    369,003Long-term debt
    
    
    1,516,590
    
    
    
    521,203Other liabilities
    
    
    52,035
    
    
    
    137,332Deferred income taxes
    
    
    33,836
    
    
    
    112,472Total liabilities
    
    
    2,106,457
    
    
    
    1,140,010Commitments
and contingencies (Note 9)Minority interest
    
    
    34,628
    
    
    
    143Mandatorily redeemable convertible preferred securities
    
    
    86,250
    
    
    
    86,250Common stockholders equity:Common stock, $.001 par value; 200,000,000 shares authorized; 82,422,276 and 80,815,209 shares issued, respectively
    
    
    82
    
    
    
    81Additional paid-in capital
    
    
    854,316
    
    
    
    841,657Deferred employee compensationrestricted stock grants
    
    
    (6,101
    )
    
    
    (2,285
    )Accumulated other comprehensive income (loss)
    
    
    2,092
    
    
    
    (13,696
    )Retained earnings
    
    
    (67,617
    )
    
    
    104,194Treasury stock253,115 common shares, at cost
    
    
    (2,325
    )
    
    
    (2,325
    )Total common stockholders equity
    
    
    780,447
    
    
    
    927,626Total liabilities and common stockholders equity
    
    $
    3,007,782
    
    
    $
    2,154,029
 The accompanying notes are an integral part of these condensed consolidated financial statements. 3




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HANOVER COMPRESSOR COMPANY
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(in thousands of dollars, except per share amounts)
(unaudited) Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2003
    
    
    
    
    
    2003Restated
    
    2002
    
    Restated
    
    2002Revenues:Domestic rentals
    
    $
    82,823
    
    
    $
    80,818
    
    
    $
    241,728
    
    
    $
    249,276International rentals
    
    
    49,519
    
    
    
    53,915
    
    
    
    151,973
    
    
    
    143,612Parts, service and used equipment
    
    
    45,581
    
    
    
    47,597
    
    
    
    118,327
    
    
    
    172,826Compressor and accessory fabrication
    
    
    24,039
    
    
    
    26,783
    
    
    
    81,839
    
    
    
    85,284Production and processing equipment fabrication
    
    
    65,202
    
    
    
    35,022
    
    
    
    211,152
    
    
    
    99,771Equity in income of non-consolidated affiliates
    
    
    7,581
    
    
    
    3,782
    
    
    
    16,873
    
    
    
    13,928Other
    
    
    452
    
    
    
    1,450
    
    
    
    3,356
    
    
    
    2,416275,197
    
    
    
    249,367
    
    
    
    825,248
    
    
    
    767,113Expenses:Domestic rentals
    
    
    31,833
    
    
    
    31,130
    
    
    
    94,043
    
    
    
    89,358International rentals
    
    
    17,757
    
    
    
    13,866
    
    
    
    47,682
    
    
    
    39,855Parts, service and used equipment
    
    
    35,307
    
    
    
    35,236
    
    
    
    85,781
    
    
    
    143,904Compressor and accessory fabrication
    
    
    22,347
    
    
    
    23,244
    
    
    
    73,950
    
    
    
    73,884Production and processing equipment fabrication
    
    
    59,095
    
    
    
    28,256
    
    
    
    188,802
    
    
    
    84,329Selling, general and administrative
    
    
    40,164
    
    
    
    36,769
    
    
    
    119,658
    
    
    
    107,644Foreign currency translation
    
    
    1,536
    
    
    
    461
    
    
    
    1,336
    
    
    
    13,339Provision for estimated cost of litigation settlement
    
    
    (3,500
    )
    
    
    
    
    
    
    40,253
    
    
    
    Other
    
    
    2,446
    
    
    
    
    
    
    
    2,951
    
    
    
    14,837Depreciation and amortization
    
    
    56,199
    
    
    
    30,771
    
    
    
    126,886
    
    
    
    82,367Leasing expense
    
    
    
    
    
    
    23,081
    
    
    
    43,139
    
    
    
    68,206Interest expense
    
    
    32,849
    
    
    
    10,514
    
    
    
    57,283
    
    
    
    31,137Goodwill impairment
    
    
    35,466
    
    
    
    
    
    
    
    35,466
    
    
    
    47,500331,499
    
    
    
    233,328
    
    
    
    917,230
    
    
    
    796,360Income (loss) from continuing operations before income taxes
    
    
    (56,302
    )
    
    
    16,039
    
    
    
    (91,982
    )
    
    
    (29,247
    )Provision for (benefit from) income taxes
    
    
    (7,940
    )
    
    
    6,180
    
    
    
    (18,463
    )
    
    
    7,412Income (loss) from continuing operations
    
    
    (48,362
    )
    
    
    9,859
    
    
    
    (73,519
    )
    
    
    (36,659
    )Income (loss) from discontinued operations, net of tax
    
    
    761
    
    
    
    (800
    )
    
    
    1,178
    
    
    
    (606
    )Loss from write-downs of discontinued operations, net of tax
    
    
    (10,908
    )
    
    
    
    
    
    
    (12,560
    )
    
    
    (3,883
    )Cumulative effect of accounting change, net of tax
    
    
    (86,910
    )
    
    
    
    
    
    
    (86,910
    )
    
    
    Net income (loss)
    
    $
    (145,419
    )
    
    $
    9,059
    
    
    $
    (171,811
    )
    
    $
    (41,148
    )Diluted net income (loss) per share:Net income (loss)
    
    $
    (145,419
    )
    
    $
    9,059
    
    
    $
    (171,811
    )
    
    $
    (41,148
    )Loss from discontinued operations, including write-downs, net of tax
    
    
    10,147
    
    
    
    800
    
    
    
    11,382
    
    
    
    4,489Cumulative effect of accounting change, net of tax
    
    
    86,910
    
    
    
    
    
    
    
    86,910
    
    
    
    Net income (loss) for purposes of computing diluted net income
(loss) per share from continuing operations
    
    $
    (48,362
    )
    
    $
    9,859
    
    
    $
    (73,519
    )
    
    $
    (36,659
    )Basic income (loss) per common share:Income (loss) from continuing operations
    
    $
    (0.59
    )
    
    $
    0.12
    
    
    $
    (0.91
    )
    
    $
    (0.46
    )Loss from discontinued operations, including write-downs
    
    
    (0.13
    )
    
    
    (0.01
    )
    
    
    (0.14
    )
    
    
    (0.06
    )Cumulative effect of accounting change, net of tax
    
    
    (1.07
    )
    
    
    
    
    
    
    (1.07
    )
    
    
    Net income (loss)
    
    $
    (1.79
    )
    
    $
    0.11
    
    
    $
    (2.12
    )
    
    $
    (0.52
    )Diluted income (loss) per common share:Income (loss) from continuing operations
    
    $
    (0.59
    )
    
    $
    0.12
    
    
    $
    (0.91
    )
    
    $
    (0.46
    )Loss from discontinued operations, including write-downs
    
    
    (0.13
    )
    
    
    (0.01
    )
    
    
    (0.14
    )
    
    
    (0.06
    )Cumulative effect of accounting change, net of tax
    
    
    (1.07
    )
    
    
    
    
    
    
    (1.07
    )
    
    
    Net income (loss)
    
    $
    (1.79
    )
    
    $
    0.11
    
    
    $
    (2.12
    )
    
    $
    (0.52
    )Weighted average common and equivalent shares outstanding:Basic
    
    
    81,439
    
    
    
    79,438
    
    
    
    80,907
    
    
    
    79,338Diluted
    
    
    81,439
    
    
    
    81,255
    
    
    
    80,907
    
    
    
    79,338
 The accompanying notes are an integral part of these condensed consolidated financial statements. 4




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HANOVER COMPRESSOR COMPANY
CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (LOSS)
(in thousands of dollars)
(unaudited) Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2003
    
    
    
    
    
    2003Restated
    
    2002
    
    Restated
    
    2002Net income (loss)
    
    $
    (145,419
    )
    
    $
    9,059
    
    
    $
    (171,811
    )
    
    $
    (41,148
    )Other comprehensive income (loss):Change in fair value of derivative financial instruments, net of tax
    
    
    2,106
    
    
    
    (6,339
    )
    
    
    2,794
    
    
    
    (8,837
    )Foreign currency translation adjustment
    
    
    407
    
    
    
    (2,040
    )
    
    
    12,994
    
    
    
    604Comprehensive income (loss)
    
    $
    (142,906
    )
    
    $
    680
    
    
    $
    (156,023
    )
    
    $
    (49,381
    )
 The accompanying notes are an integral part of these condensed consolidated financial statements. 5




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HANOVER COMPRESSOR COMPANY
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(in thousands of dollars)
(unaudited) Nine Months EndedSeptember 30,2003Restated
    
    2002Cash flows from operating activities:Net loss
    
    $
    (171,811
    )
    
    $
    (41,148
    )Adjustments:Depreciation and amortization
    
    
    126,886
    
    
    
    82,367Amortization of debt issuance costs and debt discount
    
    
    90
    
    
    
    90Loss from discontinued operations, net of tax
    
    
    11,382
    
    
    
    4,489Cumulative effect of accounting change, net of tax
    
    
    86,910
    
    
    
    Bad debt expense
    
    
    3,030
    
    
    
    2,800Gain on sale of property, plant and equipment
    
    
    (528
    )
    
    
    (7,033
    )Equity in income of non-consolidated affiliates, net of dividends received
    
    
    (16,770
    )
    
    
    (7,357
    )Loss on investments and charges for non-consolidated affiliates
    
    
    
    
    
    
    12,100Gain on derivative instruments
    
    
    (2,078
    )
    
    
    (1,530
    )Provision for inventory impairment and reserves
    
    
    2,838
    
    
    
    7,826Provision for estimated cost of litigation settlement, in excess of cash paid
    
    
    35,135
    
    
    
    Goodwill impairment
    
    
    35,466
    
    
    
    47,500Restricted stock compensation expense
    
    
    732
    
    
    
    254Pay-in-kind interest on Schlumberger notes
    
    
    15,914
    
    
    
    12,199Deferred income taxes
    
    
    (27,276
    )
    
    
    3,935Changes in assets and liabilities, excluding business combinations:Accounts receivable and notes
    
    
    (615
    )
    
    
    64,249Inventory
    
    
    317
    
    
    
    (8,997
    )Costs and estimated earnings versus billings on uncompleted contracts
    
    
    16,319
    
    
    
    25,968Accounts payable and other liabilities
    
    
    (23,799
    )
    
    
    (63,841
    )Advance billings
    
    
    (8,496
    )
    
    
    (6,224
    )Other
    
    
    (584
    )
    
    
    (6,616
    )Net cash provided by continuing operations
    
    
    83,062
    
    
    
    121,031Net cash provided by discontinued operations
    
    
    2,202
    
    
    
    446Net cash provided by operating activities
    
    
    85,264
    
    
    
    121,477Cash flows from investing activities:Capital expenditures
    
    
    (105,189
    )
    
    
    (183,154
    )Payments for deferred lease transaction costs
    
    
    (1,580
    )
    
    
    (1,569
    )Proceeds from sale of property, plant and equipment
    
    
    21,970
    
    
    
    51,741Cash used for business acquisitions
    
    
    (15,000
    )
    
    
    (7,400
    )Proceeds from business divestitures
    
    
    500
    
    
    
    Cash returned from non-consolidated affiliates
    
    
    
    
    
    
    4,009Cash used to acquire investments in and advances to non-consolidated affiliates
    
    
    (401
    )
    
    
    Net cash used in continuing operations
    
    
    (99,700
    )
    
    
    (136,373
    )Net cash provided by (used in) discontinued operations
    
    
    23,729
    
    
    
    (17,079
    )Net cash used in investing activities
    
    
    (75,971
    )
    
    
    (153,452
    )Cash flows from financing activities:Net borrowings on bank credit facility
    
    
    15,500
    
    
    
    35,500Payments for debt issue costs
    
    
    (831
    )
    
    
    (581
    )Purchase of treasury stock
    
    
    
    
    
    
    (1,609
    )Proceeds from warrant conversions and stock options exercised
    
    
    5,274
    
    
    
    1,810Proceeds from employee stock purchase
    
    
    
    
    
    
    276Net borrowings (repayments) of other debt
    
    
    3,307
    
    
    
    (2,103
    )Proceeds from employee stockholder notes
    
    
    
    
    
    
    55Net cash provided by continuing operations
    
    
    23,250
    
    
    
    33,348Net cash used in discontinued operations
    
    
    (18,538
    )
    
    
    (509
    )Net cash provided by financing activities
    
    
    4,712
    
    
    
    32,839Effect of exchange rate changes on cash and equivalents
    
    
    439
    
    
    
    (1,869
    )Net increase (decrease) in cash and cash equivalents
    
    
    14,444
    
    
    
    (1,005
    )Cash and cash equivalents at beginning of period
    
    
    19,011
    
    
    
    23,191Cash and cash equivalents at end of period
    
    $
    33,455
    
    
    $
    22,186
 The accompanying notes are an integral part of these condensed consolidated financial statements. 6




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HANOVER COMPRESSOR COMPANY 
 NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements of
Hanover Compressor Company (Hanover, we, us, our or the Company)
included herein have been prepared in accordance with accounting principles
generally accepted in the United States of America for interim financial
information and the rules and regulations of the Securities and Exchange
Commission. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with accounting principles
generally accepted in the United States of America are not required in these
interim financial statements and have been condensed or omitted. It is the
opinion of our management that the information furnished includes all
adjustments, consisting only of normal recurring adjustments, which are
necessary to present fairly the financial position, results of operations, and
cash flows of Hanover for the periods indicated. The financial statement
information included herein should be read in conjunction with the consolidated
financial statements and notes thereto included in our Annual Report on Form
10-K for the year ended December 31, 2002. These interim results are not
necessarily indicative of results for a full year. Earnings Per Common Share Basic earnings (loss) per common share is computed by dividing income (loss)
available to common shareholders by the weighted average number of shares
outstanding for the period. Diluted earnings (loss) per common share is
computed using the weighted average number of shares outstanding adjusted for
the incremental common stock equivalents attributed to outstanding options and
warrants to purchase common stock, restricted stock, convertible senior notes
and mandatorily redeemable preferred securities, unless their effect would be
anti-dilutive. The table below indicates the potential common shares issuable which were
included in computing the dilutive potential common shares used in diluted
earnings (loss) per common share (in thousands): Three Months
    
    Nine MonthsEnded
    
    EndedSeptember 30,
    
    September 30,2003
    
    2002
    
    2003
    
    2002Weighted average common shares outstandingused in basic earnings (loss) per common share
    
    
    81,439
    
    
    
    79,438
    
    
    
    80,907
    
    
    
    79,338Net dilutive potential common shares issuable:On exercise of options and vesting of restricted stock
    
    
    **
    
    
    
    1,813
    
    
    
    **
    
    
    
    **On exercise of warrants
    
    
    **
    
    
    
    4
    
    
    
    **
    
    
    
    **On conversion of mandatorily redeemable convertible preferred securities
    
    
    **
    
    
    
    **
    
    
    
    **
    
    
    
    **On conversion of convertible senior notes
    
    
    **
    
    
    
    **
    
    
    
    **
    
    
    
    **Weighted average common shares and dilutive potential common sharesused in diluted earnings
(loss) per common share
    
    
    81,439
    
    
    
    81,255
    
    
    
    80,907
    
    
    
    79,338
  **
    
    Excluded from diluted earnings (loss) per common share as the effect would have been anti-dilutive. The table below indicates the potential common shares issuable which were
excluded from net dilutive potential common shares issuable as their effect
would be anti-dilutive (in thousands): Three Months
    
    Nine MonthsEnded
    
    EndedSeptember 30,
    
    September 30,2003
    
    2002
    
    2003
    
    2002Net dilutive potential common shares issuable:On exercise of options and vesting of restricted stock
    
    
    1,998
    
    
    
    
    
    
    
    1,891
    
    
    
    2,549On exercise of options-exercise price greater than average market value at end of period
    
    
    1,834
    
    
    
    1,531
    
    
    
    3,991
    
    
    
    1,531On exercise of warrants
    
    
    4
    
    
    
    
    
    
    
    4
    
    
    
    4On conversion of mandatorily redeemable convertible preferred securities
    
    
    4,825
    
    
    
    4,825
    
    
    
    4,825
    
    
    
    4,825On conversion of convertible senior notes
    
    
    4,370
    
    
    
    4,370
    
    
    
    4,370
    
    
    
    4,37013,031
    
    
    
    10,726
    
    
    
    15,081
    
    
    
    13,279
 Stock-Based Compensation Certain of our employees participate in stock option plans that provide for the
granting of options to purchase Hanover common shares. In accordance with
Statement of Financial Standards No. 123, Accounting for Stock-Based
Compensation, (SFAS 123) Hanover measures compensation expense for its
stock-based employee compensation plans using the intrinsic value method
prescribed in APB Opinion No. 25, Accounting for Stock Issued to Employees
(APB 25). The following pro forma net income (loss) and earnings (loss) per share data illustrates the
effect on net income (loss) and net earnings (loss) per share if the fair value
method had been applied to all outstanding and unvested stock options in each
period (in thousands). 7




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##### Table of Contents



Three Months
    
    Nine MonthsEnded
    
    EndedSeptember 30,
    
    September 30,2003
    
    
    
    
    
    2003Restated
    
    2002
    
    Restated
    
    2002Net income (loss) as reported
    
    $
    (145,419
    )
    
    $
    9,059
    
    
    $
    (171,811
    )
    
    $
    (41,148
    )Add back: Restricted stock grant expensed, net of tax
    
    
    256
    
    
    
    110
    
    
    
    476
    
    
    
    165Deduct: Stock-based employee compensation expense
determined under the fair value method, net of tax
    
    
    (757
    )
    
    
    (663
    )
    
    
    (1,799
    )
    
    
    (1,539
    )Pro forma net income (loss)
    
    $
    (145,920
    )
    
    $
    8,506
    
    
    $
    (173,134
    )
    
    $
    (42,522
    )Income (loss) per share:Basic, as reported
    
    $
    (1.79
    )
    
    $
    0.11
    
    
    $
    (2.12
    )
    
    $
    (0.52
    )Basic, pro forma
    
    $
    (1.79
    )
    
    $
    0.11
    
    
    $
    (2.14
    )
    
    $
    (0.54
    )Diluted, as reported
    
    $
    (1.79
    )
    
    $
    0.11
    
    
    $
    (2.12
    )
    
    $
    (0.52
    )Diluted, pro forma
    
    $
    (1.79
    )
    
    $
    0.10
    
    
    $
    (2.14
    )
    
    $
    (0.54
    )
 In July 2003, we granted 430,000 restricted shares of Hanover common stock to
certain employees as part of an incentive compensation plan. The restricted
stock grants vest equally over four years. As of September 30, 2003, 514,000
restricted shares were outstanding under our incentive compensation plans. We
will recognize compensation expense equal to the fair value of the stock at the
date of grant over the vesting period related to these grants. During the nine
months ended September 30, 2003 and 2002, we recognized $732,000 and $254,000,
respectively, in compensation expense related to these grants. Reclassifications Certain amounts in the prior periods financial statements have been
reclassified to conform to the 2003 financial statement classification as more
fully discussed in Notes 11 and 13. These reclassifications have no impact on
net income. See Note 13 for a discussion of discontinued operations. 2. BUSINESS ACQUISITIONS AND COMBINATIONS 2003 Acquisitions Belleli Acquisition.In 2002, we increased our ownership of Belleli to 51% from
20.3% by converting $13.4 million in loans, together with approximately $3.2
million in accrued interest thereon, into additional equity ownership and in
November 2002 began consolidating the results of Bellelis operations. Belleli
has three manufacturing facilities, one in Mantova, Italy and two in the United
Arab Emirates (Jebel Ali and Hamriyah). During 2002, we also purchased certain
operating assets used by Belleli for approximately $22.4 million from a
bankruptcy estate of Bellelis former parent and leased these assets to Belleli
for approximately $1.2 million per year, for a term of seven years. In connection with our increase in ownership in 2002, we entered into an
agreement with the minority owner of Belleli that provided the minority owner
the right, until June 30, 2003, to purchase our interest for an amount that
approximated our investment in Belleli. The agreement also provided us with the
right, beginning in July 2003, to purchase the minority owners interest in
Belleli. In addition, the minority owner historically had been unwilling to
provide its proportionate share of capital to Belleli. We believed that our
ability to maximize value would be enhanced if we were able to exert greater
control through the exercise of our purchase right. Thus, in August 2003, we
exercised our option to acquire the remaining 49% interest in Belleli for
approximately $15.0 million in order to gain complete control of Belleli. As a
result of these transactions and intervening foreign exchange rate changes, we
recorded $4.8 million in identifiable intangible assets, with a weighted
average life of approximately 17 years, and $35.5 million in goodwill. During the third quarter of 2003, we recorded a $35.5 million impairment charge
for the goodwill associated with Belleli. As a result of the war in Iraq, the
strengthening of the Euro and generally unfavorable economic conditions, we
believe that the estimated fair value of Belleli declined significantly during
2003. Upon gaining complete control of Belleli and assessing our long-term
growth strategy, we determined that these general factors in combination with
the specific economic factors impacting Belleli had significantly and adversely
impacted the timing and amount of the future cash flows that we expected
Belleli to generate. We currently do not expect to realize our original growth
expectations for Belleli in the timeframe that we originally forecasted. 2002 Acquisitions In July 2002, we acquired a 92.5% interest in Wellhead Power Gates, LLC
(Gates) for approximately $14.4 million and had loaned approximately $6
million to Gates prior to our acquisition. Gates is a developer and owner of a
forty-six megawatt cycle power facility in Fresno County, California. This
investment was accounted for as a consolidated subsidiary and was classified as
an asset held for sale and its operating results were reported in income (loss)
from discontinued operations, until sold in September 2003. See Note 13 for a
discussion of discontinued operations. In July 2002, we acquired a 49.0% interest in Wellhead Power Panoche, LLC
(Panoche) for approximately $6.8 million and had loaned approximately $5.0
million to Panoche prior to the acquisition of our interest. Panoche is a
developer and owner of a forty-nine megawatt cycle power facility in Fresno
County, California, which is under contract with the California Department of
Water Resources. This investment was classified as an asset held for sale and
the equity income (loss) from this non-consolidated subsidiary was reported in
income (loss) from discontinued operations, until sold in June 2003. See Note
13 for a discussion of discontinued operations. In July 2002, we acquired certain assets of Voyager Compression Services, LLC a
natural gas compression services company located in Gaylord, Michigan, for
approximately $2.5 million in cash. See discussion of 2002
Belleli acquisition above. 8




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##### Table of Contents



3. INVENTORIES Inventory consisted of the following amounts (in thousands): September 30,
    
    December 31,2003
    
    2002Parts and supplies
    
    $
    109,950
    
    
    $
    114,833Work in progress
    
    
    38,292
    
    
    
    37,790Finished goods
    
    
    10,329
    
    
    
    13,381$
    158,571
    
    
    $
    166,004
 As of September 30, 2003 and December 31, 2002 we had inventory valuation
reserves of approximately $13.4 million and $14.2 million, respectively. 4. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment consisted of the following (in thousands): September 30,
    
    December 31,2003
    
    2002Compression equipment, plants and related facilities and other rental assets
    
    $
    2,393,790
    
    
    $
    1,261,241Land and buildings
    
    
    90,182
    
    
    
    86,732Transportation and shop equipment
    
    
    75,830
    
    
    
    75,443Other
    
    
    42,537
    
    
    
    31,8882,602,339
    
    
    
    1,455,304Accumulated depreciation
    
    
    (555,652
    )
    
    
    (287,629
    )$
    2,046,687
    
    
    $
    1,167,675
 During the quarter ended September 30, 2003, we recorded a $14.4 million
impairment charge in depreciation expense to write-down a portion of our rental
fleet to be sold or scrapped. On July 1, 2003, we adopted the provisions of FASB Interpretation No. 46,
Consolidation of Variable Interest Entities, an interpretation of ARB 51
(FIN 46) as they relate to the special purpose entities that lease
compression equipment to us. As a result of the adoption, we added
approximately $1,089 million in compressor equipment assets, $192.3 million of
accumulated depreciation (including approximately $58.6 million of accumulated
depreciation related to periods before the sale and leaseback of the
equipment), $1,105.0 million in debt and $34.6 million in minority interest
obligations to our balance sheet, and we reversed $108.8 million of deferred
gains that were recorded on our balance sheet as a result of the sale leaseback
transactions. See Note 6 for a discussion of the impact of our partial adoption
of FIN 46. 5. DEBT Short-term debt consisted of the following (in thousands): September 30,
    
    December 31,2003
    
    2002Bellelifactored receivables
    
    $
    22,815
    
    
    $
    15,970Bellelirevolving credit facility
    
    
    12,441
    
    
    
    11,964Other, interest at 5.0%, due 2004
    
    
    5,295
    
    
    
    4,063Short-term debt
    
    $
    40,551
    
    
    $
    31,997
 In November 2002, we increased our ownership in Belleli to 51%. In August 2003,
we exercised our option to purchase the remaining interest not owned by us (see
Note 2). Belleli has financed its operations through the factoring of its
receivables. Such factoring is typically short term in nature and at September
30, 2003 bore interest at a weighted average rate of 4.0%. In addition,
Bellelis revolving credit facilities bore interest at a weighted average rate
of 3.7% and 3.0% at September 30, 2003 and December 31, 2002, respectively.
These revolving credit facilities expire in December 2003 and are partially
secured by letters of credit issued and outstanding under Hanovers bank credit
facility of $9.4 million as of September 30, 2003. 9




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##### Table of Contents



Long-term debt consisted of the following (in thousands): September 30,
    
    December 31,2003
    
    2002Bank credit facility
    
    $
    172,000
    
    
    $
    156,5004.75% convertible senior notes due 2008
    
    
    192,000
    
    
    
    192,0001999A equipment lease notes, interest at 3.4%, due June 2004*
    
    
    194,000
    
    
    
    2000A equipment lease notes, interest at 3.4%, due March 2005*
    
    
    193,600
    
    
    
    2000B equipment lease notes, interest at 3.4%, due October 2005*
    
    
    167,411
    
    
    
    2001A equipment lease notes, interest at 8.5%, due September 2008*
    
    
    300,000
    
    
    
    2001B equipment lease notes, interest at 8.8%, due September 2011*
    
    
    250,000
    
    
    
    Schlumberger note, interest at 13.5%
    
    
    
    
    
    
    167,096Schlumberger note, zero coupon accreting interest at 11.0%, due 2007
    
    
    180,536
    
    
    
    PIGAP note, interest at 6.0%, due 2053
    
    
    59,756
    
    
    
    Real estate mortgage, interest at 3.19%, collateralized by certain land and buildings, payable through September
2004
    
    
    3,000
    
    
    
    3,250Other, interest at various rates, collateralized by equipment and other assets, net of unamortized discount
    
    
    2,049
    
    
    
    4,1011,714,352
    
    
    
    522,947Lesscurrent maturities
    
    
    (197,762
    )
    
    
    (1,744
    )Long-term debt
    
    $
    1,516,590
    
    
    $
    521,203
  *
    
    See Note 6 for a discussion of the impact of adoption of FIN 46. Maturities of long-term debt (excluding interest to be accrued thereon) at
September 30, 2003 are (in thousands): 2003$367; 2004$369,511; 2005$361,511;
2006$407; 2007$180,577; 2008$492,045; and $309,934 thereafter. In February 2003, we executed an amendment to our bank credit facility (our
bank credit facility) and the agreements related to certain of our
compression equipment lease obligations that we entered into in 1999 and 2000.
The amendment, which was effective as of December 31, 2002, modified certain
financial covenants to allow us greater flexibility in accessing the capacity
under the bank credit facility to support our short-term liquidity needs. In
addition, at the higher end of our permitted consolidated leverage ratio, the
amendment increased the commitment fee under the bank credit facility by 0.125%
and increased the interest rate margins used to calculate the applicable
interest rates under all of the agreements by up to 0.75%. Any increase in our
interest costs as a result of the amendment as compared to the bank credit
facility prior to the amendment depends on our consolidated leverage ratio at
the end of each quarter, the amount of indebtedness outstanding and the
interest rate quoted for the benchmark selected by us. As part of the
amendment, we granted the lenders under these agreements a security interest in
the inventory, equipment and certain other property of Hanover and its domestic
subsidiaries, and pledged 66% of the equity interest in certain of our foreign
subsidiaries. This amendment also restricts our capital spending to $200
million in 2003. In consideration for obtaining the amendment, we agreed to pay
approximately $1.8 million in fees to the lenders under these agreements. Our bank credit facility as so amended provides for a $350 million revolving
credit facility that matures on November 30, 2004. Advances bear interest at
(a) the greater of the administrative agents prime rate, the federal funds
effective rate, or the base CD rate, or (b) a eurodollar rate, plus, in each
case, a specified margin (3.4% and 3.2% weighted average interest rate at
September 30, 2003 and December 31, 2002, respectively). A commitment fee based
upon a percentage of the average available commitment is payable quarterly to
the lenders participating in the bank credit facility. This fee ranges from
0.25% to 0.50% per annum and fluctuates with our consolidated leverage ratio.
In addition to the drawn balance on our bank credit facility, as of September
30, 2003, we had $71.7 million in letters of credit outstanding under the bank
credit facility. Our bank credit facility contains certain financial covenants
and limitations on, among other things, indebtedness, liens, leases and sales
of assets. Our bank credit facility also limits the payment of cash dividends
on our common stock to 25% of our net income for the period from December 1,
2001 through November 30, 2004. As of September 30, 2003, we were in compliance with all material covenants and
other requirements set forth in our bank credit facility, agreements related to
our compression equipment lease obligations and indentures. Giving effect to
the covenant limitations in our bank credit facility, the liquidity available
under that facility as of September 30, 2003 was approximately $25 million. Our
cash balance amounted to $33.5 million at September 30, 2003. Because our bank
credit facility will mature in November 2004, it will be reported as a current
liability on our balance sheet for the year ended December 31, 2003, if not
amended or replaced prior to such date. While there is no assurance, we believe based on our current projections that
we will be in compliance with the financial covenants in our bank credit
facility and the agreements related to our compression equipment lease
obligations at December 31, 2003, although, with respect to certain of the
covenants, a relatively small change in our actual results as compared to our
current projections could cause us not to be in compliance with such covenants. Under the February 2003 amendment, certain of the financial covenants contained
in our bank credit facility and the agreements related to certain of our
compression equipment lease obligations revert back to more restrictive
covenants with which we must be in compliance at the end of each fiscal quarter
ending after December 31, 2003, or we will be in default under the bank credit
facility. With respect to the more restrictive financial covenants that will be
in effect at March 31, 2004, if our bank credit facility is not amended or
replaced by such date, we believe based on our current projections that we
would probably not be in compliance with such covenants at such date. However,
we currently have bank commitments totaling $345 million for a new bank credit
facility (the Proposed Bank Credit Facility) with different and/or less
restrictive covenants which would apply to us for fiscal quarters ending after
December 31, 2003. While there is no assurance, we believe based on our current
projections that we will be in compliance with the financial covenants
contained in the Proposed Bank Credit Facility at March 31, 2004. The bank commitments under the Proposed Bank Credit Facility expire on December
31, 2003, and if we do not close the Proposed Bank Credit Facility prior to
that date, we will have to request that the banks extend their commitments.
There is no assurance that the banks will extend their commitments on the same
terms or at all. In addition, the closing of this Proposed Bank Credit Facility
is contingent on the finalization of documentation, the contemporaneous or
earlier closing of at least $275 10




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##### Table of Contents



million of specified new financing to repay
the $200 million 1999A equipment lease and a portion of our bank credit
facility borrowings and satisfaction of other customary conditions. There is no
assurance that we will be able to satisfy all the conditions to close the
Proposed Bank Credit Facility, including in particular the requirement to
effect at least $275 million of new financings on required terms. If we are not
able to close the Proposed Bank Credit Facility on a timely basis, then we
expect to seek an amendment or waiver of the applicable financial covenants in
our existing agreements. Although we believe we would be able to obtain a
satisfactory amendment or waiver, there is no assurance we will be able to do
so. Such an amendment or waiver could impose additional restrictions on us and
could involve additional fees payable to the banks, which could be significant.
If we are unable to meet the applicable financial covenants under our bank
credit facility and we fail to obtain an amendment or waiver with respect
thereto, then we could be in default under our bank credit facility and certain
of our agreements related to our compression equipment lease obligations and
other debt. A default under our bank credit facility or these agreements would
trigger cross-default provisions in certain of our other debt agreements. Such
defaults would have a material adverse effect on the Companys liquidity,
financial position and operations. In addition to purchase money and similar obligations, the indentures and the
agreements related to our compression equipment lease obligations for our 2001A
and 2001B sale leaseback transactions permit us to incur indebtedness up to the
$350 million credit limit under our bank credit facility, plus (1) an
additional $75 million in unsecured indebtedness and (2) any additional
indebtedness so long as, after incurring such indebtedness, our ratio of the
sum of consolidated net income before interest expense, income taxes, depreciation expense, amortization of
intangibles, certain other non-cash charges and rental expense to total fixed
charges (all as defined and adjusted by the agreements), or our coverage
ratio, is greater than 2.25 to 1.0 and no default or event of default has
occurred or would occur as a consequence of incurring such additional
indebtedness and the application of the proceeds thereon. The indentures and
agreements for our 2001A and 2001B sale leaseback transactions define
indebtedness to include the present value of our rental obligations under sale
leaseback transactions and under facilities similar to our compression
equipment operating leases. As of September 30, 2003, Hanovers coverage ratio
was less than 2.25 to 1.0 and therefore as of such date we could not incur
indebtedness other than under our bank credit facility and up to an additional
$75 million in unsecured indebtedness and certain other permitted indebtedness,
including certain refinancing indebtedness. We believe the Proposed Credit
Facility is within the types of refinancing indebtedness allowed under these
agreements. In January 2003, we gave notice of our intent to exercise our right to put our
interest in the PIGAP II joint venture back to Schlumberger. If not exercised,
the put right would have expired as of February 1, 2003. Hanover acquired its
interest in PIGAP II as part of its purchase of Production Operators
Corporations natural gas compression business, ownership interest in certain
joint venture projects in South America, and related assets (POC) from
Schlumberger in August 2001. PIGAP II is a joint venture that operates a
natural gas compression facility in Venezuela and is currently owned 70% by a
subsidiary of The Williams Companies Inc. and 30% by us. On May 14, 2003, we
entered into an agreement with Schlumberger to terminate our right to put our
interest in the PIGAP II joint venture to Schlumberger. We also agreed with
Schlumberger to restructure the $150 million subordinated note that
Schlumberger received from us in August 2001 as part of the purchase price for
the acquisition of POC. As a result, we retained our ownership interest in
PIGAP II. A comparison of the primary financial terms of the original $150 million
subordinated note and the restructured note are shown in the table below. Primary Financial Term
    
    Restructured Note
    
    Original NotePrincipal Outstanding at March 31, 2003:
    
    $171 million
    
    $171 millionMaturity:
    
    March 31, 2007
    
    December 31, 2005Interest Rate:
    
    Zero coupon accreting at 11.0% fixed
    
    13.5%, 14.5%
beginning March 1,
2004, 15.5%
beginning March 1, 2005Schlumberger First Call Rights on
Hanover Equity Issuance:
    
    None
    
    Schlumberger had
first call on any
Hanover equity
offering proceedsCall Provision:
    
    Hanover cannot call the Note prior
to March 31, 2006
    
    Callable at any time
 As of March 31, 2003, the date from which the interest rate was adjusted, the
$150 million subordinated note had an outstanding principal balance of
approximately $171 million, including accrued interest. Under the restructured
terms, the maturity of the restructured note has been extended to March 31,
2007, from the original maturity of December 31, 2005. The note is a zero
coupon note with original issue discount accreting at 11.0% for its remaining
life, up to a total principal amount of $262.6 million payable at maturity. The
note will accrue an additional 2.0% interest upon the occurrence and during the
continuance of an event of default under the note. The note will also accrue an
additional 3.0% interest if Hanovers consolidated leverage ratio, as defined
in the note agreement, exceeds 5.18 to 1.0 as of the end of two consecutive
fiscal quarters. Notwithstanding the foregoing, the note will accrue additional
interest of a total of 3.0% if both of the previously mentioned circumstances
occur. The note also contains a covenant that limits our ability to incur
additional indebtedness if Hanovers consolidated leverage ratio exceeds 5.6 to
1.0, subject to certain exceptions. Schlumberger will no longer have a first
call on any proceeds from the issuance of any shares of capital stock or other
equity interests by Hanover and the note is not callable by Hanover until March
31, 2006. As agreed upon with Schlumberger, Hanover has agreed to bear the cost
of and has filed a shelf registration statement with the Securities and
Exchange Commission (SEC) covering the resale of the restructured note by
Schlumberger. Also on May 14, 2003, we agreed with Schlumberger Surenco, an affiliate of
Schlumberger, to the modification of the repayment terms of a $58 million
obligation that was accrued as a contingent liability on our balance sheet
since the acquisition of POC and was associated with the PIGAP II joint
venture. The obligation was converted into a non-recourse promissory note
(PIGAP Note) payable by Hanover Cayman Limited, our indirect wholly-owned
consolidated subsidiary, with a 6% interest rate compounding semi-annually
until maturity in December 2053. This note was paid in full in October 2003
upon closing of the project financing by the PIGAP II joint venture (see Note
14). For financial accounting purposes, the above described changes to the
restructured subordinated note and PIGAP Note were not considered an
extinguishment of debt, but have been accounted for as debt modifications which
resulted in no income or expense recognition related to the transaction. 6. LEASING TRANSACTIONS AND ACCOUNTING CHANGE FOR FIN 46 Leasing Transactions We are the lessee in five transactions involving the sale of compression
equipment by us to special purpose entities, which in turn lease the equipment
back to us. At the time we entered into the leases, these transactions had a
number of advantages over other sources of capital then available to us. The
sale leaseback transactions (i) enabled us to affordably extend the duration of
our financing arrangements and (ii) reduced our cost of capital. 11




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Prior to our first sale leaseback transaction in 1998, we financed our growth
in compression assets by drawing down on our bank credit facility with a
commercial bank. While highly flexible and well priced, the bank credit
facility represented a short term funding strategy to finance long-term assets.
Sale leaseback transactions can reduce refinancing risk by extending the
duration of our capital commitments. Sale leaseback transactions also provided capital to us at a lower cost
compared to other sources then available to us. Lenders to the special purpose
entities did not require as high a rate of interest because their capital risk
is mitigated by a perfected, first priority security interest in the
compression equipment, as well as a residual value guarantee provided by us.
The reduced capital risk associated with our sale leaseback transactions had
the effect of reducing our leasing expense as compared to an unsecured
borrowing. We will continue to evaluate sale leaseback transactions as well as
consider other forms of financing for cost effectiveness as future capital
needs arise. We also believe that the sale leaseback transactions represent a source of
capital in addition to the commercial bank financing that we traditionally use.
This diversification of our capital sources has broadened our access to capital
and allowed us to expand our operations. In August 2001 and in connection with the acquisition of POC, we completed two
sale leaseback transactions involving certain compression equipment. Concurrent
with these transactions, we exercised our purchase option under our July 1998
operating lease for $200.0 million. Under one sale leaseback transaction, we
received $309.3 million in proceeds from the sale of compression equipment.
Under the second sale leaseback transaction, we received $257.8 million in
proceeds from the sale of additional compression equipment. Under the first
transaction, the equipment was sold and leased back by us for a seven year
period and will continue to be deployed by us in the normal course of our
business. The agreement calls for semi-annual rental payments of approximately
$12.8 million in addition to quarterly rental payments of approximately $0.2
million. Under the second transaction, the equipment was sold and leased back
by us for a ten year period and will continue to be deployed by us in the
normal course of our business. The agreement calls for semi-annual rental
payments of approximately $10.9 million in addition to quarterly rental
payments of approximately $0.2 million. We have options to repurchase the
equipment under certain conditions as defined by the lease agreements. Through
September 30, 2003, we incurred transaction costs of approximately $18.6
million related to these transactions. These costs are included in intangible
and other assets and are being amortized over the respective lease terms. In October 2000, we completed a $172.6 million sale leaseback transaction of
compression equipment. In March 2000, we entered into a separate $200.0 million
sale leaseback transaction involving certain compression equipment. Under the
March transaction, we received proceeds of $100.0 million from the sale of
compression equipment at the first closing in March 2000, and in August 2000,
we completed the second half of the equipment lease and received an additional
$100.0 million for the sale of additional compression equipment. In June 1999,
we completed a $200.0 million sale leaseback transaction involving certain
compression equipment. Under these lease agreements, the equipment was sold and
leased back by us for a five year term and will be used by us in our business.
We have options to repurchase the equipment under the 2000 and 1999 leases,
subject to certain conditions set forth in these lease agreements. The lease
agreements call for variable quarterly payments that fluctuate with the London
Interbank Offering Rate and have covenant restrictions similar to our bank
credit facility. We incurred an aggregate of approximately $7.5 million in
transaction costs for the leases entered into in 2000 and 1999, which are
included in intangible and other assets on the balance sheet and are being
amortized over the respective lease terms of the respective transactions. The following table summarizes the proceeds and the residual guarantee (maximum
exposure to loss) and the lease termination date for equipment leases (in
thousands of dollars): ResidualValue
    
    Lease TerminationLease
    
    Sale Proceeds
    
    Guarantee
    
    Date1999A equipment lease
    
    $
    200,000
    
    
    $
    166,000
    
    
    June 20042000A equipment lease
    
    
    200,000
    
    
    
    166,000
    
    
    March 20052000B equipment lease
    
    
    172,589
    
    
    
    142,299
    
    
    October 20052001A equipment lease
    
    
    309,300
    
    
    
    232,000
    
    
    September 20082001B equipment lease
    
    
    257,750
    
    
    
    175,000
    
    
    September 2011$
    1,139,639
    
    
    $
    881,299
 We made residual value guarantees under these lease agreements that are due
upon termination of the leases and which may be satisfied by a cash payment or
the exercise of our equipment purchase options under the terms of the lease
agreements. The residual value guarantees and other lease terms, which are
based on negotiation between Hanover and third party lessors, were supported by
equipment appraisals and analysis. In connection with the compression equipment leases entered into in August
2001, the Company was obligated to prepare registration statements and complete
an exchange offering to enable the holders of the notes issued by the lessors
to exchange their notes with notes registered under the Securities Act of 1933.
Because of the restatement of our financial statements, the exchange offering
was not completed pursuant to the time line required by the agreements and the
Company was required to pay additional lease expense in an amount equal to
$105,600 per week until the exchange offering was completed. The additional
lease expense began accruing on January 28, 2002 and increased the Companys
lease expense by $5.1 million during 2002. The registration statements became
effective in February 2003. The exchange offer was completed and the
requirement to pay the additional lease expense ended on March 13, 2003. In February 2003, we executed an amendment to our bank credit facility and the
compression equipment leases entered into in 1999 and 2000 (see Note 5). Accounting Change Prior to July 1, 2003, these five lease transactions were recorded as a sale
and leaseback of the compression equipment and were treated as operating leases
for financial reporting purposes. On July 1, 2003, we adopted the provisions of
FIN 46 as they relate to the special purpose entities that lease compression
equipment to us. As a
result of the adoption, we added approximately $1,089 million in compressor
equipment assets, $192.3 million of accumulated depreciation (including
approximately $58.6 million of accumulated depreciation related to periods
before the sale and leaseback of the equipment), $1,105.0 million in debt and
$34.6 million in minority interest obligations to our balance sheet, and we
reversed $108.8 million of deferred gains that were recorded on our balance
sheet as a result of the sale leaseback transactions. On July 1, 2003, we
recorded a $133.7 million charge ($86.9 million net of tax) to record the
cumulative effect from the adoption of FIN 46 related to prior 12




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period
depreciation of the compression equipment assets. Additionally, we estimate
that, after adoption, we will record approximately $17 million per year in
additional depreciation expense on our leased compression equipment as a result
of the inclusion of the compression equipment on our balance sheet and will
also record the payments made under our compression equipment leases as
interest expense. As of September 30, 2003, the compression assets that are
owned by the entities that lease equipment to us but are now included in
property, plant and equipment in our consolidated financial statements had a
net book value of approximately $983.3 million, including improvements made to
these assets after the sale leaseback transactions. 7. ACCRUED LIABILITIES Accrued liabilities consisted of the following (in thousands): September 30,2003
    
    December 31,Restated
    
    2002Accrued salaries, bonuses and other employee benefits
    
    $
    29,737
    
    
    $
    21,024Accrued income and other taxes
    
    
    23,237
    
    
    
    24,095Accrued leasing expense
    
    
    
    
    
    
    23,465Additional purchase price for POC
    
    
    
    
    
    
    60,740Current portion of hedge instruments
    
    
    12,233
    
    
    
    16,082Litigation settlement accrual
    
    
    34,558
    
    
    
    Accrued interest
    
    
    8,325
    
    
    
    2,939Accrued other
    
    
    43,445
    
    
    
    41,294$
    151,535
    
    
    $
    189,639
 The decrease of $60.7 million for the additional purchase price for POC is due
to the reclassification of a $58 million contingent liability and accrued
interest associated with the PIGAP II joint venture that was restructured into
the PIGAP Note (see Note 5). 8. ACCOUNTING FOR DERIVATIVES We adopted SFAS 133, Accounting for Derivative Instruments and Hedging
Activities (SFAS 133), as amended by SFAS 137 and SFAS 138, effective
January 1, 2001. SFAS 133 requires that all derivative instruments (including
certain derivative instruments embedded in other contracts) be recognized in
the balance sheet at fair value, and that changes in such fair values be
recognized in earnings unless specific hedging criteria are met. Changes in the
values of derivatives that meet these hedging criteria will ultimately offset
related earnings effects of the hedged item pending recognition in earnings.
Prior to 2001, we entered into two interest rate swaps with notional amounts of
$75 million and $125 million and strike rates of 5.51% and 5.56%, respectively.
These swaps were to expire in July 2001; however, they were extended for an
additional two years at the option of the counterparty and expired in July
2003. The difference paid or received on the swap transactions was recorded as
an accrued liability and recognized in leasing expense in all periods before
July 1, 2003, and in interest expense thereafter. Because management decided
not to designate the interest rate swaps as hedges at the time they were
extended by the counterparty, we recognized an unrealized gain of approximately
$4.1 million and $1.5 million, respectively, related to the change in the fair
value of these interest rate swaps in lease expense in our statement of
operations during the nine months ended September 30, 2003 and 2002 and
recognized an unrealized gain of approximately $0.5 million in interest expense
during the three months ended September 30, 2003. Prior to July 1, 2003, these
amounts, which were reported as Change in Fair Value of Derivative Financial
Instruments in our Consolidated Statement of Operations and have been
reclassified as interest and lease expense in the attached Condensed
Consolidated Statement of Operations. The fair value of these interest rate
swaps fluctuated with changes in interest rates over their terms and the
fluctuations were recorded in our statement of operations. During the second quarter of 2001, we entered into three additional interest
rate swaps to convert variable lease payments under certain lease arrangements
to fixed payments as follows: Lease
    
    Maturity Date
    
    Strike Rate
    
    Notional AmountMarch 2000
    
    March 11, 2005
    
    
    5.2550
    %
    
    $
    100,000,000August 2000
    
    March 11, 2005
    
    
    5.2725
    %
    
    $
    100,000,000October 2000
    
    October 26, 2005
    
    
    5.3975
    %
    
    $
    100,000,000
 These three swaps, which we have designated as cash flow hedging instruments,
meet the specific hedge criteria and any changes in their fair values have been
recognized in other comprehensive income. During the nine months ended
September 30, 2003 and 2002, we recorded income of approximately $4.3 million
and a loss of $13.6 million, respectively, related to these three swaps, ($2.8
million and $8.8 million, net of tax) in other comprehensive income. As of
September 30, 2003, a total of approximately $12.2 million was recorded in
current liabilities and approximately $6.5 million in long-term liabilities
with respect to the fair value adjustment related to these three swaps. The counterparties to the interest rate swap agreements are major international
financial institutions. We continually monitor the credit quality of these
financial institutions and do not expect non-performance by any counterparty,
although such non-performance could have a material adverse effect on us. 13




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9. COMMITMENTS AND CONTINGENCIES Hanover has issued the following guarantees which are not recorded on our
accompanying balance sheet: Maximum PotentialUndiscountedPayments as ofTerm
    
    September 30, 2003(in thousands)Indebtedness of non-consolidated affiliates:Simco/Harwat Consortium (1)
    
    
    2005
    
    
    
    10,296El Furrial (1)
    
    
    2013
    
    
    
    41,027Other:Performance guarantees through letters of credit (2)
    
    
    2003-2007
    
    
    
    33,898Standby letters of credit
    
    
    2003-2004
    
    
    
    37,811Bid bonds and performance bonds (2)
    
    
    2003-2007
    
    
    
    76,290
  (1)
    
    We have guaranteed the amount included above, which is a percentage of the total debt of this non-consolidated affiliate equal to our ownership
percentage in such affiliate.(2)
    
    We have issued guarantees to third parties to ensure performance of our obligations some of which may be fulfilled by third parties. As part of the POC acquisition purchase price, Hanover may be required to make
a contingent payment to Schlumberger based on the realization of certain tax
benefits by Hanover over the next 15 years. To date we have not realized any of
such tax benefits or made any payments to Schlumberger in connection with them. Litigation and Securities and Exchange Commission Investigation Commencing in February 2002, approximately 15 putative securities class action
lawsuits were filed against us and certain of our current and former officers
and directors in the United States District Court for the Southern District of
Texas. These class actions (together with subsequently filed actions) were
consolidated into one case, Pirelli Armstrong Tire Corporation Retiree Medical
Benefits Trust, On Behalf of Itself and All Others Similarly Situated, Civil
Action No. H-02-0410, naming as defendants Hanover, Mr. Michael J. McGhan, Mr.
William S. Goldberg and Mr. Michael A. OConnor. The complaints asserted
various claims under Sections 10(b) and 20(a) of the Securities Exchange Act of
1934 and sought unspecified amounts of compensatory damages, interest and
costs, including legal fees. The court entered an order appointing Pirelli
Armstrong Tire Corporation Retiree Medical Benefits Trust and others as lead
plaintiffs on January 7, 2003 and appointed Milberg, Weiss, Bershad, Hynes &
Lerach LLP as lead counsel. On September 5, 2003, lead plaintiffs filed an
amended complaint in which they continued to seek relief under Sections 10(b)
and 20(a) of the Securities Exchange Act against Hanover, certain former
officers and directors and our auditor, PricewaterhouseCoopers LLP, on behalf
of themselves and the class of persons who purchased Hanover securities between
May 4, 1999 and December 23, 2002. Commencing in February 2002, four derivative lawsuits were filed in the United
States District Court for the Southern District of Texas, two derivative
lawsuits were filed in state district court for Harris County, Texas (one of
which was nonsuited and the second of which was removed to Federal District
Court for the Southern District of Texas) and one derivative lawsuit was filed
in the Court of Chancery for the State of Delaware in and for New Castle
County. These derivative lawsuits, which were filed by certain of our
shareholders purportedly on behalf of Hanover, alleged, among other things,
that our directors breached their fiduciary duties to shareholders and sought
unspecified amounts of damages, interest and costs, including legal fees. The
derivative lawsuits in the United States District Court for the Southern
District of Texas were consolidated on August 19 and August 26, 2002 into the
Harbor Finance Partners derivative lawsuit. With that consolidation, the
pending derivative lawsuits were: Civil Action
    
    
    
    DatePlaintiff
    
    Defendants
    
    No.
    
    Court
    
    InstitutedHarbor Finance Partners,
Derivatively on behalf of
Hanover Compressor Company
    
    Michael J. McGhan,
William S.
Goldberg, Ted
Collins, Jr.,
Robert R. Furgason,
Melvyn N. Klein,
Michael A.
OConnor, and Alvin
V. Shoemaker,
Defendants and
Hanover Compressor
Company, Nominal
Defendant
    
    H-02-0761
    
    United States
District Court for
the Southern
District of Texas
    
    03/01/02Coffelt Family,
LLC, derivatively on
behalf of Hanover
Compressor Company
    
    Michael A.
OConnor, Michael
J. McGhan, William
S. Goldberg, Ted
Collins, Jr.,
Melvyn N. Klein,
Alvin V. Shoemaker,
and Robert R.
Furgason,
Defendants and
Hanover Compressor
Company, Nominal
Defendant
    
    19410-NC
    
    Court of Chancery
for the State of
Delaware State
Court in New Castle
County
    
    02/15/02
 On October 2, 2003, the Harbor Finance Partners derivative lawsuit was
consolidated into the Pirelli Armstrong Tire Corporation Retiree Medical
Benefits Trust securities class action. On and after March 26, 2003, three plaintiffs filed separate putative class
actions against Hanover, certain named individuals and other purportedly
unknown defendants, in the United States District Court for the Southern
District of Texas. The alleged class is comprised of persons who participated
in or were beneficiaries of
The Hanover Companies Retirement and Savings Plan, which was established by
Hanover pursuant to Section 401(k) of the United States Internal Revenue Code
of 1986, as amended. The purported class action seeks relief under the Employee
Retirement Income Security Act (ERISA) based upon Hanovers and the individual
defendants alleged mishandling of Hanovers 401(k) Plan. The three ERISA
putative class actions are entitled: Kirkley v. Hanover, Case No. H-03-1155;
Angleopoulos v. Hanover, Case No. H-03-1064; and Freeman v. Hanover, Case No.
H-03-1095. On August 1, 2003, the three ERISA class actions were consolidated 14




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into the Pirelli Armstrong Tire Corporation Retiree Medical Benefits Trust
federal securities class action. On October 9, 2003, a consolidated amended
complaint was filed by the plaintiffs in the ERISA class action against
Hanover, Michael McGhan, Michael OConnor and William Goldberg , which included
the same allegations as indicated above, and was filed on behalf of themselves
and a class of persons who purchased or held Hanover securities in their 401(k)
Plan between May 4, 1999 and December 23, 2002. On October 23, 2003, we entered into a Stipulation of Settlement, which,
subject to court approval, will settle the claims underlying the securities
class actions, the ERISA class actions and the shareholder derivative actions
described above. The terms of the proposed settlement provide for us to: (i)
make a cash payment of approximately $30 million (of which $26.7 million was
funded by payments from Hanovers directors and officers insurance carriers),
(ii) issue 2.5 million shares of our common stock, and (iii) issue a contingent
note with a principal amount of $6.7 million. The note is payable, together
with accrued interest, on March 31, 2007 but can be extinguished (with no
monies owing under it) if our common stock trades at or above the average price
of $12.25 per share for 15 consecutive days at any time between March 31, 2004
and March 31, 2007. As part of the settlement, we have also agreed to implement
corporate governance enhancements, including allowing large shareholders to
participate in the process to appoint two independent directors to our Board.
Our independent auditor, PricewaterhouseCoopers LLP, is not a party to the
settlement and will continue to be a defendant in the consolidated securities
class action. GKH Investments, L.P. and GKH Private Limited (collectively GKH), which
together own approximately ten percent of Hanovers outstanding common stock
and which sold shares in the Companys March 2001 secondary offering of common
stock, are parties to the proposed settlement and have agreed to settle claims
against them that arise out of that offering as well as other potential
securities, ERISA, and derivative claims. The terms of the proposed settlement
provide for GKH to transfer 2.5 million shares of Hanover common stock from
their holdings or from other sources. In connection with this settlement, we initially recorded a pre-tax charge of
approximately $68.7 million ($54.0 million after tax) in our first quarter 2003
financial statements. This charge included approximately $42.1 million ($27.4
million after tax), net of insurance recoveries, for our contribution of cash
and estimated costs, 2.5 million Hanover common shares, and the contingent
note. The charge also included approximately $26.6 million, without tax
benefit, for 2.5 million Hanover common shares to be funded by GKH. Because
this settlement could be considered to be a related party transaction as
defined in SEC Staff Accounting Bulletin 5-T, the fair value of the Hanover
common shares to be paid by GKH was recorded as an expense in Hanovers
statement of operations. As discussed in our Quarterly Report on Form 10-Q for the three months ended
March 31, 2003, we planned to seek guidance from the Office of the Chief
Accountant of the SEC to determine whether the Hanover common shares provided
by GKH should be recorded as an expense by us. After the submission of a
detailed letter and discussions with the SEC Staff, the Staff informed us that
it would not object to GKHs portion of the settlement not being considered a
related party transaction as defined in SEC Staff Accounting Bulletin 5-T.
Accordingly, the $26.6 million charge related to the 2.5 million Hanover common
shares being paid by GKH could be reversed from our first quarter 2003
financial statements. On August 5, 2003, we filed an amendment to our Quarterly Report on Form 10-Q
for the three months ended March 31, 2003 to amend our first quarter 2003
financial statements to exclude the $26.6 million charge related to the 2.5
million Hanover common shares being funded by GKH. As a result, in our first
quarter 2003 financial statements, as amended, we recorded a pre-tax charge of
approximately $42.1 million ($27.4 million after tax), net of insurance
recoveries, for our contribution of cash and estimated costs, 2.5 million
Hanover common shares, and the contingent note. In addition, in the second quarter of 2003, we adjusted our estimate of the
settlement and recorded an additional $1.7 million charge due to the change in
the value from May 14 to June 30, 2003 of the 2.5 million Hanover common shares
contributed by us to the settlement. In the third quarter of 2003, we recorded
a reduction in the charge of $3.5 million to adjust our estimate of the
settlement due to additional change in the value of such stock since June 30,
2003. Based on the terms of the settlement agreement, we determined that a liability
related to these lawsuits was probable and that the value was reasonably
estimable. Accordingly, we evaluated the individual components of the
settlement in consideration of existing market conditions and established an
estimate for the cost of the litigation settlement. The details of this
estimate are as follows (in thousands): Second & ThirdAmended First
    
    QuarterQuarter
    
    Adjustment ToEstimated
    
    EstimatedSettlement
    
    Settlement
    
    TotalCash
    
    $
    30,050
    
    
    $
    
    
    
    $
    30,050Estimated fair value of note to be issued
    
    
    5,194
    
    
    
    
    
    
    
    5,194Common stock to be issued by Hanover
    
    
    26,600
    
    
    
    (1,850
    )
    
    
    24,750Legal fees and administrative costs
    
    
    6,929
    
    
    
    
    
    
    
    6,929Total
    
    
    68,773
    
    
    
    (1,850
    )
    
    
    66,923Less insurance recoveries
    
    
    (26,670
    )
    
    
    
    
    
    
    (26,670
    )Net estimated litigation settlement
    
    $
    42,103
    
    
    $
    (1,850
    )
    
    $
    40,253
 The $5.2 million estimated fair value of the note to be issued was based on the
present value of the future cash flows discounted at borrowing rates currently
available to us for debt with similar terms and maturities. Utilizing a
market-borrowing rate of 11%, the principal value and stipulated interest rate
required by the note of 5% per annum, an estimated discount of $1.5 million was
computed on the note to be issued. Upon the issuance of the note, the discount
will be amortized to interest expense over the term of the note. Because the
note could be extinguished without a payment (if our common stock trades at or
above the average price of $12.25 per share for 15 consecutive days at any time
between March 31, 2004 and March 31, 2007), we will be required to record an
asset in future periods for the value of the embedded
derivative, as required by SFAS 133, when the note is issued. This asset will
be marked to market in future periods with any increase or decrease included in
our statement of operations. As of September 30, 2003, our accompanying balance sheet includes a $30.2
million long-term liability pending approval by the courts and satisfaction of
certain other conditions and $34.6 million in accrued liabilities related to
amounts which are expected to be paid in the next twelve months. During the
second quarter, the $26.7 15




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million receivable from the insurance carriers and
$2.8 million of our portion of the cash settlement was paid into an escrow fund
and is included in the accompanying balance sheet as restricted cash. Upon
approval of the settlement by the court, we will record such amounts in
liabilities and stockholders equity, respectively, and will include the shares
in our outstanding shares used for earnings per share calculations. The final value of the settlement may differ significantly from the estimates
currently recorded depending on the market value of our common stock when
approved by the court and potential changes in the market conditions affecting
the valuation of the note to be issued. Additionally, the settlement is
contingent on court approval and certain other conditions. Accordingly, we will
revalue our estimate of the cost of the settlement on a quarterly basis until
the settlement is approved by the court. On July 18, 2003, the parties entered into an Amended Memorandum of
Understanding which did not alter the aggregate amount to be paid under the
settlement described above, but in which the counsel for the named plaintiffs
in the Angleopoulos and the Freeman ERISA class actions agreed to become
parties to the settlement. As partial consideration therefore, it was agreed
that an additional $0.8 million (for a total of $1.8 million) from the
settlement fund that was previously designated for relief for the securities
class actions would be reallocated to provide relief in connection with the
ERISA class actions. On October 13, 2003, the parties entered into a Second
Amended and Restated Memorandum of Understanding that included an additional
$225,000 contribution to the settlement (to be funded equally by Hanover and
GKH) and by which counsel in the Harbor Finance derivative action became a
party to the settlement. As part of this arrangement, Hanover agreed to certain
additional governance procedures including certain enhancements to its code of
conduct. On October 23, 2003, the parties to the Second Amended and Restated Memorandum
of Understanding entered into a Stipulation of Settlement which, subject to
court approval, will fully and finally resolve all of the securities class
actions, ERISA class actions and shareholder derivative actions filed against
Hanover and certain other individuals. PricewaterhouseCoopers LLP is not a
party to the Stipulation of Settlement and will remain a defendant in the
federal securities class action. On October 24, 2003, the parties moved the
court for preliminary approval of the proposed settlement and sought permission
to provide notice to the potentially affected persons and to set a date for a
final hearing to approve the proposed settlement. The settlement, therefore,
remains subject to court approval and could be the subject of an objection by
potentially affected persons. On November 14, 2002, the SEC issued a Formal Order of Private Investigation
relating to the transactions underlying and other matters relating to the
restatements of our financial statements announced in 2002. We have cooperated
with the Fort Worth District Office Staff of the SEC in its investigation.
Based upon our discussions to date with the Fort Worth District Office Staff of
the SEC, we currently believe that a settlement of the investigation will be
reached on terms that we do not believe will have a material adverse impact on
our business, consolidated financial position, results of operations or cash
flows. However, we can give no assurances in this regard, and we expect any
settlement with the SEC to include findings of violations of the securities
laws by us with respect to certain of the restated transactions. We understand
that any resolution of the investigation reached by us with the Fort Worth
District Office Staff of the SEC will have no legal effect until it is reviewed
and, if appropriate, approved by the SEC in Washington, D.C., and we cannot
predict what action might ultimately be taken against us by the SEC. As such,
we do not anticipate announcing any resolution of the investigation unless and
until such resolution is approved by the SEC in Washington, D.C. As of September 30, 2003, we had incurred approximately $14.0 million in legal
related expenses in connection with the internal investigations, the putative
class action securities lawsuits, the derivative lawsuit and the SEC
investigation. Of this amount, we advanced approximately $2.2 million on behalf
of current and former officers and directors in connection with the above-named
proceedings. We intend to advance the litigation costs of our officers and
directors, subject to the limitations imposed by Delaware and other applicable
law and Hanovers certificate of incorporation and bylaws. We expect to incur
approximately $4.4 million in additional legal fees and administrative expenses
in connection with the settlement of the securities-related litigation, the SEC
investigation and advances on behalf of current and former officers and
directors for legal fees. On June 25, 1999, we notified the Air Quality Bureau of the Environmental
Protection Division, New Mexico Environment Department of potential violations
of regulatory and permitting requirements. The violations included failure to
conduct required performance tests, failure to file required notices and
failure to pay fees for compressor units located on sites for more than one
year. We promptly paid the required fees and corrected the violations. On June
12, 2001, after the violations had been corrected, the Director of the Division
issued a compliance order to us in connection with the alleged violations. The
compliance order assessed a civil penalty of $15,000 per day per regulatory
violation and permit; no total penalty amount was proposed in the compliance
order. On October 3, 2003, the Division notified us that the total proposed
penalty would be $759,072. However, since the alleged violations had been
self-disclosed, that amount was reduced to $189,768. We expect to respond to
the penalty assessment, challenging some of the calculations, and will propose
an alternative settlement amount, which we expect to be less than $100,000. In the ordinary course of business we are involved in various other pending or
threatened legal actions, including environmental matters. While management is
unable to predict the ultimate outcome of these actions, it believes that any
ultimate liability arising from these actions will not have a material adverse
effect on our consolidated financial position, results of operations or cash
flows. 10. RELATED-PARTY TRANSACTIONS In connection with the restatements announced by Hanover in 2002, certain
present and former officers and directors have been named as defendants in
putative stockholder class actions, stockholder derivative actions and have
been involved with the investigation being conducted by the Staff of the SEC.
Pursuant to the indemnification provisions of our certificate of incorporation
and bylaws, we paid legal fees on behalf of certain employees, officers and
directors involved in these proceedings. In connection with these proceedings,
we advanced, on behalf of indemnified officers and directors, during 2002 and
the first nine months of 2003, $1.1 million and $1.1 million, respectively, in
the aggregate. During 2002, $0.4 million was advanced on behalf of former director and officer
William S. Goldberg; $0.3 million was advanced on behalf of former director and
officer Michael J. McGhan; $0.1 million was advanced on behalf of former
officer Charles D. Erwin; $0.1 million was advanced on behalf of former officer
Joe S. Bradford; $0.1 million was advanced on behalf of directors Ted Collins,
Jr., Robert R. Furgason, Rene Huck (former director), Melvyn N. Klein, Michael
A. OConnor (former director), and Alvin V. Shoemaker, who were elected prior
to 2002; and $0.1 million was advanced on behalf of directors I. Jon Brumley,
Victor E. Grijalva, and Gordon T. Hall who were elected during 2002. During 2003, $0.3 million was advanced on behalf of former director and officer
William S. Goldberg; $0.2 million was advanced on behalf of former director and
officer Michael J. McGhan; $0.1 million was advanced on behalf of former
officer Charles D. Erwin; $0.1 million was advanced on behalf of former officer
Joe S. Bradford; and $0.4 million was advanced on behalf of various employees
of the Company. In 2001, the Company advanced cash of $2.2 million in return for promissory
notes to Michael J. McGhan, Hanovers former president and chief executive
officer who resigned on August 1, 2002. The notes bore interest at 4.88%,
matured on April 11, 2006, and were collateralized by personal real estate and
Hanover common stock with full recourse. On May 19, 2003, Mr. McGhan paid in
full the $2.2 million loan together with the applicable accrued interest. 16




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On May 14, 2003, Hanover entered into agreements with Schlumberger to terminate
our right to put our interest in the PIGAP II joint venture, to restructure a
$150 million subordinated promissory note and to modify the repayment terms of
a $58 million obligation (see Notes 5 and 14). On July 30, 2003, the Companys subsidiary, Hanover Compression Limited
Partnership (HCLP) entered into a Membership Interest Redemption Agreement
pursuant to which its 10% interest in Energy Transfer Group, LLC (ETG) was
redeemed, and as a result HCLP withdrew as a member of ETG. In consideration
for the surrender of HCLPs 10% membership interest in ETG, pursuant to a
Partnership Interest Purchase Agreement dated as of July 30, 2003, subsidiaries
of ETG sold to subsidiaries of the Company their entire 1% interest in Energy
Transfer Hanover Ventures, L.P. (Energy Ventures). As a result of the
transaction, the Company now owns, indirectly, 100% of Energy Ventures. The
Companys 10% interest in ETG was carried on the Companys books for no value.
Ted Collins, Jr., a Director of the Company, owns 100% of Azalea Partners,
which in turn owns 13% of ETG. 11. NEW ACCOUNTING PRONOUNCEMENTS In June 2001, the FASB issued SFAS 143, Accounting for Obligations Associated
with the Retirement of Long-Lived Assets (SFAS 143). SFAS 143 establishes
the accounting standards for the recognition and measurement of an asset
retirement obligation and its associated asset retirement cost. This statement
became effective for Hanover on January 1, 2003. The adoption of this new
standard did not have a material effect on our consolidated results of
operations, cash flows or financial position. In April 2002, the FASB issued SFAS 145, Rescission of FASB Statements 4, 44,
and 64, Amendment of FASB Statement No. 13, and Technical Corrections (SFAS
145). The Statement updates, clarifies and simplifies existing accounting
pronouncements. Provisions of SFAS 145 related to the rescission of Statement 4
became effective for us on January 1, 2003. The provisions of SFAS 145 related
to SFAS 13 are effective for transactions occurring after May 15, 2002. We have
adopted the provisions of the new standard, which had no material effect on our
consolidated results of operations, cash flows or financial position. In June 2002, the FASB issued SFAS 146, Accounting for Costs Associated with
Exit or Disposal Activities (SFAS 146), which addresses accounting for
restructuring and similar costs. SFAS 146 supersedes previous accounting
guidance, principally Emerging Issues Task Force Issue (EITF) No. 94-3. We
adopted the provision of SFAS 146 for restructuring activities initiated after
December 31, 2002, which had no material effect on our financial statements.
SFAS 146 requires that the liability for costs associated with an exit or
disposal activity be recognized when the liability is incurred. Under EITF No.
94-3, a liability for an exit cost was recognized at the date of the commitment
to an exit plan. SFAS 146 also establishes that the liability should initially
be measured and recorded at fair value. Accordingly, SFAS 146 may affect the
timing of recognizing future restructuring costs as well as the amounts
recognized. In November 2002, the EITF reached a consensus on Issue No. 00-21, Revenue
Arrangements with Multiple Deliverables (EITF 00-21). EITF 00-21 addresses
certain aspects of the accounting by a vendor for arrangements under which the
vendor will perform multiple revenue generating activities. EITF 00-21 became
effective for interim periods beginning after June 15, 2003. We have adopted
the provisions of EITF 00-21, which did not have a material effect on our
consolidated results of operations, cash flow or financial position. In November 2002, the FASB issued Interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others, which clarifies disclosure and
recognition/measurement requirements related to certain guarantees. The
disclosure requirements are effective for financial statements issued after
December 15, 2002 and the recognition/measurement requirements are effective on
a prospective basis for guarantees issued or modified after December 31, 2002.
The adoption of the provisions of this interpretation did not have a material
effect on our consolidated results of operations, cash flow or financial
position. In December 2002, the FASB issued Statement of SFAS 148, Accounting for
Stock-Based CompensationTransition and Disclosure (SFAS 148). SFAS 148
amends SFAS 123, Accounting for Stock-Based Compensation (SFAS 123), to
provide alternative methods of transition for a voluntary change to the fair
value-based method of accounting for stock-based employee compensation. In
addition, SFAS 148 amends the disclosure requirements of SFAS 123 to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of
the method used on reported results. The transition guidance and annual
disclosure provisions of SFAS 148 were effective for fiscal years ending after
December 15, 2002. The interim disclosure provisions are effective for
financial reports containing financial statements for interim periods beginning
after December 15, 2002. We have adopted the disclosure provisions that are
included within these financial statements. In January 2003, the FASB issued FIN 46. The primary objectives of FIN 46 are
to provide guidance on the identification of entities for which control is
achieved by means other than through voting rights (variable interest
entities or VIEs) and the determination of when and which business
enterprise should consolidate the VIE in its financial statements (the primary
beneficiary). This new model for consolidation applies to an entity in which
either (i) the equity investors (if any) do not have a controlling financial
interest or (ii) the equity investment at risk is insufficient to finance that
entitys activities without receiving additional subordinated financial support
from other parties. In addition, FIN 46 requires that both the primary
beneficiary and all other enterprises with a significant variable interest in a
VIE make additional disclosures. On October 8, 2003, the FASB provided a
deferral of the latest date by which all public companies must adopt FIN 46.
The deferral provides that FIN 46 be applied, at the latest, to the first
reporting period ending after December 15, 2003, to variable interest entities
in which an enterprise holds a variable interest that it acquired before
February 1, 2003. In addition, the deferral allowed companies to elect to adopt
early the provisions of FIN 46 for some but not all of the variable interest
they hold. Prior to July 1, 2003, we entered into five lease transactions that were
recorded as a sale and leaseback of the compression equipment and were treated
as operating leases for financial reporting purposes. On July 1, 2003, we
adopted the provisions of FIN 46 as they relate to the special purpose entities
that lease compression equipment to us. As a result of the adoption, we added
approximately $1,089 million in compressor equipment assets, $192.3 million of
accumulated depreciation (including approximately $58.6 million of accumulated
depreciation related to periods before the sale and leaseback of the
equipment), $1,105.0 million in debt and $34.6 million in minority interest
obligations to our balance sheet, and we reversed $108.8 million of deferred
gains that were recorded on our balance sheet as a result of the sale leaseback
transactions. On July 1, 2003, we recorded a $133.7 million charge ($86.9
million net of tax) to record the cumulative effect from the adoption of
FIN 46 related to prior period depreciation of the compression equipment
assets. Additionally, we estimate that, after adoption, we will record
approximately $17 million per year in additional depreciation expense on our
leased compression equipment as a result of the inclusion of the compression
equipment on our balance sheet and will also record the payments made under our
compression equipment leases as interest expense. As of September 30, 2003, the
compression assets that are owned by the entities that lease equipment to us
but are now included in property, plant and equipment in our consolidated
financial statements had a net book value of approximately $983.3 million,
including improvements made to these assets after the sale leaseback
transactions. 17




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##### Table of Contents



We have a consolidated subsidiary trust that has Mandatorily Redeemable
Preferred Securities outstanding which have a liquidation value of $86.3
million. These securities are reported on our balance sheet as Mandatorily
Redeemable Convertible Preferred Securities. The trust may be a VIE under FIN
46 because we only have a limited ability to make decisions about its
activities and we may not be the primary beneficiary of the trust. If the trust
is a VIE under FIN 46, the trust and the Mandatorily Redeemable Preferred
Securities issued by the trust may no longer be reported on our balance sheet.
Instead, we would report our subordinated notes payable to the trust as a
liability. These intercompany notes have previously been eliminated in our
consolidated financial statements. The above-described changes on our balance
sheet would be reclassifications. Because we are still evaluating whether we
will be required to make these reclassifications and other potential changes in
connection with our adoption of FIN 46, if any, we have not adopted the
provisions of FIN 46 other than for the entities that lease compression
equipment to us, as discussed above. In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities (SFAS 149). This Statement
amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities under SFAS 133, Accounting for Derivative
Instruments and Hedging Activities. This Statement is effective for contracts
entered into or modified after June 30, 2003 and for hedging relationships
designated after June 30, 2003. All provisions of this Statement will be
applied prospectively. We have adopted the provisions SFAS 149, which did not
have a material effect on our consolidated results of operations, cash flow or
financial position. In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity (SFAS 150).
The Statement changes the accounting for certain financial instruments that,
under previous guidance, issuers could account for as equity. The new Statement
requires that those instruments be classified as liabilities in statements of
financial position. This Statement is effective for financial instruments
entered into or modified after May 31, 2003, and otherwise is effective for
interim periods beginning after June 15, 2004. On November 7, the FASB issued
Staff Position 150-4 that delayed the effective date for certain types of
financial instruments. We do not believe the adoption of the guidance currently
provided in SFAS 150 will have a material effect on our consolidated results of
operations or cash flow. However, we may be required to classify as debt
approximately $34.6 million in sale leaseback obligations that are currently
reported as Minority interest on our Condensed Consolidated Balance Sheet
pursuant to FIN 46 (see Note 6). These Minority interest obligations represent
the equity of the entities that lease compression equipment to us. In
accordance with the provisions of our compression equipment lease obligations,
the equity certificate holders are entitled to quarterly or semi-annual yield
payments on the aggregate outstanding equity certificates. As of September 30,
2003, the yield rates on the outstanding equity certificates ranged from 4.4%
to 9.5%. Equity certificate holders may receive a return of capital payment
upon lease termination or our purchase of the leased compression equipment
after full payment of all debt obligations of the entities that lease
compression equipment to us. At September 30, 2003, the carrying value of the
minority interest obligations approximated the fair market value of assets that
would be required to be transferred to redeem the minority interest
obligations. 12. REPORTABLE SEGMENTS We manage our business segments primarily based upon the type of product or
service provided. We have five principal industry segments: Domestic Rentals;
International Rentals; Parts, Service and Used Equipment; Compressor and
Accessory Fabrication; and Production and Processing Equipment Fabrication. The
Domestic and International Rentals segments primarily provide natural gas
compression and production and processing equipment rental and maintenance
services to meet specific customer requirements on Hanover-owned assets. The
Parts, Service and Used Equipment segment provides a full range of services to
support the surface production needs of customers from installation and normal
maintenance and services to full operation of a customers owned assets and
surface equipment as well as sales of used equipment. The Compressor and
Accessory Fabrication Segment involves the design, fabrication and sale of
natural gas compression units and accessories to meet unique customer
specifications. The Production and Processing Equipment Fabrication Segment
designs, fabricates and sells equipment used in the production and treating of
crude oil and natural gas and engineering, procurement and construction of
heavy wall reactors for refineries and desalination plants. We evaluate the performance of our segments based on segment gross profit.
Segment gross profit for each segment includes direct operating expenses. Costs
excluded from segment gross profit include selling, general and administrative,
depreciation and amortization, leasing, interest, foreign currency translation,
provision for estimated cost of litigation settlement, goodwill impairment,
other expenses and income taxes. Amounts defined as Other include equity in
income of nonconsolidated affiliates, results of other insignificant operations
and corporate related items primarily related to cash management activities.
Revenues include sales to external customers and intersegment sales.
Intersegment sales are accounted for at cost, except for compressor fabrication
sales which are accounted for on an arms length basis. Intersegment sales and
any resulting profits are eliminated in consolidation. Identifiable assets are
tangible and intangible assets that are identified with the operations of a
particular segment or geographic region, or which are allocated when used
jointly. The following tables present sales and other financial information by industry
segment for the three months ended September 30, 2003 and 2002. Parts,service
    
    

    ProductionDomestic
    
    International
    
    and used
    
    Compressor

    equipmentrentals
    
    rentals
    
    equipment
    
    fabrication

    fabrication
    
    Other
    
    Eliminations
    
    Consolidated(in thousands)September 30, 2003:Revenues from external customers
    
    $
    82,823
    
    
    $
    49,519
    
    
    $
    45,581
    
    
    $
    24,039
    

    $
    65,202
    
    
    $
    8,033
    
    
    $
    
    
    

    $
    275,197Intersegment sales
    
    
    
    
    
    
    4,785
    
    
    
    14,100
    
    
    
    5,569
    

    
    4,658
    
    
    
    
    
    
    
    (29,112
    )
    
    
    Total revenues
    
    
    82,823
    
    
    
    54,304
    
    
    
    59,681
    
    
    
    29,608
    

    
    69,860
    
    
    
    8,033
    
    
    
    (29,112
    )
    
    
    275,197Gross profit
    
    
    50,990
    
    
    
    31,762
    
    
    
    10,274
    
    
    
    1,692
    

    
    6,107
    
    
    
    8,033
    
    
    
    
    
    
    
    108,858Identifiable assets (restated)
    
    
    1,589,273
    
    
    
    823,688
    
    
    
    71,982
    
    
    
    86,922
    

    
    222,105
    
    
    
    213,812
    
    
    
    
    
    
    
    3,007,782September 30, 2002:Revenues from external customers
    
    $
    80,818
    
    
    $
    53,915
    
    
    $
    47,597
    
    
    $
    26,783
    

    $
    35,022
    
    
    $
    5,232
    
    
    $
    
    
    
    $
    249,367Intersegment sales
    
    
    
    
    
    
    341
    
    
    
    7,728
    
    
    
    11,671
    

    
    1,847
    
    
    
    4,511
    
    
    
    (26,098
    )
    
    
    Total revenues
    
    
    80,818
    
    
    
    54,256
    
    
    
    55,325
    
    
    
    38,454
    

    
    36,869
    
    
    
    9,743
    
    
    
    (26,098
    )
    
    
    249,367Gross profit
    
    
    49,688
    
    
    
    40,049
    
    
    
    12,361
    
    
    
    3,539
    

    
    6,766
    
    
    
    5,232
    
    
    
    
    
    
    
    117,635Identifiable assets
    
    
    906,727
    
    
    
    738,315
    
    
    
    128,282
    
    
    
    100,437
    

    
    136,352
    
    
    
    198,505
    
    
    
    
    
    
    
    2,208,618
 18




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##### Table of Contents



The following tables present sales and other financial information by industry
segment for the nine months ended September 30, 2003 and 2002. Parts,service
    
    
    
    ProductionDomestic
    
    International
    
    and used
    
    Compressor
    
    equipmentrentals
    
    rentals
    
    equipment
    
    fabrication
    
    fabrication
    
    Other
    
    Eliminations
    
    Consolidated(in thousands)September 30, 2003:Revenues from external customers
    
    $
    241,728
    
    
    $
    151,973
    
    
    $
    118,327
    
    
    $
    81,839
    
    
    $
    211,152
    
    
    $
    20,229
    
    
    $
    
    
    
    $
    825,248Intersegment sales
    
    
    
    
    
    
    14,020
    
    
    
    54,673
    
    
    
    10,190
    
    
    
    17,643
    
    
    
    
    
    
    
    (96,526
    )
    
    
    Total revenues
    
    
    241,728
    
    
    
    165,993
    
    
    
    173,000
    
    
    
    92,029
    
    
    
    228,795
    
    
    
    20,229
    
    
    
    (96,526
    )
    
    
    825,248Gross profit
    
    
    147,685
    
    
    
    104,291
    
    
    
    32,546
    
    
    
    7,889
    
    
    
    22,350
    
    
    
    20,229
    
    
    
    
    
    
    
    334,990September 30, 2002:Revenues from external customers
    
    $
    249,276
    
    
    $
    143,612
    
    
    $
    172,826
    
    
    $
    85,284
    
    
    $
    99,771
    
    
    $
    16,344
    
    
    $
    
    
    
    $
    767,113Intersegment sales
    
    
    
    
    
    
    1,057
    
    
    
    39,689
    
    
    
    56,625
    
    
    
    8,211
    
    
    
    8,397
    
    
    
    (113,979
    )
    
    
    Total revenues
    
    
    249,276
    
    
    
    144,669
    
    
    
    212,515
    
    
    
    141,909
    
    
    
    107,982
    
    
    
    24,741
    
    
    
    (113,979
    )
    
    
    767,113Gross profit
    
    
    159,918
    
    
    
    103,757
    
    
    
    28,922
    
    
    
    11,400
    
    
    
    15,442
    
    
    
    16,344
    
    
    
    
    
    
    
    335,783
 13. DISCONTINUED OPERATIONS During 2002, Hanovers Board of Directors approved managements plan to dispose
of our non-oilfield power generation projects, which were part of our domestic
rental business, and certain used equipment businesses, which were part of our
parts and service business. These disposals meet the criteria established for
recognition as discontinued operations under SFAS 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, (SFAS 144). SFAS 144
specifically requires that such amounts must represent a component of a
business composed of operations and cash flows that can be clearly
distinguished, operationally and for financial reporting purposes, from the
rest of the entity. These businesses have been reflected as discontinued
operations in our statement of operations for the periods ended September 30,
2003 and 2002. We believe we will sell the majority of these assets during the
remainder of 2003 or early in 2004 and the assets and liabilities are reflected
as assets held for sale on our balance sheet. Summary of operating results of the discontinued operations (in thousands): Three Months
    
    Nine MonthsEnded
    
    EndedSeptember 30,
    
    September 30,2003
    
    2002
    
    2003
    
    2002Revenues and other:Domestic rentals
    
    $
    1,018
    
    
    $
    1,126
    
    
    $
    4,394
    
    
    $
    1,126Parts, service and used equipment
    
    
    5,468
    
    
    
    4,970
    
    
    
    12,755
    
    
    
    15,187Equity in income of non-consolidated affiliates
    
    
    
    
    
    
    
    
    
    
    550
    
    
    
    Other
    
    
    16
    
    
    
    (192
    )
    
    
    (77
    )
    
    
    (40
    )6,502
    
    
    
    5,904
    
    
    
    17,622
    
    
    
    16,273Expenses:Domestic rentals
    
    
    179
    
    
    
    196
    
    
    
    972
    
    
    
    196Parts, service and used equipment
    
    
    3,575
    
    
    
    3,653
    
    
    
    8,334
    
    
    
    9,679Selling, general and administrative
    
    
    1,425
    
    
    
    2,361
    
    
    
    5,380
    
    
    
    6,223Depreciation and amortization
    
    
    
    
    
    
    707
    
    
    
    
    
    
    
    874Interest expense
    
    
    196
    
    
    
    216
    
    
    
    796
    
    
    
    216Other
    
    
    
    
    
    
    5
    
    
    
    371
    
    
    
    155,375
    
    
    
    7,138
    
    
    
    15,853
    
    
    
    17,203Income (loss) from discontinued operations before income taxes
    
    
    1,127
    
    
    
    (1,234
    )
    
    
    1,769
    
    
    
    (930
    )Provision for (benefit from) income taxes
    
    
    366
    
    
    
    (434
    )
    
    
    591
    
    
    
    (324
    )Income (loss) from discontinued operations
    
    $
    761
    
    
    $
    (800
    )
    
    $
    1,178
    
    
    $
    (606
    )
 19




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##### Table of Contents



Summary balance sheet data for discontinued operations as of September 30, 2003
(in thousands): Non-OilfieldUsed
    
    PowerEquipment
    
    Generation
    
    TotalCurrent assets
    
    $
    9,685
    
    
    $
    10,724
    
    
    $
    20,409Property, plant and equipment
    
    
    901
    
    
    
    1,384
    
    
    
    2,285Non-current assets
    
    
    
    
    
    
    2
    
    
    
    2Assets held for sale
    
    
    10,586
    
    
    
    12,110
    
    
    
    22,696Current liabilities
    
    
    
    
    
    
    957
    
    
    
    957Liabilities held for sale
    
    
    
    
    
    
    957
    
    
    
    957Net assets held for sale
    
    $
    10,586
    
    
    $
    11,153
    
    
    $
    21,739
 Loss from the write-downs of discontinued operations was $10.9 million during
the three months ended September 30, 2003 and include approximately $5.6
million in write-downs for power generation assets and $5.3 million in
write-downs related to our used equipment businesses. During the nine months
ended September 30, 2003, loss from the write-downs of discontinued operations
were $12.6 million including approximately $7.3 million related to power
generation and $5.3 million related to used equipment businesses. During the
nine months ended September 30, 2002, loss from the write-downs of discontinued
operations were $3.9 million related to our power generation assets. The losses
relate to write-downs of our discontinued operations to their estimated market
value. In May 2003, we announced that we had agreed to sell our 49% membership
interest in Panoche and our 92.5% membership interest in Gates to Hal Dittmer
and Fresno Power Investors Limited Partnership, who currently own the remaining
interests in Panoche and Gates. Panoche and Gates own gas-fired peaking power
plants of 49 megawatts and 46 megawatts, respectively. The Panoche transaction
closed in June 2003 and the Gates transaction closed in September 2003. Total
consideration for the transactions was approximately $27.2 million consisting
of approximately $6.4 million in cash, $2.8 million in notes that mature in May
2004, a $0.5 million note that matures in September 2005 and the release of our
obligations under a capital lease from GE Capital to Gates that had an
outstanding balance of approximately $17.5 million at the time of the Gates
closing. In addition, we were released from a $12 million letter of credit from
us to GE Capital that was provided as additional credit support for the Gates
capital lease. 14. SUBSEQUENT EVENT In October 2003, our PIGAP II joint venture, which repressurizes oil fields in
eastern Venezuela for Petroleos de Venezuela, S.A., closed a $230 million
project financing that is non-recourse to Hanover. Proceeds from the loan were
used to repay Williams and Hanover, based on their respective ownership
percentages, for the initial funding of construction-related costs. We own 30%
of the project and received approximately $78.5 million from the financing and
a distribution of earnings from the project of which approximately $59.9
million was used to pay off the PIGAP Note described in Note 5. 15. RESTATEMENT During the performance of our annual goodwill impairment review in the fourth
quarter of 2003, we determined the present value of Bellelis expected future
cash flows was less than our carrying value of Belleli. This resulted in a full
impairment charge for the $35.5 million in goodwill associated with Belleli.
Upon further analysis, it was determined that the factors resulting in the
goodwill impairment charge were also present during the third quarter of 2003
and that the exercise of our purchase option in the third quarter of 2003 and
the presence of such factors should have resulted in an interim goodwill
impairment test under Statement of Financial Accounting Standards 142, Goodwill
and Other Intangible Assets (SFAS 142) and an impairment charge at that time.
Our financial results previously reported for the third quarter of 2003 did not
include the impairment charge. The table below indicates the impact of this
adjustment (in thousands): Three Months Ended
    
    Nine Months EndedSeptember 30, 2003
    
    September 30, 2003as reported
    
    as restated
    
    as reported
    
    as restatedRevenue
    
    $
    275,197
    
    
    $
    275,197
    
    
    $
    825,248
    
    
    $
    825,248Gross profit
    
    
    108,858
    
    
    
    108,858
    
    
    
    334,990
    
    
    
    334,990Income (loss) before cumulative
effect of accounting changes
    
    
    (23,043
    )
    
    
    (58,509
    )
    
    
    (49,435
    )
    
    
    (84,901
    )Net income (loss)
    
    
    (109,953
    )
    
    
    (145,419
    )
    
    
    (136,345
    )
    
    
    (171,811
    )Earnings (loss) per common and
common equivalent share:Basic:Income (loss)
before cumulative
effect of
accounting changes
    
    $
    (0.28
    )
    
    $
    (0.72
    )
    
    $
    (0.62
    )
    
    $
    (1.05
    )Net income (loss)
    
    $
    (1.35
    )
    
    $
    (1.79
    )
    
    $
    (1.69
    )
    
    $
    (2.12
    )Diluted:Income (loss)
before cumulative
effect of
accounting changes
    
    $
    (0.28
    )
    
    $
    (0.72
    )
    
    $
    (0.62
    )
    
    $
    (1.05
    )Net income (loss)
    
    $
    (1.35
    )
    
    $
    (1.79
    )
    
    $
    (1.69
    )
    
    $
    (2.12
    )
 20




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ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS Certain matters discussed in this Quarterly Report on Form 10-Q/A-2 are
forward-looking statements intended to qualify for the safe harbors from
liability established by the Private Securities Litigation Reform Act of 1995
and Section 21E of the Securities Exchange Act of 1934. These forward-looking
statements can generally be identified as such because of the context of the
statement or because the statement may include words such as believes,
anticipates, expects, estimates or words of similar import. Similarly,
statements that describe our future plans, objectives or goals or future
revenues or other financial metrics are also forward-looking statements. Such
forward-looking statements are subject to certain risks and uncertainties that
could cause our actual results to differ materially from those anticipated as
of the date of this report. These risks and uncertainties include:  
    
    our inability to renew our short-term leases of equipment with our customers so as to fully recoup our cost of the equipment;
    
    a prolonged, substantial reduction in oil and natural gas prices, which could cause a decline in the demand for our compression and oil and natural gas
production equipment;
    
    reduced profit margins resulting from increased pricing pressure in our business;
    
    the loss of market share through competition;
    
    the introduction of competing technologies by other companies;
    
    changes in economic or political conditions in the countries in which we do business;
    
    currency fluctuations;
    
    losses due to the inherent risks associated with our operations, including equipment defects, malfunctions and failures and natural disasters;
    
    governmental safety, health, environmental and other regulations, which could require us to make significant expenditures;
    
    legislative changes in the countries in which we do business;
    
    our inability to successfully integrate acquired businesses;
    
    our inability to properly implement new enterprise resource planning systems used for integration of our accounting, operations and information systems;
    
    our inability to retain key personnel;
    
    war, social unrest, terrorist attacks and/or the responses thereto;
    
    our inability to generate sufficient cash, access capital markets or incur indebtedness to fund our business;
    
    our inability to comply with covenants in our debt agreements and the agreements related to our compression equipment lease obligations;
    
    the decreased financial flexibility associated with our significant cash requirements and substantial debt and compression equipment lease obligations;
    
    our inability to reduce our debt relative to our total capitalization;
    
    our inability to execute our exit and sale strategy with respect to assets classified on our balance sheet as discontinued operations and held for sale;
    
    our inability to conclude the agreed-upon settlement of the securities-related litigation and adverse results in other litigation brought by plaintiffs
that are not party to the settlement;
    
    fluctuations in our net income attributable to changes in the fair value of our common stock which will be used to fund the settlement of the
securities-related litigation; and
    
    adverse results in the pending investigation by the Securities and Exchange Commission (SEC). 21




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Other factors besides those described in this Form 10-Q/A-2 could also affect
our actual results. You should not unduly rely on the forward-looking
statements contained in this Form 10-Q/A-2, which speak only as of the date of
this Form 10-Q/A-2. Except as otherwise required by law, we undertake no
obligation to publicly revise any forward-looking statement to reflect
circumstances or events after the date of this Form 10-Q/A-2 or to reflect the
occurrence of unanticipated events. You should, however, review the factors and
risks we describe in our Annual Report on Form 10-K for the year ended December
31, 2002 and the reports we file from time to time with the SEC after the date
of this Form 10-Q/A-2. All forward-looking statements attributable to the
Company are expressly qualified in their entirety by this cautionary statement. GENERAL Hanover Compressor Company (Hanover, we, us, our or the Company), a
Delaware corporation, together with its subsidiaries, is a global market leader
in full service natural gas compression and a leading provider of service,
fabrication and equipment for oil and natural gas processing and transportation
applications. We sell this equipment and provide it on a rental, contract
compression, maintenance and acquisition leaseback basis to oil and natural gas
production, processing and transportation companies. Founded in 1990, and a
public company since 1997, our customers include both major and independent oil
and gas producers and distributors as well as national oil and gas companies in
the countries in which we operate. Our maintenance business, together with our
parts and service business, provides solutions to customers that own their own
compression equipment, but want to outsource their operations. We also
fabricate compressor and oil and gas production and processing equipment and
provide gas processing and treating, gas measurement and oilfield power
generation services, primarily to our domestic and international customers as a
complement to our compression services. In addition, through our ownership of
Belleli Energy S.r.l. (Belleli), we provide engineering, procurement and
construction services primarily related to the manufacturing of heavy wall
reactors for refineries and construction of desalination plants primarily for
use in Europe and the Middle East. We have grown through both internal growth and acquisitions. During 2003, we
have been reducing our capital spending and are focusing on completing the
integration of recent acquisitions. In addition, we previously announced our
plan to reduce our headcount by approximately 500 employees worldwide and to
consolidate our fabrication operations into nine fabrication centers down from
the 13 fabrication centers we had as of December 31, 2002. The estimated
annualized savings from these actions are expected to be approximately $18
million. Some of these cost reductions were needed to align our costs with
current sales levels. During the three months ended December 31, 2002, we
accrued approximately $2.8 million in employee separation costs related to the
reduction in workforce. During the nine months ended September 30, 2003, we
paid approximately $1.3 million in separation benefits. Since December 31,
2002, our workforce has decreased by approximately 500 employees. However, some
of this workforce reduction was outside of our original headcount reduction
plan and we are continuing to focus on the further consolidation of our
fabrication operations. RESULTS OF OPERATIONS THREE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 2002 REVENUES Our total revenues increased by $25.8 million, or 10%, to $275.2 million during
the three months ended September 30, 2003 from $249.4 million during the three
months ended September 30, 2002. The increase resulted primarily from the
inclusion of $27.3 million in revenues from Belleli which, beginning in
November 2002, are included as part of our production and processing equipment
business. In July 2002, we increased our ownership of Belleli to 40.3% from
20.3% by converting a $4.0 million loan, together with accrued interest
thereon, to Belleli into additional equity ownership. In November 2002, we
increased our ownership to 51% by exchanging a $9.4 million loan, together with
accrued interest thereon, to the other principal owner of Belleli for
additional equity ownership and began consolidating the results of Bellelis
operations. In August 2003, we exercised our option to purchase the remaining
interest of Belleli for approximately $15.0 million in cash. The increase in
revenues related to the inclusion of Belleli was partially offset by a decrease
in our revenues from our international rental business. The North American rig count increased by 30% to 1,441 at September 30, 2003
from 1,110 at September 30, 2002, and the twelve-month rolling average North
American rig count increased by 15% as of September 30, 2003 to 1,307 from
1,135 at September 30, 2002. In addition, the twelve-month rolling average New
York Mercantile Exchange wellhead natural gas price increased to $5.24 per Mcf
at September 30, 2003 from $2.10 per Mcf at September 30, 2002. Despite the
increase in natural gas prices and the recent increase in rig count, U.S.
natural gas production levels have not significantly changed. We have not
experienced an improvement in purchases of equipment and services by our
customers, which we believe is a result of the lack of a significant increase
in U.S. natural gas production levels. Revenues from domestic rentals increased by $2.0 million, or 2%, to $82.8
million during the three months ended September 30, 2003, from $80.8 million
during the three months ended September 30, 2002. The increase in revenue from
domestic rentals was primarily attributable to the impact of selective price
increases and a slight recent improvement in the market conditions for our
domestic compression business. At both September 30, 2003 and 2002, our
domestic compression horsepower utilization rate was approximately 75%. International rental revenues decreased by $4.4 million, or 8%, to $49.5
million during the three months ended September 30, 2003 from $53.9 million
during the three months ended September 30, 2002. The decrease was primarily
attributable to the inclusion in rental revenues for the three months ended
September 30, 2002 of approximately $7.9 million of partial reimbursements
received from the renegotiation of our contracts with our Argentine customers
discussed below. Excluding the 2002 reimbursement received from Argentine
customers, our 2003 revenues increased by $3.5 million due to the expansion of
our international rental fleet. At both September 30, 2003 and 2002, our
international compression horsepower utilization rate was approximately 94%. At September 30, 2003, our compressor rental fleet consisted of approximately
3,508,000 horsepower, a 3% decrease from the approximately 3,621,000 horsepower
in the rental fleet at September 30, 2002. Domestic horsepower in our rental
fleet decreased by 7% to approximately 2,583,000 horsepower at September 30,
2003 from approximately 2,782,000 horsepower at September 30, 2002. Our
international horsepower increased by 10% to approximately 925,000 horsepower
at September 30, 2003 from approximately 839,000 horsepower at September 30,
2002. Our overall compression horsepower utilization rate was approximately 80%
at both September 30, 2003 and 2002. We continue to move idle domestic
compression in our rental fleet into service in our international rental
operations. In addition, during the third quarter of 2003, we retired idle
units representing approximately 41,000 horsepower from our domestic rental
fleet that are to be sold or scrapped. 22




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Revenue from parts, service and used equipment decreased by $2.0 million, or
4%, to $45.6 million during the three months ended September 30, 2003 from
$47.6 million during the three months ended September 30, 2002. The decrease in
parts, service and used equipment revenue was primarily due to lower parts and
service sales partially offset by higher used rental equipment sales and
installation revenues. We believe that the decrease in parts and service
revenues is primarily related to our loss of some alliance contracts in 2002 to
competitors. Included in parts, service and used equipment revenue for the
three months ended September 30, 2003 was $15.7 million in used rental
equipment and installation sales compared to $13.5 million for the three months
ended September 30, 2002. Revenues from compressor and accessory fabrication decreased by $2.8
million, or 10%, to $24.0 million during the three months ended September 30,
2003 from $26.8 million during the three months ended September 30, 2002. Our
compression equipment backlog was $29.3 million at September 30, 2003 compared
to $20.4 million at September 30, 2002. Revenues from production and processing equipment fabrication increased by
$30.2 million, or 86%, to $65.2 million during the three months ended September
30, 2003 from $35.0 million during the three months ended September 30, 2002.
The increase in production and processing equipment revenues is primarily due
to the inclusion of $27.1 million in revenues from the inclusion of Bellelis
results in the three months ended September 30, 2003. Our production and
processing equipment backlog was $32.2 million at September 30, 2003 compared
to $47.3 million at September 30, 2002, excluding Bellelis backlog of $65.6
million at September 30, 2003. Equity in income of non-consolidated affiliates increased by $3.8 million, or
100%, to $7.6 million during the three months ended September 30, 2003, from
$3.8 million during the three months ended September 30, 2002. This increase is
primarily due to an improvement in results from our equity interest in Hanover
Measurement and PIGAP II joint ventures. EXPENSES Operating expenses for domestic rentals increased by $0.7 million, or 2%, to
$31.8 million during the three months ended September 30, 2003 from $31.1
million during the three months ended September 30, 2002. The gross margin from
rentals was 62% during the three months ended September 30, 2003 and 61% during
the three months ended September 30, 2002. Operating expenses for international rentals increased by $3.9 million, or 28%,
to $17.8 million during the three months ended September 30, 2003 from $13.9
million during the three months ended September 30, 2002. The increase was
primarily attributable to increased operating costs in our international rental
business associated with bringing online additional rental projects. The gross
margin from international rentals was 64% during the three months ended
September 30, 2003 and 74% during the three months ended September 30, 2002.
Rental revenues for the three months ended September 30, 2002, included
approximately $7.9 million of partial reimbursements received from the
renegotiation of our contracts with our Argentine customers. This additional
revenue in 2002 increased our margin by approximately 4%. Our 2003 gross margin
was also affected by operational disruptions at a plant in Argentina. Operating expenses for our parts, service and used equipment business increased
by $0.1 million to $35.3 million during the three months ended September 30,
2003 from $35.2 million for the three months ended September 30, 2002. The
gross margin from parts, service and used equipment was 23% during the three
months ended September 30, 2003 and 26% during the three months ended September
30, 2002. Included in parts, service and used equipment revenue for the third
quarter of 2003 was $15.7 million in used rental equipment and installation
sales, with a 2% gross margin compared to $13.5 million in sales with a 23%
gross margin for the third quarter of 2002. Our used rental equipment and
installation sales (which usually have a lower margin than our parts and
service sales) decreased our parts, service and used equipment gross margin by
approximately 11% in the three months ended September 30, 2003 and 1% during
the three months ended September 30, 2002. Operating expenses for our compressor and accessory fabrication business
decreased by $0.9 million, or 4%, to $22.3 million during the three months
ended September 30, 2003 from $23.2 million during the three months ended
September 30, 2002. The gross margin from compressor and accessory fabrication
was 7% during the three months ended September 30, 2003 and 13% during the
three months ended September 30, 2002. We continue to face strong competition
for new compression fabrication business, which negatively affected the selling
price of our compression equipment and the related gross margins for the third
quarter of 2003. The operating expenses attributable to production and processing equipment
fabrication business increased by $30.8 million, or 109%, to $59.1 million
during the three months ended September 30, 2003 from $28.3 million during the
three months ended September 30, 2002. The increase in production and
processing equipment fabrication expenses was primarily due to the inclusion of
the results of Belleli in the three months ended September 30, 2003. The gross
margin attributable to production and processing equipment fabrication was 9%
during the three months ended September 30, 2003 and 19% during the three
months ended September 30, 2002. The decrease in gross margin was primarily
attributable to increased competition in our high specification production
equipment product lines and operational disruptions related to our
consolidation efforts. Selling, general and administrative expenses increased $3.4 million, or 9%, to
$40.2 million during the three months ended September 30, 2003 from $36.8
million during the three months ended September 30, 2002. The increase is
primarily due to the inclusion of Bellelis selling and general and
administrative costs of approximately $2.7 million. Foreign currency translation expense increased $1.0 million, or 233%, to $1.5
million during the three months ended September 30, 2003 from $0.5 million for
the three months ended September 30, 2002. Other expenses increased to $2.4 million during the three months ended
September 30, 2003 from $0 for the three months ended September 30, 2002. This
increase was due to $2.4 million in charges primarily to write off certain
non-revenue generating assets and to record the estimated settlement of a
contractual obligation. Depreciation and amortization increased by $25.4 million, or 83%, to $56.2
million during the three months ended September 30, 2003 compared to $30.8
million during the three months ended September 30, 2002. The increase in
depreciation was primarily due to (i) $14.4 million of impairments recorded in
the third quarter for rental fleet assets to be sold or scrapped; (ii)
additions to the rental fleet, including maintenance capital, which were placed
in service in the fourth quarter of 2002 and the first nine months of 2003 that
are included in our depreciable asset base; (iii) approximately $4.2 million in
additional depreciation expense related to the adoption of FASB Interpretation
No. 46 (see Cumulative Effect of Accounting Change below); and (iv) $1.2
million in depreciation and amortization expense from the inclusion of Belleli. Leasing expense decreased $23.1 million to $0 during the three months ended
September 30, 2003. Beginning in July 2003, payments accrued under our sale
leaseback transactions are included in interest expense as a result of
consolidating the entities that lease compression equipment to us. See
Cumulative Effect Of Accounting Change below. 23




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Interest expense increased by $22.3 million, or 212%, to $32.8 million during
the three months ended September 30, 2003 from $10.5 million for the three
months ended September 30, 2002. Beginning in July 2003, our interest expense
includes the payments accrued under our sale leaseback transactions of
approximately $20.9 million. See Cumulative Effect Of Accounting Change
below. We have reclassified the distributions on our mandatorily redeemable
convertible securities as interest expense; and prior periods financial
statements have been reclassified to conform to the 2003 financial statement
classification. During the third quarter of 2003, we recorded a $35.5 million non-cash charge
for goodwill impairment associated with Belleli. As a result of the war in
Iraq, the strengthening of the Euro and generally unfavorable economic
conditions, we believe that the estimated fair value of Belleli has declined
significantly during 2003. Upon gaining complete control of Belleli in August
2003 and assessing our long-term growth strategy, we determined that these
general factors in combination with the specific economic factors impacting
Belleli had significantly and adversely impacted the timing and amount of the
future cash flows that we expected Belleli to generate. We currently do not
expect to realize our original growth expectations for Belleli in the timeframe
that we originally forecasted. PROVISION FOR ESTIMATED COST OF LITIGATION SETTLEMENT On October 23, 2003, we entered into a Stipulation of Settlement, which,
subject to court approval, will settle the securities class actions, the ERISA
class actions and the shareholder derivative actions described in Note 9 in
Notes to Condensed Consolidated Financial Statements included in this Form
10-Q/A-2. The final value of the settlement may differ significantly from the estimates
currently recorded depending on the market value of our common stock when the
settlement is approved by the court and potential changes in the market
conditions affecting the valuation of the note to be issued. In the third
quarter of 2003, we recorded a $3.5 million reduction of the estimated
litigation settlement expense for the change in market value of the 2.5 million
shares of Hanover common stock that will be issued by the company as part of
the securities-related litigation settlement. Additionally, the settlement is contingent on court approval and certain other
conditions. Accordingly, we will revalue our estimate of the settlement on a
quarterly basis until the settlement is approved by the court. INCOME TAXES The provision for income taxes decreased $14.1 million to a benefit of $7.9
million during the three months ended September 30, 2003 from a provision of
$6.2 million during the three months ended September 30, 2002. The decrease
resulted from the decrease in income before income taxes. The average effective
income tax rates during the three months ended September 30, 2003 and September
30, 2002 were 14% and 39%, respectively. The change in the effective tax rate
was primarily due to the U.S. income tax impact of foreign operations, the
$35.5 million non-deductible goodwill impairment charge and the relative weight
of foreign income to U.S. income. DISCONTINUED OPERATIONS During the fourth quarter of 2002, we reviewed our business lines and the board
of directors approved managements recommendation to exit and sell our
non-oilfield power generation and certain used equipment business lines. Income
from discontinued operations increased $1.6 million to income of $0.8 million
during the three months ended September 30, 2003 from a loss of $0.8 million
during the three months ended September 30, 2002. Loss from the write-down of
discontinued operations was $10.9 million during the three months ended
September 30, 2003 due to the additional write-down of our discontinued
operations to their estimated market values. CUMULATIVE EFFECT OF ACCOUNTING CHANGE We recorded a cumulative effect of accounting change of $86.9 million net of
tax, related to the partial adoption of FASB Interpretation No. 46,
Consolidation of Variable Interest Entities, an interpretation of ARB 51
(FIN 46) on July 1, 2003. In January 2003, the FASB issued FIN 46. The primary objectives of FIN 46 are
to provide guidance on the identification of entities for which control is
achieved by means other than through voting rights (variable interest
entities or VIEs) and the determination of when and which business
enterprise should consolidate the VIE in its financial statements (the primary
beneficiary). This new model for consolidation applies to an entity in which
either (i) the equity investors (if any) do not have a controlling financial
interest or (ii) the equity investment at risk is insufficient to finance that
entitys activities without receiving additional subordinated financial support
from other parties. In addition, FIN 46 requires that both the primary
beneficiary and all other enterprises with a significant variable interest in a
VIE make additional disclosures. On October 8, 2003, the FASB provided a
deferral of the latest date by which all public companies must adopt FIN 46.
The deferral provides that FIN 46 be applied, at the latest, to the first
reporting period ending after December 15, 2003, to variable interest entities
in which an enterprise holds a variable interest that it acquired before
February 1, 2003. In addition, the deferral allowed companies to elect to adopt
early the provisions of FIN 46 for some but not all of the variable interest
they hold. Because we are still evaluating whether we will be required to make
any other potential changes in connection with our adoption of FIN 46, we have
not adopted the provisions of FIN 46 other than for the entities that lease
compression equipment to us, as discussed below. Prior to July 1, 2003, we entered into five lease transactions that were
recorded as a sale and leaseback of the compression equipment and were treated
as operating leases for financial reporting purposes. On July 1, 2003, we
adopted the provisions of FIN 46 as they relate to the special purpose entities
that lease compression equipment to us. As a result of the adoption, we added
approximately $1,089 million in compressor equipment assets, $192.3 million of
accumulated depreciation (including approximately $58.6 million of accumulated
depreciation related to periods before the sale and leaseback of the
equipment), $1,105.0 million in debt and $34.6 million in minority interest
obligations to our balance sheet, and we reversed $108.8 million of deferred
gains that were recorded on our balance sheet as a result of the sale leaseback
transactions. On July 1, 2003, we recorded a $133.7 million charge ($86.9
million net of tax) to record the cumulative effect from the adoption of FIN 46
related to prior period depreciation of the compression equipment assets.
Additionally, we estimate that, after adoption, we will record approximately
$17 million per year in additional depreciation expense on our leased
compression equipment as a result of the inclusion of the compression equipment
on our balance sheet and will also record the payments made under our
compression equipment leases as interest expense. As of September 30, 2003, the
compression assets that are owned by the entities that lease equipment to us
but are now included in property, plant and equipment in our consolidated
financial statements had a net book value of approximately $983.3 million ,
including improvements made to these assets after the sale leaseback
transactions. 24




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NET INCOME (LOSS) Net income decreased by $154.5 million to a loss of $145.4 million during the
three months ended September 30, 2003 from income of $9.1 million during the
three months ended September 30, 2002. Net income decreased primarily due to
the inclusion in the three months ended September 30, 2003 of a cumulative
effect of accounting change of $133.7 million ($86.9 million net of tax), the
write-down of certain non-core assets as discontinued operations of $16.3
million ($10.6 million after tax), impairments recorded for rental fleet assets to be sold or scrapped
of $14.4 million ($9.8 million after tax) and a $35.5 million goodwill
impairment charge associated with Belleli. NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30, 2002 REVENUES Our total revenues increased by $58.1 million, or 8%, to $825.2 million during
the nine months ended September 30, 2003 from $767.1 million during the nine
months ended September 30, 2002. The increase resulted primarily from the
inclusion of $95.0 million in revenues from Belleli which, beginning in
November 2002, are included as part of our production and processing equipment
business. The increase in revenues related to the inclusion of Belleli was
partially offset by a decrease in revenues from our domestic rental and parts,
service and used equipment businesses. The North American rig count increased by 30% to 1,441 at September 30, 2003
from 1,110 at September 30, 2002, and the twelve-month rolling average North
American rig count increased by 15% as of September 30, 2003 to 1,307 from
1,135 at September 30, 2002. In addition, the twelve-month rolling average New
York Mercantile Exchange wellhead natural gas price increased to $5.24 per Mcf
at September 30, 2003 from $2.10 per Mcf at September 30, 2002. Despite the
increase in natural gas prices and the recent increase in rig count, U.S.
natural gas production levels have not significantly changed. We have not
experienced an improvement in purchases of equipment and services by our
customers, which we believe is a result of the lack of a significant increase
in the U.S. natural gas production levels. Domestic rentals revenues decreased by $7.6 million, or 3%, to $241.7 million
during the nine months ended September 30, 2003 from $249.3 million during the
nine months ended September 30, 2002. The decrease in domestic revenues was
primarily attributable to weaker demand and stronger competition for domestic
compression which resulted in a lower utilization of our rental fleet during
the nine months ended September 30, 2003. Our average domestic utilization for
the nine months ended September 30, 2003 was approximately 4% lower than our
average utilization for the nine months ended September 30, 2002. At both
September 30, 2003 and 2002, our domestic compression horsepower utilization
rate was approximately 75%. International rental revenues increased by $8.4 million, or 6%, to $152.0
million during the nine months ended September 30, 2003 from $143.6 million
during the nine months ended September 30, 2002. International rental revenues
increased primarily from: (i) the expansion of our business operations, (ii)
the recognition of approximately $2.7 million in billings to Venezuelan
customers in the first nine months of 2003 which were not recognized in 2002
due to concerns about the ultimate receipt of these revenues as a result of the
strike by workers of the national oil company in Venezuela and (iii) a $1.9
million fee received for the modification of a contract in Venezuela. At both
September 30, 2003 and 2002, our international compression horsepower
utilization rate was approximately 94%. At September 30, 2003, our compressor rental fleet consisted of approximately
3,508,000 horsepower, a 3% decrease from the approximately 3,621,000 horsepower
in the rental fleet at September 30, 2002. Domestic horsepower in our rental
fleet decreased by 7% to approximately 2,583,000 horsepower at September 30,
2003 from approximately 2,782,000 horsepower at September 30, 2002. In
addition, international horsepower increased by 10% to approximately 925,000
horsepower at September 30, 2003 from approximately 839,000 horsepower at
September 30, 2002. Our overall compression horsepower utilization rate was
approximately 80% at both September 30, 2003 and 2002. We continue to move idle
domestic compression in our rental fleet into service in our international
rental operations. In addition, during the third quarter of 2003 we retired
idle units representing approximately 41,000 horsepower from our domestic
rental fleets that are to be sold or scrapped. Revenue from parts, service and used equipment decreased by $54.5 million, or
32%, to $118.3 million during the nine months ended September 30, 2003 from
$172.8 million during the nine months ended September 30, 2002. The decrease in
parts and service revenue was primarily due to lower used rental equipment
sales and installation revenues, the loss of some customer alliance contracts
to competitors and lower spending levels than what we anticipated from our
customers. Included in parts, service and used equipment revenue for the nine
months ended September 30, 2003 was $27.7 million in used rental equipment and
installation sales compared to $64.9 million for the nine months ended
September 30, 2002. Revenues from compressor and accessory fabrication decreased by $3.5 million,
or 4%, to $81.8 million during the nine months ended September 30, 2003 from
$85.3 million during the nine months ended September 30, 2002. Revenues from production and processing equipment fabrication increased by
$111.4 million, or 112%, to $211.2 million during the nine months ended
September 30, 2003 from $99.8 million during the nine months ended September
30, 2002. The increase in production and processing equipment revenues is
primarily due to the inclusion of $94.1 million in revenues from the results of
Belleli. Equity in income of non-consolidated affiliates increased by $3.0 million, or
21%, to $16.9 million during the nine months ended September 30, 2003, from
$13.9 million during the nine months ended September 30, 2002. This increase is
primarily due to an improvement in results from our equity interest in Hanover
Measurement and PIGAP II joint ventures. EXPENSES Operating expenses for domestic rentals increased by $4.6 million, or 5%, to
$94.0 million during the nine months ended September 30, 2003 from $89.4
million during the nine months ended September 30, 2002. The gross margin from
domestic rentals was 61% during the nine months ended September 30, 2003 and
64% during the nine months ended September 30, 2002. The decrease in gross
margin was due to a lower overall utilization of our domestic rental fleet
without a corresponding decrease in overhead and expenses and $0.9 million
expensed in the second quarter for startup and commissioning costs associated
with a gas plant facility that began operations in the third quarter of 2003. Operating expenses for international rentals increased by $7.8 million, or 20%,
to $47.7 million during the nine months ended September 30, 2003 from $39.9
million during the nine months ended September 30, 2002. The increase was
primarily attributable to the corresponding increase in international rental
revenues. The gross margin from international rentals was 69% during the nine
months ended September 30, 2003 and 72% during the nine months ended September
30, 2002. 25




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Operating expenses for our parts, service and used equipment business decreased
by $58.1 million, or 40%, to $85.8 million during the nine months ended
September 30, 2003 from $143.9 million during the nine months ended September
30, 2002. The decrease was primarily related to the corresponding 32% decrease
in parts, service and used equipment revenue and an increase in gross margin.
The gross margin from parts, service and used equipment was 28% during the nine
months ended September 30, 2003 and 17% during the nine months ended September
30, 2002. During the nine months ended September 30, 2002, we recorded
approximately $6.1 million in inventory write-downs and reserves for parts
inventory that was either obsolete, excess or carried at a price above market
value. Also, included in parts, service and used equipment revenue for the nine months ended September 30, 2003
was $27.7 million in used rental equipment and installation sales, with a 16%
gross margin compared to $64.9 million in sales with an 11% gross margin for
the nine months ended September 30, 2002. Our used rental equipment and
installation sales (which usually have a lower margin than our parts and
service sales) decreased our parts, service and used equipment gross margin by
approximately 4% in the nine months ended September 30, 2003. The inventory
write-down and used rental equipment and installation sales reduced our total
parts, service and used equipment gross margin by approximately 9% in the nine
months ended September 30, 2002. Operating expenses for our compressor and accessory fabrication business
increased by $0.1 million to $74.0 million during the nine months ended
September 30, 2003 from $73.9 million during the nine months ended September
30, 2002. The gross margin on compressor and accessory fabrication was 10%
during the nine months ended September 30, 2003 and 13% during the nine months
ended September 30, 2002. We continue to face strong competition for new
compression fabrication business, which negatively affected the selling price
of our compression equipment and the related gross margins during 2003. The operating expenses attributable to production and processing equipment
fabrication business increased by $104.5 million, or 124%, to $188.8 million
during the nine months ended September 30, 2003 from $84.3 million during the
nine months ended September 30, 2002. The increase in production and processing
equipment fabrication expenses was primarily due to the consolidation of the
results of Belleli in the nine months ended September 30, 2003. The gross
margin attributable to production and processing equipment fabrication was 11%
during the nine months ended September 30, 2003 and 15% during the nine months
ended September 30, 2002. Of the decrease in gross margin for production and
processing equipment fabrication, 2% was attributable to the inclusion of
Belleli. The remaining decrease in gross margin was primarily attributable to
increased competition and operational disruptions related to our consolidation
efforts. Selling, general and administrative expenses increased $12.0 million, or 11%,
to $119.7 million during the nine months ended September 30, 2003 from $107.7
million during the nine months ended September 30, 2002. The increase is
primarily due to the inclusion of Bellelis selling, general and administrative
costs of approximately $7.6 million and an increase in payroll and consulting
costs related to our focus on improving our organizational structure to
facilitate the consolidation of our operations. Foreign currency translation for the nine months ended September 30, 2003
resulted in a loss of $1.3 million, compared to a loss of $13.3 million for the
nine months ended September 30, 2002. In January 2002, Argentina devalued its
peso against the U.S. dollar and imposed significant restrictions on fund
transfers internally and outside the country. In addition, the Argentine
government enacted regulations to temporarily prohibit enforcement of contracts
with exchange rate-based purchase price adjustments. Instead, payment under
such contracts could either be made at an exchange rate negotiated by the
parties or, if no such agreement were reached, a preliminary payment could be
made based on a one dollar to one peso equivalent pending a final agreement.
The Argentine government also required the parties to such contracts to
renegotiate the price terms within 180 business days of the devaluation. During
the nine months ended September 30, 2002, we recorded an exchange loss of
approximately $11.9 million and $1.9 million for assets exposed to currency
translation in Argentina and Venezuela, respectively, and recorded a
translation gain of approximately $0.5 million for all other countries. We have
renegotiated all of our agreements in Argentina. As a result of these
negotiations, we received approximately $11.2 million in reimbursements in 2002
and $0.7 million in the first nine months of 2003. Other expenses decreased by $11.9 million, or 80%, to $2.9 million during the
nine months ended September 30, 2003 from $14.8 million for the nine months
ended September 30, 2002. For the nine months ended September 30, 2003, other
expenses included $2.9 million in charges primarily recorded to write off
certain non-revenue producing assets and to record the estimated settlement of
a contractual obligation. For the nine months ended September 30, 2002, other
expenses included a $12.1 million write-down of investments in three
non-consolidated affiliates that have experienced a decline in value that we
believe to be other than temporary, a $0.5 million write-off of a purchase
option for an acquisition that we have abandoned and a $2.0 million write-down
of a note receivable from Aurion Technologies, Inc. Depreciation and amortization increased by $44.5 million, or 54%, to $126.9
million during the nine months ended September 30, 2003 compared to $82.4
million during the nine months ended September 30, 2002. The increase in
depreciation was primarily due to (i) $14.4 million of impairments recorded for
rental fleet assets to be sold or scrapped, (ii) additions to the rental fleet,
including maintenance capital, which were placed in service in 2002 and the
first nine months of 2003 that are included in our depreciable asset base,
(iii) $4.2 million in additional depreciation expense related to the adoption
of FIN 46, and (iv) $3.1 million in depreciation and amortization expense from
the inclusion of Belleli. Leasing expense decreased $25.1 million, or 37%, to $43.1 million during the
nine months ended September 30, 2003 from $68.2 million for the nine months
ended September 30, 2002. Beginning in July 2003, payments accrued under our
sale leaseback transactions are included in interest expense as a result of
consolidating the entities that lease compression equipment to us. See
Cumulative Effect Of Accounting Change below. Interest expense increased by $26.2 million, or 84%, to $57.3 million during
the nine months ended September 30, 2003 from $31.1 million for the nine months
ended September 30, 2002. Beginning in July 2003, our interest expense includes
the payments accrued under our sale leaseback transactions of approximately
$20.9 million. See Cumulative Effect Of Accounting Change below. In addition,
our interest expense increased due to an increase in the outstanding balance of
the debt payable to Schlumberger and the inclusion of Bellelis interest
expense of approximately $1.5 million. We have reclassified the distributions
on our mandatorily redeemable convertible securities as interest expense; and
prior periods financial statements have been reclassified to conform to the
2003 financial statement classification. During the third quarter of 2003, we recorded a $35.5 million non-cash
charge for goodwill impairment associated with Belleli. As a result of the war
in Iraq, the strengthening of the Euro and generally unfavorable economic
conditions, we believe that the estimated fair value of Belleli declined
significantly during 2003. Upon gaining complete control of Belleli and
assessing our long-term growth strategy, we determined that these general
factors in combination with the specific economic factors impacting Belleli had
significantly and adversely impacted the timing and amount of the future cash
flows that we expected Belleli to generate. We currently do not expect to
realize our original growth expectations for Belleli in the timeframe that we
originally forecasted. Due to a downturn in our business and changes in the business environment in
which we operate, we completed a goodwill impairment analysis as of June 30,
2002. As a result of the analysis performed, we recorded an estimated $47.5
million impairment of goodwill attributable to our production and processing
equipment fabrication business unit during the nine months ended September 30,
2002. 26




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PROVISION FOR ESTIMATED COST OF LITIGATION SETTLEMENT October 23, 2003, we entered into a Stipulation of Settlement, which, subject
to court approval, will settle the securities class actions, the ERISA class
actions and the shareholder derivative actions described in Note 9 above. The
terms of the proposed settlement provide for us to: (i) make a cash payment of
approximately $30 million (of which $26.7 million was funded by payments from
our directors and officers insurance carriers), (ii) issue 2.5 million shares
of our common stock, and (iii) issue a contingent note with a principal amount of $6.7 million. The note is payable,
together with accrued interest, on March 31, 2007 but can be extinguished (with
no monies owing under it) if our common stock trades at or above the average
price of $12.25 per share for 15 consecutive days at any time between March 31,
2004 and March 31, 2007. As part of the settlement, we have also agreed to
implement corporate governance enhancements, including allowing large
shareholders to participate in the process to appoint two independent directors
to our Board. Our auditor, PricewaterhouseCoopers LLP, is not a party to the
settlement and will continue to be a defendant in the consolidated securities
class action. GKH Investments, L.P. and GKH Private Limited (collectively GKH), which
together own approximately ten percent of our outstanding common stock and
which sold shares in our March 2001 secondary offering of common stock, are
parties to the proposed settlement and have agreed to settle claims against
them that arise out of that offering as well as other potential securities,
ERISA, and derivative claims. The terms of the proposed settlement provide for
GKH to transfer 2.5 million shares of our common stock from their holdings or
from other sources. In connection with this settlement, we initially recorded a pre-tax charge of
approximately $68.7 million ($54.0 million after-tax) in our first quarter 2003
financial statements. This charge included approximately $42.1 million ($27.4
million after-tax), net of insurance recoveries, for our contribution of cash
and estimated costs, 2.5 million Hanover common shares, and the contingent
note. The charge also included approximately $26.6 million, without tax
benefit, for 2.5 million Hanover common shares to be funded by GKH. Because
this settlement could be considered to be a related-party transaction as
defined in SEC Staff Accounting Bulletin 5-T, the fair value of the Hanover
common shares to be paid by GKH was recorded as an expense in our statement of
operations. As discussed in our Quarterly Report on Form 10-Q for the three months ended
March 31, 2003, we planned to seek guidance from the Office of the Chief
Accountant of the SEC to determine whether the Hanover common shares provided
by GKH should be recorded as an expense by us. After the submission of a
detailed letter and discussions with the SEC Staff, the Staff informed us that
it would not object to GKHs portion of the settlement not being considered a
related-party transaction as defined in SEC Staff Accounting Bulletin 5-T.
Accordingly, the $26.6 million charge related to the 2.5 million Hanover common
shares being paid by GKH could be reversed from our first quarter 2003
financial statements. On August 6, 2003, we filed an amendment to our Quarterly Report on Form 10-Q
for the three months ended March 31, 2003 to amend our first quarter 2003
financial statements to exclude the $26.6 million charge related to the 2.5
million Hanover common shares being funded by GKH. As a result, in our first
quarter 2003 financial statements, as amended, we recorded a pre-tax charge of
approximately $42.1 million ($27.4 million after tax), net of insurance
recoveries, for our contribution of cash and estimated costs, 2.5 million
Hanover common shares, and the contingent note. In addition, in the second quarter of 2003, we adjusted our estimate of the
settlement and recorded an additional $1.7 million charge due to the change in
the value from May 14 to June 30, 2003 of the 2.5 million Hanover common shares
contributed by us to the settlement. In the third quarter of 2003, we recorded
a $3.5 million reduction to adjust our estimate of the settlement due to the
third quarter change in the value of such stock. Based on the terms of the settlement agreement, we determined that a liability
related to these lawsuits was probable and that the value was reasonably
estimable. Accordingly, we evaluated the individual components of the
settlement in consideration of existing market conditions and established an
estimate for the cost of the litigation settlement. The details of this
estimate are as follows (in thousands): Second andThirdAmended First
    
    QuarterQuarter
    
    Adjustment ToEstimated
    
    EstimatedSettlement
    
    Settlement
    
    TotalCash
    
    $
    30,050
    
    
    $
    
    
    
    $
    30,050Estimated fair value of note to be issued
    
    
    5,194
    
    
    
    
    
    
    
    5,194Common stock to be issued by Hanover
    
    
    26,600
    
    
    
    (1,850
    )
    
    
    24,750Legal fees and administrative costs
    
    
    6,929
    
    
    
    
    
    
    
    6,929Total
    
    
    68,773
    
    
    
    (1,850
    )
    
    
    66,923Less insurance recoveries
    
    
    (26,670
    )
    
    
    
    
    
    
    (26,670
    )Net estimated litigation settlement
    
    $
    42,103
    
    
    $
    (1,850
    )
    
    $
    40,253
 The $5.2 million estimated fair value of the note to be issued was based on the
present value of the future cash flows discounted at borrowing rates currently
available to us for debt with similar terms and maturities. Using a
market-borrowing rate of 11%, the principal value and the stipulated interest
rate required by the note of 5% per annum, an estimated discount of $1.5
million was computed on the note to be issued. Upon the issuance of the note,
the discount will be amortized to interest expense over the term of the note.
Because the note could be extinguished without a payment (if our common stock
trades at or above the average price of $12.25 per share for 15 consecutive
days at any time between March 31, 2004 and March 31, 2007), we will be
required to record an asset in future periods for the value of the embedded
derivative, as required by SFAS 133, when the note is issued. This asset will
be marked to market in future periods with any increase or decrease included in
our statement of operations. As of September 30, 2003, our accompanying balance sheet includes a $30.2
million long-term liability pending approval by the courts and satisfaction of
certain other conditions and $34.6 million in accrued liabilities related to
amounts that are expected to be paid in the next 12 months. During the second
quarter of 2003, the $26.7 million receivable from the insurance carriers and
$2.8 million of our portion of the cash settlement was paid into an escrow fund
and is included in the accompanying balance sheet as restricted cash. Upon the
approval of the settlement by the court, we will record such amounts in
liabilities and stockholders equity, respectively, and will include the shares
in our outstanding shares used for earnings per share calculations. 27




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The final value of the settlement may differ significantly from the estimates
currently recorded, depending on the market value of our common stock when the
settlement is approved by the court and potential changes in the market
conditions affecting the valuation of the note to be issued. Additionally, the
settlement is contingent on court approval and certain other conditions.
Accordingly, we will revalue our estimate of the cost of the settlement on a
quarterly basis until the settlement is approved by the court. INCOME TAXES The provision for income taxes decreased $25.9 million, to a benefit of $18.5
million during the nine months ended September 30, 2003 from a provision of
$7.4 million during the nine months ended September 30, 2002. The decrease
resulted from the decrease in income before income taxes and a higher average
effective tax rate on pre-tax income. The average effective income tax rates
during the nine months ended September 30, 2003 and September 30, 2002 were 20%
and -25%, respectively. The change in rate was primarily due to the U.S. income
tax impact of foreign operations, and the relative weight of foreign income to
U.S. income. DISCONTINUED OPERATIONS During the fourth quarter of 2002, we reviewed our business lines and the board
of directors approved managements recommendation to exit and sell our
non-oilfield power generation and certain used equipment business lines. Income
(loss) from discontinued operations increased $1.8 million, to net income of
$1.2 million during the nine months ended September 30, 2003, from a loss of
$0.6 million during the nine months ended September 30, 2002. Loss from the
write-down of discontinued operations increased $8.7 million, to a loss of
$12.6 million during the nine months ended September 30, 2003 from a loss of
$3.9 million during the nine months ended September 30, 2002. The losses relate
to write-downs of our discontinued operations to their estimated market value. CUMULATIVE EFFECT OF ACCOUNTING CHANGE We recorded a cumulative effect of accounting change of $86.9 million, net of
tax, related to the partial adoption of FIN 46 on July 1, 2003. In January 2003, the FASB issued FIN 46. The primary objectives of FIN 46 are
to provide guidance on the identification of entities for which control is
achieved by means other than through voting rights (variable interest
entities or VIEs) and the determination of when and which business
enterprise should consolidate the VIE in its financial statements (the primary
beneficiary). This new model for consolidation applies to an entity in which
either (i) the equity investors (if any) do not have a controlling financial
interest or (ii) the equity investment at risk is insufficient to finance that
entitys activities without receiving additional subordinated financial support
from other parties. In addition, FIN 46 requires that both the primary
beneficiary and all other enterprises with a significant variable interest in a
VIE make additional disclosures. On October 8, 2003, the FASB provided a
deferral of the latest date by which all public companies must adopt FIN 46.
The deferral provides that FIN 46 be applied, at the latest, to the first
reporting period ending after December 15, 2003, to variable interest entities
in which an enterprise holds a variable interest that it acquired before
February 1, 2003. In addition, the deferral allowed companies to elect to adopt
early the provisions of FIN 46 for some but not all of the variable interest
they hold. Because we are still evaluating whether we will be required to make
any other potential changes in connection with our adoption of FIN 46, we have
not adopted the provisions of FIN 46 other than for the entities that lease
compression equipment to us, as discussed below. Prior to July 1, 2003, we entered into five lease transactions that were
recorded as a sale and leaseback of the compression equipment and were treated
as operating leases for financial reporting purposes. On July 1, 2003, we
adopted the provisions of FIN 46 as they relate to the special purpose entities
that lease compression equipment to us. As a result of the adoption, we added
approximately $1,089 million in compressor equipment assets, $192.3 million of
accumulated depreciation (including approximately $58.6 million of accumulated
depreciation related to periods before the sale and leaseback of the
equipment), $1,105.0 million in debt and $34.6 million in minority interest obligations to
our balance sheet, and we reversed $108.8 million of deferred gains that were
recorded on our balance sheet as a result of the sale leaseback transactions.
On July 1, 2003, we recorded a $133.7 million charge ($86.9 million net of tax)
to record the cumulative effect from the adoption of FIN 46 related to prior
period depreciation of the compression equipment assets. Additionally, we
estimate that, after adoption, we will record approximately $17 million per
year in additional depreciation expense on our leased compression equipment as
a result of the inclusion of the compression equipment on our balance sheet and
will also record the payments made under our compression equipment leases as
interest expense. As of September 30, 2003, the compression assets that are
owned by the entities that lease equipment to us but are now included in
property, plant and equipment in our consolidated financial statements had a
net book value of approximately $983.3 million, including improvements made to
these assets after the sale leaseback transactions. NET LOSS Our net loss increased by $130.7 million to a loss of $171.8 million during the
nine months ended September 30, 2003 from a loss of $41.1 million during the
nine months ended September 30, 2002. Net loss increased primarily due to the
inclusion in the nine months ended September 30, 2003 of (i) a cumulative
effect of accounting change of $133.7 million ($86.9 million net of tax), (ii)
the write-down of certain non-core assets as discounted operations of $16.3
million ($10.6 million after tax), (iii) impairments recorded for rental fleet
assets to be sold or scrapped of $14.4 million ($9.8 million after tax), (iv) a
$40.3 million ($26.2 million after tax) provision for the estimated settlement
cost of the securities-related litigation, and (v) a $35.5 million goodwill
impairment charge associated with Belleli. This increase was partially offset
by the inclusion in the nine months ended September 30, 2002 of a $47.5 million
goodwill impairment charge ($44.2 million after tax) and pre-tax charges of
$26.2 million ($17.0 million after tax) to write-down certain non-core assets
and parts and power generation inventory. LIQUIDITY AND CAPITAL RESOURCES Our cash balance amounted to $33.5 million at September 30, 2003 compared to
$19.0 million at December 31, 2002. Our principal source of cash during the
nine months ended September 30, 2003 was approximately $85.3 million in cash
flow from operations. Principal uses of cash during the nine months ended
September 30, 2003 were capital expenditures of $105.2 million. Working capital decreased to $55.7 million at September 30, 2003 from $212.1
million at December 31, 2002. The decrease in working capital was primarily due
to the classification of our $194 million 1999A equipment lease note, which
matures in June 2004, to current debt. This obligation was recorded on our
balance sheet in July 2003 upon consolidation of the entities which lease
equipment to us when we adopted FIN 46 for our sale leaseback transactions. We invested $105.2 million in property, plant and equipment during the nine
months ended September 30, 2003, primarily for international rental projects
and maintenance capital. As of September 30, 2003, we had approximately
3,508,000 horsepower in the rental fleet with 2,583,000 horsepower domestically
and 925,000 horsepower in the international rental fleet. 28




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In February 2003, we executed an amendment to our bank credit facility (our
bank credit facility) and the agreements related to certain of our
compression equipment lease obligations that we entered into in 1999 and 2000.
The amendment, which was effective as of December 31, 2002, modified certain
financial covenants to allow us greater flexibility in accessing the capacity
under the bank credit facility to support our short-term liquidity needs. In
addition, at the higher end of our permitted consolidated leverage ratio, the
amendment increased the commitment fee under the bank credit facility by 0.125%
and increased the interest rate margins used to calculate the applicable
interest rates under all of the agreements by up to 0.75%. Any increase in our
interest costs as a result of the amendment as compared to the
bank credit facility prior to the amendment depends on our consolidated
leverage ratio at the end of each quarter, the amount of indebtedness
outstanding and the interest rate quoted for the benchmark selected by us. As
part of the amendment, we granted the lenders under these agreements a security
interest in the inventory, equipment and certain other property of Hanover and
its domestic subsidiaries, and pledged 66% of the equity interest in certain of
our foreign subsidiaries. This amendment also restricts our capital spending to
$200 million in 2003. In consideration for obtaining the amendment, we agreed
to pay approximately $1.8 million in fees to the lenders under these
agreements. Our bank credit facility as so amended provides for a $350 million revolving
credit facility that matures on November 30, 2004. Advances bear interest at
(a) the greater of the administrative agents prime rate, the federal funds
effective rate, or the base CD rate, or (b) a eurodollar rate, plus, in each
case, a specified margin (3.4% and 3.2% weighted average interest rate at
September 30, 2003 and December 31, 2002, respectively). A commitment fee based
upon a percentage of the average available commitment is payable quarterly to
the lenders participating in the bank credit facility. This fee ranges from
0.25% to 0.50% per annum and fluctuates with our consolidated leverage ratio.
In addition to the drawn balance on our bank credit facility, as of September
30, 2003, we had $71.7 million in letters of credit outstanding under the bank
credit facility. Our bank credit facility contains certain financial covenants
and limitations on, among other things, indebtedness, liens, leases and sales
of assets. Our bank credit facility also limits the payment of cash dividends
on our common stock to 25% of our net income for the period from December 1,
2001 through November 30, 2004. As of September 30, 2003, we were in compliance with all material covenants and
other requirements set forth in our bank credit facility, agreements related to
our compression equipment lease obligations and indentures. Giving effect to
the covenant limitations in our bank credit facility, the liquidity available
under that facility as of September 30, 2003 was approximately $25 million. Our
cash balance amounted to $33.5 million at September 30, 2003. Because our bank
credit facility will mature in November 2004, it will be reported as a current
liability on our balance sheet for the year ended December 31, 2003, if not
amended or replaced prior to such date. While there is no assurance, we believe based on our current projections that
we will be in compliance with the financial covenants in our bank credit
facility and the agreements related to our compression equipment lease
obligations at December 31, 2003, although, with respect to certain of the
covenants, a relatively small change in our actual results as compared to our
current projections could cause us not to be in compliance with such covenants. Under the February 2003 amendment, certain of the financial covenants contained
in our bank credit facility and the agreements related to certain of our
compression equipment lease obligations revert back to more restrictive
covenants with which we must be in compliance at the end of each fiscal quarter
ending after December 31, 2003, or we will be in default under the bank credit
facility. With respect to the more restrictive financial covenants that will be
in effect at March 31, 2004, if our bank credit facility is not amended or
replaced by such date, we believe based on our current projections that we
would probably not be in compliance with such covenants at such date. However,
we currently have bank commitments totaling $345 million for a new bank credit
facility (the Proposed Bank Credit Facility) with different and/or less
restrictive covenants which would apply to us for fiscal quarters ending after
December 31, 2003. While there is no assurance, we believe based on our current
projections that we will be in compliance with the financial covenants
contained in the Proposed Bank Credit Facility at March 31, 2004. The bank commitments under the Proposed Bank Credit Facility expire on December
31, 2003, and if we do not close the Proposed Bank Credit Facility prior to
that date, we will have to request that the banks extend their commitments.
There is no assurance that the banks will extend their commitments on the same
terms or at all. In addition, the closing of this Proposed Bank Credit Facility
is contingent on the finalization of documentation, the contemporaneous or
earlier closing of at least $275 million of specified new financing to repay
the $200 million 1999A equipment lease and a portion of our bank credit
facility borrowings and satisfaction of other customary conditions. There is no
assurance that we will be able to satisfy all the conditions to close the
Proposed Bank Credit Facility, including in particular the requirement to
effect at least $275 million of new financings on required terms. If we are not
able to close the Proposed Bank Credit Facility on a timely basis, then we
expect to seek an amendment or waiver of the applicable financial covenants in
our existing agreements. Although we believe we would be able to obtain a
satisfactory amendment or waiver, there is no assurance we will be able to do
so. Such an amendment or waiver could impose additional restrictions on us and
could involve additional fees payable to the banks, which could be significant.
If we are unable to meet the applicable financial covenants under our bank
credit facility and we fail to obtain an amendment or waiver with respect
thereto, then we could be in default under our bank credit facility and certain
of our agreements related to our compression equipment lease obligations and
other debt. A default under our bank credit facility or these agreements would
trigger cross-default provisions in certain of our other debt agreements. Such
defaults would have a material adverse effect on the Companys liquidity,
financial position and operations. We may carry out new customer projects through rental fleet additions and other
related capital expenditures. We generally invest funds necessary to make these
rental fleet additions when our idle equipment cannot economically fulfill a
projects requirements and the new equipment expenditure is matched with
long-term contracts whose expected economic terms exceed our return on capital
targets. During 2003, we plan to spend approximately $150 to $175 million on
capital expenditures including (i) rental equipment fleet additions, (ii) $60
million on equipment overhauls and other maintenance capital and (iii) our
additional $15 million investment in Belleli. The February 2003 amendment to
our bank credit facility restricts our capital spending to $200 million in
2003. We expect that our 2003 capital spending, net of proceeds from equipment
sales and excluding our additional $15 million investment in Belleli, will be
within operating cash flows, excluding working capital needs. As a result of
our agreement to settle the securities-related litigation, we will be required
to pay approximately $5.0 million in estimated expenses over the next 12 months
in addition to the amount held in escrow and reported as restricted cash on our
Condensed Consolidated Balance Sheet. Historically, we have funded our capital
requirements with a combination of internally generated cash flow, borrowing
under a bank credit facility, sale leaseback transactions, raising additional
equity and issuing long-term debt. We believe that cash flow from operations and borrowing under our bank credit
facility will provide us with adequate capital resources to fund our estimated
level of capital expenditures through December 31, 2003, and, if closed, the
Proposed Bank Credit Facility, together with the financings contemplated by
that facility and cash flow from operations will provide us adequate capital
resources to fund our estimated level of capital expenditures for the near
term. Since capital expenditures are largely discretionary, we believe we would
be able to significantly reduce them, in a reasonably short time frame, if
expected cash flows from operations were not realized. As of September 30,
2003, we had approximately $172.0 million in borrowings and approximately $71.7
million in letters of credit outstanding on bank credit facility (3.4% weighted
average effective rate at September 30, 2003). The letters of credit expire
between 2003 and 2007. Our bank credit facility permits us to incur
indebtedness, subject to covenant limitations described above, up to a $350
million credit limit, plus, in addition to certain other indebtedness, an
additional $300 million in subordinated unsecured indebtedness and $125 million
of other unsecured indebtedness. In addition, our bank credit facility permits
us to enter into future sale leaseback transactions with respect to equipment
having a value not in excess of $300 million. 29




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In addition to purchase money and similar obligations, the indentures and the
agreements related to our compression equipment lease obligations for our 2001A
and 2001B sale leaseback transactions permit us to incur indebtedness up to the
$350 million credit limit under our bank credit facility, plus (1) an
additional $75 million in unsecured indebtedness and (2) any additional
indebtedness so long as, after incurring such indebtedness, our ratio of the
sum of consolidated net income before interest expense, income taxes,
depreciation expense, amortization of intangibles, certain other non-cash
charges and rental expense to total fixed charges (all as defined and adjusted
by the agreements), or our coverage ratio, is greater than 2.25 to 1.0 and no
default or event of default has occurred or would occur as a consequence of
incurring such additional indebtedness and the application of the proceeds
thereon. The indentures and agreements for our 2001A and 2001B sale leaseback
transactions define indebtedness to include the present value of our rental obligations
under sale leaseback transactions and under facilities similar to our
compression equipment operating leases. As of September 30, 2003, Hanovers
coverage ratio was less than 2.25 to 1.0 and therefore as of such date we could
not incur indebtedness other than under our bank credit facility and up to an
additional $75 million in unsecured indebtedness and certain other permitted
indebtedness, including certain refinancing indebtedness. We believe the
Proposed Bank Credit Facility is within the types of refinancing indebtedness
allowed under these agreements. In February 2003, Moodys Investors Service announced that it had downgraded by
one grade our senior implied credit rating, our 4.75% Convertible Senior Notes
and our 7.25% Mandatorily Redeemable Convertible Preferred Securities to Ba3,
B2 and B3, respectively, and Standard & Poors rating service announced that it
had lowered our corporate credit rating to BB-. In addition, both rating
agencies placed us on negative watch. In June 2003, Standard and Poors
assigned a B- rating to our subordinated zero coupon notes due to Schlumberger.
In July 2003, Moodys Investors Service confirmed the credit ratings set forth
above and assigned a B3 rating to our subordinated zero coupon notes due to
Schlumberger. Both credit rating agencies retained our negative watch status.
We are currently in the process of updating the credit rating agencies for our
third quarter results and have requested them to confirm their ratings. We do
not have any credit rating downgrade provisions in our debt agreements or the
agreements governing our compression equipment lease obligations that would
accelerate their maturity dates. However, a downgrade in our credit rating
could materially and adversely affect our ability to renew existing, or obtain
access to new, credit facilities in the future and could increase the cost of
such facilities. Should this occur, we might seek alternative sources of
funding. On May 14, 2003, we entered into an agreement with Schlumberger to terminate
our right to put our interest in the PIGAP II joint venture to Schlumberger. We
had previously given notice of our intent to exercise the PIGAP II put in
January 2003. We also agreed with Schlumberger to restructure the $150 million
subordinated note that Schlumberger received from us in August 2001 as part of
the purchase price for the acquisition of POC. As a result, we retained our
ownership interest in PIGAP II. A comparison of the primary financial terms of the original $150 million
subordinated note and the restructured note are shown in the table below. Primary Financial Term
    
    Restructured Note
    
    Original NotePrincipal Outstanding at March 31, 2003:
    
    $171 million
    
    $171 millionMaturity:
    
    March 31, 2007
    
    December 31, 2005Interest Rate:
    
    Zero coupon accreting at 11.0% fixed
    
    13.5%, 14.5%
beginning March 1,
2004, 15.5%
beginning March 1,
2005Schlumberger First Call Rights on
Hanover Equity Issuance:
    
    None
    
    Schlumberger had
first call on any
Hanover equity
offering proceedsCall Provision:
    
    Hanover cannot call the Note prior
to March 31, 2006
    
    Callable at any time
 As of March 31, 2003, the date from which the interest rate was adjusted, the
$150 million subordinated note had an outstanding principal balance of
approximately $171 million, including accrued interest. Under the
restructured terms, the maturity of the restructured note has been extended to
March 31, 2007, from the original maturity of December 31, 2005. The note is a
zero coupon note with original issue discount accreting at 11.0% for its
remaining life, up to a total principal amount of $262.6 million payable at
maturity. The note will accrue an additional 2.0% interest upon the occurrence
and during the continuance of an event of default under the note. The note will
also accrue an additional 3.0% interest if Hanovers consolidated leverage
ratio exceeds 5.18 to 1.0 as of the end of two consecutive fiscal quarters.
Notwithstanding the foregoing, the note will accrue additional interest of a
total of 3.0% if both of the previously mentioned circumstances occur. The note
also contains a covenant that limits our ability to incur additional
indebtedness if Hanovers consolidated leverage ratio exceeds 5.6 to 1.0,
subject to certain exceptions. Schlumberger will no longer have a first call on
any proceeds from the issuance of any shares of capital stock or other equity
interests by Hanover and the note is not callable by Hanover until March 31,
2006. As agreed with Schlumberger, Hanover has agreed to bear the cost of and
has filed a shelf registration statement with the SEC covering the resale of
the restructured note by Schlumberger. Also, on May 14, 2003, we agreed with Schlumberger Surenco, an affiliate of
Schlumberger Technology Corporation, to the modification of the repayment terms
of a $58 million obligation that was accrued as a contingent liability on our
balance sheet since the acquisition of POC and was associated with the PIGAP II
joint venture. The obligation was converted into a non recourse promissory note
(PIGAP Note) payable by Hanover Cayman Limited, our indirect wholly-owned
consolidated subsidiary, with a 6% interest rate compounding semi-annually
until maturity in December 2053. In October 2003, the PIGAP II joint venture
closed on the projects financing and distributed approximately $78.5 million
to Hanover, of which approximately $59.9 million was used to payoff the PIGAP
Note. In June 2003, we filed a shelf registration statement with the SEC pursuant to
which we may from time to time publicly offer equity, debt or other securities
in an aggregate amount not to exceed $700 million. Once declared effective by
the SEC and subject to market conditions, the shelf registration statement
would be available to offer one or more series of debt or other securities, the
proceeds of which could be used to refinance a portion of our compression
equipment lease obligations and/or borrowings under our bank credit facility.
We cannot be sure that we will be able to complete such offerings of debt or
other securities. As part of our business, we are a party to various financial guarantees,
performance guarantees and other contractual commitments to extend guarantees
of credit and other assistance to various subsidiaries, investees and other
third parties. To varying degrees, these guarantees involve elements of
performance and credit risk which are not included on our accompanying balance
sheet. The possibility of our having to honor our contingencies is largely
dependent upon future operations of various subsidiaries, investees and other
third parties, or the occurrence of certain future events. We would record a
reserve for these guarantees if events occurred that required that one be
established. Since December 31, 2002, there have been no significant changes to
our obligations to make future payments under existing contracts other than the
renegotiated amounts payable to Schlumberger and Schlumberger Surenco discussed
above. 30




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Hanover utilizes derivative financial instruments to minimize the risks and/or
costs associated with financial and global operating activities by managing its
exposure to interest rate fluctuation on a portion of its variable rate debt
and leasing obligations. We do not engage in derivative financial instruments
for trading or other speculative purposes. The cash flow from hedges is
classified in the accompanying statements of cash flows under the same category
as the cash flows from the underlying assets, liabilities or anticipated
transactions. We adopted SFAS 133, Accounting for Derivative Instruments and Hedging
Activities (SFAS 133), as amended by SFAS 137 and SFAS 138, effective
January 1, 2001. SFAS 133 requires that all derivative instruments (including
certain derivative instruments embedded in other contracts) be recognized in
the balance sheet at fair value, and that changes in such fair values be
recognized in earnings unless specific hedging criteria are met. Changes in the
values of derivatives that meet these hedging criteria will ultimately offset
related earnings effects of the hedged item pending recognition in earnings.
Prior to 2001, we entered into two interest rate swaps with notional amounts of
$75 million and $125 million and strike rates of 5.51% and 5.56%, respectively.
These swaps were to expire in July 2001; however, they were extended for an
additional two years at the option of the counterparty and expired in July
2003. The difference paid or received on the swap transactions was recorded as
an accrued liability and recognized in leasing expense in all periods before
July 1, 2003, and in interest expense thereafter. Because management decided
not to designate the interest rate swaps as hedges at the time they were
extended by the counterparty, we recognized an unrealized gain of approximately
$4.1 million and $1.5 million, respectively, related to the change in the fair
value of these interest rate swaps in lease expense in our statement of
operations during the nine months ended September 30, 2003 and 2002 and
recognized an unrealized gain of approximately $0.5 million in interest expense
during the three months ended September 30, 2003. Prior to July 1, 2003, these
amounts, which were reported as Change in fair value of derivative financial
instruments in our Consolidated Statement of Operations and have been
reclassified as Interest expense and Lease expense in the attached
Condensed Consolidated Statement of Operations. The fair value of these
interest rate swaps fluctuated with changes in interest rates over their terms
and the fluctuations were recorded in our statement of operations. During the second quarter of 2001, we entered into three additional interest
rate swaps to convert variable lease payments under certain lease arrangements
to fixed payments as follows: Lease
    
    Maturity Date
    
    Strike Rate
    
    Notional AmountMarch 2000
    
    March 11, 2005
    
    
    5.2550
    %
    
    $
    100,000,000August 2000
    
    March 11, 2005
    
    
    5.2725
    %
    
    $
    100,000,000October 2000
    
    October 26, 2005
    
    
    5.3975
    %
    
    $
    100,000,000
 These three swaps, which we have designated as cash flow hedging instruments,
meet the specific hedge criteria and any changes in their fair values have been
recognized in other comprehensive income. During the nine months ended
September 30, 2003 and 2002, we recorded income of approximately $4.3 million and a loss of
$13.6 million, respectively, related to these three swaps, ($2.8 million and
$8.8 million, net of tax) in other comprehensive income. As of September 30,
2003, a total of approximately $12.2 million was recorded in current
liabilities and approximately $6.5 million in long-term liabilities with
respect to the fair value adjustment related to these three swaps. The counterparties to the interest rate swap agreements are major international
financial institutions. We continually monitor the credit quality of these
financial institutions and do not expect non-performance by any counterparty,
although such non-performance could have a material adverse effect on us. We have exposure to currency risks in Argentina and Venezuela. To mitigate that
risk, the majority of our existing contracts provide that we receive payment in
U.S. dollars rather than Argentine pesos and Venezuelan bolivars, thus reducing
our exposure to fluctuations in the pesos and the bolivars value. In January 2002, Argentina devalued its peso against the U.S. dollar and
imposed significant restrictions on fund transfers internally and outside the
country. In addition, the Argentine government enacted regulations to
temporarily prohibit enforcement of contracts with exchange rate-based purchase
price adjustments. Instead, payment under such contracts could either be made
at an exchange rate negotiated by the parties or, if no such agreement were
reached, a preliminary payment could be made based on a one dollar to one peso
equivalent pending a final agreement. The Argentine government also required
the parties to such contracts to renegotiate the price terms within 180
business days of the devaluation. We have renegotiated all of our agreements in
Argentina. As a result of these negotiations, we received approximately $11.2
million in reimbursements in 2002 and $0.7 million in the first nine months of
2003. During the nine months ended September 30, 2002, we recorded an exchange
loss of approximately $11.9 million for assets exposed to currency translation
in Argentina. For the nine months ended September 30, 2003, our Argentine
operations represented approximately 5% of our revenue and 9% of our gross
margin. The economic situation in Argentina is subject to change. To the extent
that the situation in Argentina deteriorates, exchange controls continue in
place and the value of the peso against the dollar is reduced further, our
results of operations in Argentina could be materially and adversely affected
which could result in reductions in our net income. In addition, during the nine months ended September 30, 2002, we recorded an
exchange loss of approximately $11.9 million and $1.9 million for assets
exposed to currency translation in Argentina and Venezuela, respectively, and
recorded a translation gain of approximately $0.5 million for all other
countries. For the nine months ended September 30, 2003, our Venezuelan
operations represented approximately 11% of our revenue and 18% of our gross
margin. At September 30, 2003, we had approximately $25.0 million in accounts
receivable related to our Venezuelan operations. In December 2002, opponents of Venezuelan President Hugo Chávez initiated a
country-wide strike by workers of the national oil company in Venezuela. This
strike, a two-month walkout, had a significant negative impact on Venezuelas
economy and temporarily shut down a substantial portion of Venezuelas oil
industry. As a result of the strike, Venezuelas oil production has dropped
substantially. In addition, exchange controls have been put in place which put
limitations on the amount of Venezuelan currency that can be exchanged for
foreign currency by businesses operating inside Venezuela. In May 2003, after
six months of negotiation, the Organization of the American States brokered an
agreement between the Venezuelan government and its opponents. Although the
accord does offer the prospect of stabilizing Venezuelas economy, if another
national strike is staged, talks of a settlement break down, exchange controls
remain in place, or economic conditions in Venezuela continue to deteriorate,
our results of operations in Venezuela could be materially and adversely
affected, which could result in reductions in our net income. As a result of
the disruption in our operations in Venezuela, during the fourth quarter of
2002, our international rental revenues decreased by approximately $2.7
million. In the nine months ended September 30, 2003, we recognized
approximately $2.7 million of billings to Venezuelan customers that were not
recognized in 2002 due to concerns about the ultimate receipt of those
revenues. At September 30, 2003, we had approximately $25.0 million in accounts
receivable related to our Venezuelan operations. 31




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NEW ACCOUNTING PRONOUNCEMENTS In June 2001, the FASB issued SFAS 143, Accounting for Obligations Associated
with the Retirement of Long-Lived Assets (SFAS 143). SFAS 143 establishes
the accounting standards for the recognition and measurement of an asset
retirement obligation and its associated asset retirement cost. This statement
became effective for Hanover on January 1, 2003. The adoption of this new standard did not have
a material effect on our consolidated results of operations, cash flows or
financial position. In April 2002, the FASB issued SFAS 145, Rescission of FASB Statements 4, 44,
and 64, Amendment of FASB Statement No. 13, and Technical Corrections (SFAS
145). The Statement updates, clarifies and simplifies existing accounting
pronouncements. Provisions of SFAS 145 related to the rescission of Statement 4
became effective for us on January 1, 2003. The provisions of SFAS 145 related
to SFAS 13 are effective for transactions occurring after May 15, 2002. We have
adopted the provisions of the new standard, which had no material effect on our
consolidated results of operations, cash flows or financial position. In June 2002, the FASB issued SFAS 146, Accounting for Costs Associated with
Exit or Disposal Activities (SFAS 146), which addresses accounting for
restructuring and similar costs. SFAS 146 supersedes previous accounting
guidance, principally Emerging Issues Task Force Issue (EITF) No. 94-3. We
adopted the provision of SFAS 146 for restructuring activities initiated after
December 31, 2002, which had no material effect on our financial statements.
SFAS 146 requires that the liability for costs associated with an exit or
disposal activity be recognized when the liability is incurred. Under EITF No.
94-3, a liability for an exit cost was recognized at the date of the commitment
to an exit plan. SFAS 146 also establishes that the liability should initially
be measured and recorded at fair value. Accordingly, SFAS 146 may affect the
timing of recognizing future restructuring costs as well as the amounts
recognized. In November 2002, the EITF reached a consensus on Issue No. 00-21, Revenue
Arrangements with Multiple Deliverables (EITF 00-21). EITF 00-21 addresses
certain aspects of the accounting by a vendor for arrangements under which the
vendor will perform multiple revenue generating activities. EITF 00-21 became
effective for interim periods beginning after June 15, 2003. We have adopted
the provisions of EITF 00-21, which did not have a material effect on our
consolidated results of operations, cash flow or financial position. In November 2002, the FASB issued Interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others, which clarifies disclosure and
recognition/measurement requirements related to certain guarantees. The
disclosure requirements are effective for financial statements issued after
December 15, 2002 and the recognition/measurement requirements are effective on
a prospective basis for guarantees issued or modified after December 31, 2002.
The adoption of the provisions of this interpretation did not have a material
effect on our consolidated results of operations, cash flow or financial
position. In December 2002, the FASB issued Statement of SFAS 148, Accounting for
Stock-Based CompensationTransition and Disclosure (SFAS 148). SFAS 148
amends SFAS 123, Accounting for Stock-Based Compensation (SFAS 123), to
provide alternative methods of transition for a voluntary change to the fair
value-based method of accounting for stock-based employee compensation. In
addition, SFAS 148 amends the disclosure requirements of SFAS 123 to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of
the method used on reported results. The transition guidance and annual
disclosure provisions of SFAS 148 were effective for fiscal years ending after
December 15, 2002. The interim disclosure provisions are effective for
financial reports containing financial statements for interim periods beginning
after December 15, 2002. We have adopted the disclosure provisions that are
included within these financial statements. In January 2003, the FASB issued FIN 46. The primary objectives of FIN 46 are
to provide guidance on the identification of entities for which control is
achieved by means other than through voting rights (variable interest
entities or VIEs) and the determination of when and which business
enterprise should consolidate the VIE in its financial statements (the primary
beneficiary). This new model for consolidation applies to an entity in which
either (i) the equity investors (if any) do not have a controlling financial
interest or (ii) the equity investment at risk is insufficient to finance that
entitys activities without receiving additional subordinated financial support
from other parties. In addition, FIN 46 requires that both the primary
beneficiary and all other enterprises with a significant variable interest in a
VIE make additional disclosures. On October 8, 2003, the FASB provided a
deferral of the latest date by which all public companies must adopt FIN 46.
The deferral provides that FIN 46 be applied, at the latest, to the first
reporting period ending after December 15, 2003, to variable interest entities
in which an enterprise holds a variable interest that it acquired before
February 1, 2003. In addition, the deferral allowed companies to elect to adopt
early the provisions of FIN 46 for some but not all of the variable interest
they hold. Prior to July 1, 2003, we entered into five lease transactions that were
recorded as a sale and leaseback of the compression equipment and were treated
as operating leases for financial reporting purposes. On July 1, 2003, we
adopted the provisions of FIN 46 as they relate to the special purpose entities
that lease compression equipment to us. As a result of the adoption, we added
approximately $1,089 million in compressor equipment assets, $192.3 million of
accumulated depreciation (including approximately $58.6 million of accumulated
depreciation related to periods before the sale and leaseback of the
equipment), $1,105.0 million in debt and $34.6 million in minority interest
obligations to our balance sheet, and we reversed $108.8 million of deferred
gains that were recorded on our balance sheet as a result of the sale leaseback
transactions. On July 1, 2003, we recorded a $133.7 million charge ($86.9
million net of tax) to record the cumulative effect from the adoption of FIN 46
related to prior period depreciation of the compression equipment assets.
Additionally, we estimate that, after adoption, we will record approximately
$17 million per year in additional depreciation expense on our leased
compression equipment as a result of the inclusion of the compression equipment
on our balance sheet and will also record the payments made under our
compression equipment leases as interest expense. As of September 30, 2003, the
compression assets that are owned by the entities that lease equipment to us
but are now included in property, plant and equipment in our consolidated
financial statements had a net book value of approximately $983.3 million,
including improvements made to these assets after the sale leaseback
transactions. We have a consolidated subsidiary trust that has Mandatorily Redeemable
Preferred Securities outstanding which have a liquidation value of $86.3
million. These securities are reported on our balance sheet as Mandatorily
Redeemable Convertible Preferred Securities. The trust may be a VIE under FIN
46 because we only have a limited ability to make decisions about its
activities and we may not be the primary beneficiary of the trust. If the trust
is a VIE under FIN 46, the trust and the Mandatorily Redeemable Preferred
Securities issued by the trust may no longer be reported on our balance sheet.
Instead, we would report our subordinated notes payable to the trust as a
liability. These intercompany notes have previously been eliminated in our
consolidated financial statements. The above-described changes on our balance
sheet and statements of operations would be reclassifications. Because we are
still evaluating whether we will be required to make these reclassifications
and other potential changes in connection with our adoption of FIN 46, if any,
we have not adopted the provisions of FIN 46 other than for the entities that
lease compression equipment to us, as discussed above. In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities (SFAS 149). This Statement
amends and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities under SFAS 133, Accounting for Derivative
Instruments and Hedging Activities. This Statement is effective for contracts
entered into or modified after 32




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June 30, 2003 and for hedging relationships
designated after June 30, 2003. All provisions of this Statement will be
applied prospectively. We have adopted the provisions SFAS 149, which did not
have a material effect on our consolidated results of operations, cash flow or
financial position. In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity (SFAS 150).
The Statement changes the accounting for certain financial instruments that,
under previous guidance, issuers could account for as equity. The new Statement
requires that those instruments be classified as liabilities in statements of
financial position. This Statement is effective for financial instruments
entered into or modified after May 31, 2003, and otherwise is effective for
interim periods beginning after June 15, 2004. On November 7, the FASB issued
Staff Position 150-4 that delayed the effective date for certain types of
financial instruments. We do not believe the adoption of the guidance currently
provided in SFAS 150 will have a material effect on our consolidated results of
operations or cash flow. However, we may be required to classify as debt
approximately $34.6 million in sale leaseback obligations that are currently
reported as Minority interest on our Condensed Consolidated Balance Sheet
pursuant to FIN 46 (see Note 6). These Minority interest obligations represent
the equity of the entities that lease compression equipment to us. In
accordance with the provisions of our compression equipment lease obligations,
the equity certificate holders are entitled to quarterly or semi-annual yield
payments on the aggregate outstanding equity certificates. As of September 30,
2003, the yield rates on the outstanding equity certificates ranged from 4.4%
to 9.5%. Equity certificate holders may receive a return of capital payment
upon lease termination or our purchase of the leased compression equipment
after full payment of all debt obligations of the entities that lease
compression equipment to us. At September 30, 2003, the carrying value of the
minority interest obligations approximated the fair market value of assets that
would be required to be transferred to redeem the minority interest
obligations. 
 ITEM 3. QUANTATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK We are exposed to interest rate and foreign currency risk. Hanover and its
subsidiaries periodically enter into interest rate swaps to manage our exposure
to fluctuations in interest rates. At September 30, 2003, the fair market value
of these interest rate swaps, excluding the portion attributable to and
included in accrued leasing, was a liability of approximately $18.7 million, of
which $12.2 million was recorded in accrued liabilities and $6.5 million in
other long-term liabilities. At September 30, 2003 we were party to three
interest rate swaps to convert variable lease payments under certain lease
arrangements to fixed payments as follows (dollars in thousands): Fair Value of theSwap atMaturity Date
    
    Company Pays Fixed Rate
    
    Notional Amount
    
    September 30, 20033/11/2005
    
    
    5.2550
    %
    
    $
    100,000
    
    
    $
    (5,590
    )3/11/2005
    
    
    5.2725
    %
    
    $
    100,000
    
    
    $
    (5,615
    )10/26/2005
    
    
    5.3975
    %
    
    $
    100,000
    
    
    $
    (7,479
    )
 At September 30, 2003, we were exposed to variable rental rates, which
fluctuate with market interest rate, on a portion of the equipment leases we
entered into in September 1999 and October 2000. Assuming a hypothetical 10%
increase in the variable rates from those in effect at quarter end, the
increase in annual leasing expense on these equipment leases would be
approximately $0.9 million. We are also exposed to interest rate risk on borrowings under our floating rate
bank credit facility. At September 30, 2003, $172 million was outstanding
bearing interest at a weighted average effective rate of 3.4% per annum.
Assuming a hypothetical 10% increase in the weighted average interest rate from
those in effect at September 30, 2003, the increase in annual interest expense
for advances under this facility would be approximately $0.6 million. On October 23, 2003, we reached agreement to settle the securities class
actions, the ERISA class actions and the shareholder derivative actions. The
final value of the settlement may differ significantly from the estimates
currently recorded depending on the market value of our stock when settlement
is approved by the court and potential changes in the market conditions
affecting the valuation of the note to be issued. Additionally, the settlement
is contingent on court approval and certain other conditions. Accordingly, we
will revalue our estimate of the settlement on a quarterly basis until the
settlement is approved by the court. We are exposed to market risk on the value
of our common stock to be issued by us. For every $1 change in market value of
a share of our common stock, we will record a $2.5 million change in our
estimate of the fair value of the stock portion of the settlement. In addition,
until issued, the value of the note may change based on the fair market value
of note. For every 1% change in our market borrowing rate, we will record a
$0.2 million change in our estimate of the fair value of the note to be issued
in the settlement. We do not currently use derivative financial instruments to mitigate foreign
currency risk in Argentina and Venezuela; however, we may consider the use of
such instruments because of recent events in Argentina and Venezuela. In
January 2002, Argentina devalued its peso against the U.S. dollar and imposed
significant restrictions on funds transfers internally and outside the country.
In addition, the Argentine government enacted regulations to temporarily
prohibit enforcement of contracts with exchange rate-based purchase price
adjustments. Instead, payment under such contracts could either be made at an
exchange rate negotiated by the parties or, if no such agreement were reached,
a preliminary payment could be made based on a one dollar to one peso
equivalent pending a final agreement. The Argentine government also requires
that the parties to such contracts renegotiate the price terms within 180 days
of the devaluation. We have renegotiated all of our agreements in Argentina. As
a result of these negotiations, we received approximately $11.2 million in
reimbursements in 2002 and $0.7 million in the first nine months of 2003.
During the year ended December 31, 2002, we recorded an exchange loss of
approximately $9.9 million for assets exposed to currency translation in
Argentina. For the nine months ended September 30, 2003, our Argentine
operations represented approximately 5% of our revenue and 9% of our gross
margin. For the year ended December 31, 2002, our Argentine operations
represented approximately 5% of our revenue and 7% of our gross margin. The
economic situation in Argentina is subject to change. To the extent that the
situation in Argentina deteriorates, exchange controls continue in place and
the value of the peso against the dollar is reduced further, our results of
operations in Argentina could be materially and adversely affected which could
result in reductions in our net income. In addition, we have exposure to currency risks in Venezuela. To mitigate that
risk, the majority of our existing contracts provide that we receive payment in
U.S. dollars rather than Venezuelan bolivars, thus reducing our exposure to
fluctuations in the bolivars value. During the year ended December 31, 2002,
we recorded an exchange loss of approximately $5.8 million for assets exposed
to currency translation in Venezuela. For the nine months ended September 30,
2003, our Venezuelan operations represented approximately 11% of our revenue
and 18% of our gross margin. For the year ended December 31, 2002, our
Venezuelan operations represented approximately 10% of our revenue and 17% of
our gross margin. In December 2002, opponents of Venezuelan President Hugo Chávez initiated a
country-wide strike by workers of the national oil company in Venezuela. This
strike, a two-month walkout, had a significant negative impact on Venezuelas
economy and temporarily shut down a substantial portion of Venezuelas oil
industry. As a result of the strike, Venezuelas oil production has dropped
substantially. In addition, exchange controls have been put in place that put
limitations on the amount of Venezuelan currency that can be exchanged for
foreign currency by businesses operating inside Venezuela. In May 2003, after
six months of negotiation, the 33




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Organization of the American States brokered an
agreement between the Venezuelan government and its opponents. Although the
accord does offer the prospect of stabilizing Venezuelas economy, if another
national strike is staged, talks of a settlement break down, exchange controls
remain in place, or economic conditions in Venezuela continue to deteriorate,
our results of operations in Venezuela could be materially and adversely
affected, which could result in reductions in our net income. As a result of the disruption in our operations in Venezuela, during the fourth
quarter of 2002, our international rental revenues decreased by approximately
$2.7 million. In the nine months ended September 30, 2003, we recognized
approximately $2.7 million of billings to Venezuelan customers that were not
recognized in 2002 due to concerns about the ultimate receipt of those
revenues. At September 30, 2003, we had approximately $25.0 million in accounts
receivable related to our Venezuelan operations. 
 ITEM 4. CONTROLS AND PROCEDURES (a) Evaluation of Disclosure Controls and Procedures. As of September 30, 2003,
Hanovers principal executive officer and principal financial officer evaluated
the effectiveness of our disclosure controls and procedures (as defined in Rule
13a-15(e) of the Securities Exchange Act of 1934). Based on the evaluation, our
principal executive officer and principal financial officer believe that our
disclosure controls and procedures were effective to ensure that material
information was accumulated and communicated to our management, including our
principal executive officer and principal financial officer, as appropriate to
allow timely decisions regarding required disclosure. (b) Changes in Internal Controls. Under the direction of our President and
Chief Executive Officer, Senior Vice President and Chief Financial Officer, and
Senior Vice President and General Counsel, we continued the process of
reviewing our internal controls and procedures for financial reporting and have
changed or are in the process of changing some of those controls and
procedures, including changes relating to: information systems; human
resources; internal audit; reconciliation of intercompany accounts; approval of
capital expenditures; preparation, approval and closing of significant
agreements and transactions; review and quantification of compressor
substitutions under compression equipment lease agreements; integration of
acquired businesses and assets (including integration of certain financial and
accounting systems related thereto); standardization of internal controls and
policies across the organization; and the development, implementation and
enhancements of corporate governance policies and procedures and performance
management systems. As part of our review of our internal controls and
procedures for financial reporting, we have made personnel changes and hired
additional qualified staff in the legal, accounting/finance and human resource
areas and are utilizing third parties to assist with some of our integration
and internal audit functions. This review is ongoing, and the review to date
constitutes the evaluation required by Rule 13a-15(d) of the Securities
Exchange Act of 1934. 
 PART II. OTHER INFORMATION 
 ITEM 1. LEGAL PROCEEDINGS Commencing in February 2002, approximately 15 putative securities class action
lawsuits were filed against us and certain of our current and former officers
and directors in the United States District Court for the Southern District of
Texas. These class actions (together with subsequently filed actions) were
consolidated into one case, Pirelli Armstrong Tire Corporation Retiree Medical
Benefits Trust, On Behalf of Itself and All Others Similarly Situated, Civil
Action No. H-02-0410, naming as defendants Hanover, Mr. Michael J. McGhan, Mr.
William S. Goldberg and Mr. Michael A. OConnor. The complaints asserted
various claims under Sections 10(b) and 20(a) of the Securities Exchange Act of
1934 and sought unspecified amounts of compensatory damages, interest and
costs, including legal fees. The court entered an order appointing Pirelli
Armstrong Tire Corporation Retiree Medical Benefits Trust and others as lead
plaintiffs on January 7, 2003 and appointed Milberg, Weiss, Bershad, Hynes &
Lerach LLP as lead counsel. On September 5, 2003, lead plaintiffs filed an
amended complaint in which they continued to seek relief under Sections 10(b)
and 20(a) of the Securities Exchange Act against Hanover, certain former
officers and directors and our auditor, PricewaterhouseCoopers LLP, on behalf
of themselves and the class of persons who purchased Hanover securities between
May 4, 1999 and December 23, 2002. Commencing in February 2002, four derivative lawsuits were filed in the United
States District Court for the Southern District of Texas, two derivative
lawsuits were filed in state district court for Harris County, Texas (one of
which was nonsuited and the second of which was removed to Federal District
Court for the Southern District of Texas) and one derivative lawsuit was filed
in the Court of Chancery for the State of Delaware in and for New Castle
County. These derivative lawsuits, which were filed by certain of our
shareholders purportedly on behalf of Hanover, alleged, among other things,
that our directors breached their fiduciary duties to shareholders and sought
unspecified amounts of damages, interest and costs, including legal fees. The
derivative lawsuits in the United States District Court for the Southern
District of Texas were consolidated on August 19 and August 26, 2002 into the
Harbor Finance Partners derivative lawsuit. With that consolidation, the
pending derivative lawsuits were: DatePlaintiff
    
    Defendants
    
    Civil Action No.
    
    Court
    
    InstitutedHarbor Finance Partners,
Derivatively on behalf of
Hanover Compressor Company
    
    Michael J. McGhan,
William S.
Goldberg, Ted
Collins, Jr.,
Robert R. Furgason,
Melvyn N. Klein,
Michael A.
OConnor, and Alvin
V. Shoemaker,
Defendants and
Hanover Compressor
Company, Nominal
Defendant
    
    H-02-0761
    
    United States District
Court for the Southern
District of Texas
    
    03/01/02Coffelt Family,
LLC, derivatively on
behalf of Hanover
Compressor Company
    
    Michael A.
OConnor, Michael
J. McGhan, William
S. Goldberg, Ted
Collins, Jr.,
Melvyn N. Klein,
Alvin V. Shoemaker,
and Robert R.
Furgason,
Defendants and
Hanover Compressor
Company, Nominal
Defendant
    
    19410-NC
    
    Court of Chancery for
the State of Delaware
State Court in New
Castle County
    
    02/15/02
 On October 2, 2003, the Harbor Finance Partners derivative lawsuit was
consolidated into the Pirelli Armstrong Tire Corporation Retiree Medical
Benefits Trust securities class action. On and after March 26, 2003, three plaintiffs filed separate putative class
actions against Hanover, certain named individuals and other purportedly
unknown defendants, in the United States District Court for the Southern
District of Texas. The alleged class is comprised of persons who participated
in or were beneficiaries of The Hanover Companies Retirement and Savings Plan,
which was established by Hanover pursuant to Section 401(k) of the United
States Internal Revenue Code of 34




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##### Table of Contents



1986, as amended. The purported class action
seeks relief under the Employee Retirement Income Security Act (ERISA) based
upon Hanovers and the individual defendants alleged mishandling of Hanovers
401(k) Plan. The three ERISA putative class actions are entitled: Kirkley v.
Hanover, Case No. H-03-1155; Angleopoulos v. Hanover, Case No. H-03-1064; and
Freeman v. Hanover, Case No. H-03-1095. On August 1, 2003, the three ERISA
class actions were consolidated into the Pirelli Armstrong Tire Corporation Retiree Medical Benefits Trust
federal securities class action. On October 9, 2003, a consolidated amended
complaint was filed by the plaintiffs in the ERISA class action against
Hanover, Michael McGhan, Michael OConnor and William Goldberg, which included
the same allegations as indicated above, and was filed on behalf of themselves
and a class of persons who purchased or held Hanover securities in their 401(k)
Plan between May 4, 1999 and December 23, 2002. On October 23, 2003, we entered into a Stipulation of Settlement, which,
subject to court approval, will settle the claims underlying the securities
class actions, the ERISA class actions and the shareholder derivative actions
described above. The terms of the proposed settlement provide for us to: (i)
make a cash payment of approximately $30 million (of which $26.7 million was
funded by payments from Hanovers directors and officers insurance carriers),
(ii) issue 2.5 million shares of our common stock, and (iii) issue a contingent
note with a principal amount of $6.7 million. The note is payable, together
with accrued interest, on March 31, 2007 but can be extinguished (with no
monies owing under it) if our common stock trades at or above the average price
of $12.25 per share for 15 consecutive days at any time between March 31, 2004
and March 31, 2007. As part of the settlement, we have also agreed to implement
corporate governance enhancements, including allowing large shareholders to
participate in the process to appoint two independent directors to our Board.
Our independent auditor, PricewaterhouseCoopers LLP, is not a party to the
settlement and will continue to be a defendant in the consolidated securities
class action. GKH Investments, L.P. and GKH Private Limited (collectively GKH), which
together own approximately ten percent of Hanovers outstanding common stock
and which sold shares in the Companys March 2001 secondary offering of common
stock, are parties to the proposed settlement and have agreed to settle claims
against them that arise out of that offering as well as other potential
securities, ERISA, and derivative claims. The terms of the proposed settlement
provide for GKH to transfer 2.5 million shares of Hanover common stock from
their holdings or from other sources. In connection with this settlement, we initially recorded a pre-tax charge of
approximately $68.7 million ($54.0 million after tax) in our first quarter 2003
financial statements. This charge included approximately $42.1 million ($27.4
million after tax), net of insurance recoveries, for our contribution of cash
and estimated costs, 2.5 million Hanover common shares, and the contingent
note. The charge also included approximately $26.6 million, without tax
benefit, for 2.5 million Hanover common shares to be funded by GKH. Because
this settlement could be considered to be a related party transaction as
defined in SEC Staff Accounting Bulletin 5-T, the fair value of the Hanover
common shares to be paid by GKH was recorded as an expense in Hanovers
statement of operations. As discussed in our Quarterly Report on Form 10-Q for the three months ended
March 31, 2003, we planned to seek guidance from the Office of the Chief
Accountant of the SEC to determine whether the Hanover common shares provided
by GKH should be recorded as an expense by us. After the submission of a
detailed letter and discussions with the SEC Staff, the Staff informed us that
it would not object to GKHs portion of the settlement not being considered a
related party transaction as defined in SEC Staff Accounting Bulletin 5-T.
Accordingly, the $26.6 million charge related to the 2.5 million Hanover common
shares being paid by GKH could be reversed from our first quarter 2003
financial statements. On August 5, 2003, we filed an amendment to our Quarterly Report on Form 10-Q
for the three months ended March 31, 2003 to amend our first quarter 2003
financial statements to exclude the $26.6 million charge related to the 2.5
million Hanover common shares being funded by GKH. As a result, in our first
quarter 2003 financial statements, as amended, we recorded a pre-tax charge of
approximately $42.1 million ($27.4 million after tax), net of insurance
recoveries, for our contribution of cash and estimated costs, 2.5 million
Hanover common shares, and the contingent note. In addition, in the second quarter of 2003, we adjusted our estimate of the
settlement and recorded an additional $1.7 million charge due to the change in
the value from May 14 to June 30, 2003 of the 2.5 million Hanover common shares
contributed by us in connection with the settlement. In the third quarter of
2003, we recorded a reduction in the charge of $3.5 million to adjust our
estimate of the settlement due to additional change in the value of such stock
since June 30, 2003. Based on the terms of the settlement agreement, we determined that a liability
related to these lawsuits was probable and that the value was reasonably
estimable. Accordingly, we evaluated the individual components of the
settlement in consideration of existing market conditions and established an
estimate for the cost of the litigation settlement. The details of this
estimate are as follows (in thousands): Second &ThirdAmended First
    
    QuarterQuarter
    
    Adjustment ToEstimated
    
    EstimatedSettlement
    
    Settlement
    
    TotalCash
    
    $
    30,050
    
    
    $
    
    
    
    $
    30,050Estimated fair value of note to be issued
    
    
    5,194
    
    
    
    
    
    
    
    5,194Common stock to be issued by Hanover
    
    
    26,600
    
    
    
    (1,850
    )
    
    
    24,750Legal fees and administrative costs
    
    
    6,929
    
    
    
    
    
    
    
    6,929Total
    
    
    68,773
    
    
    
    (1,850
    )
    
    
    66,923Less insurance recoveries
    
    
    (26,670
    )
    
    
    
    
    
    
    (26,670
    )Net estimated litigation settlement
    
    $
    42,103
    
    
    $
    (1,850
    )
    
    $
    40,253
 The $5.2 million estimated fair value of the note to be issued was based on the
present value of the future cash flows discounted at borrowing rates currently
available to us for debt with similar terms and maturities. Utilizing a
market-borrowing rate of 11%, the principal value and stipulated interest rate
required by the note of 5% per annum, an estimated discount of $1.5 million was
computed on the note to be issued. Upon the issuance of the note, the discount
will be amortized to interest expense over the term of the note. Because the
note could be extinguished without a payment (if our common stock trades at or
above the average price of $12.25 per share for 15 consecutive days at any time
between March 31, 2004 and March 31, 2007), we will be required to record an
asset in future periods for the value of the embedded derivative, as required
by SFAS 133, when the note is issued. This asset will be marked to market in
future periods with any increase or decrease included in our statement of
operations. 35




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As of September 30, 2003, our accompanying balance sheet includes a $30.2
million long-term liability pending approval by the courts and satisfaction of
certain other conditions and $34.6 million in accrued liabilities related to
amounts which are expected to be paid in the next twelve months. During the
second quarter, the $26.7 million receivable from the insurance carriers and $2.8 million of our portion
of the cash settlement was paid into an escrow fund and is included in the
accompanying balance sheet as restricted cash. Upon approval of the settlement
by the court, we will record such amounts in liabilities and stockholders
equity, respectively, and will include the shares in our outstanding shares
used for earnings per share calculations. The final value of the settlement may differ significantly from the estimates
currently recorded depending on the market value of our common stock when
approved by the court and potential changes in the market conditions affecting
the valuation of the note to be issued. Additionally, the settlement is
contingent on court approval and certain other conditions. Accordingly, we will
revalue our estimate of the cost of the settlement on a quarterly basis until
the settlement is approved by the court. On July 18, 2003, the parties entered into an Amended Memorandum of
Understanding which did not alter the aggregate amount to be paid under the
settlement described above, but in which the counsel for the named plaintiffs
in the Angleopoulos and the Freeman ERISA class actions agreed to become
parties to the settlement. As partial consideration therefore, it was agreed
that an additional $0.8 million (for a total of $1.8 million) from the
settlement fund that was previously designated for relief for the securities
class actions would be reallocated to provide relief in connection with the
ERISA class actions. On October 13, 2003, the parties entered into a Second
Amended and Restated Memorandum of Understanding that included an additional
$225,000 contribution to the settlement (to be funded equally by Hanover and
GKH) and by which counsel in the Harbor Finance derivative action became a
party to the settlement. As part of this arrangement, Hanover agreed to certain
additional governance procedures including certain enhancements to its code of
conduct. On October 23, 2003, the parties to the Second Amended and Restated Memorandum
of Understanding entered into a Stipulation of Settlement which, subject to
court approval, will fully and finally resolve all of the securities class
actions, ERISA class actions and shareholder derivative actions filed against
Hanover and certain other individuals. PricewaterhouseCoopers LLP is not a
party to the Stipulation of Settlement and will remain a defendant in the
federal securities class action. On October 24, 2003, the parties moved the
court for preliminary approval of the proposed settlement and sought permission
to provide notice to the potentially affected persons and to set a date for a
final hearing to approve the proposed settlement. The settlement, therefore,
remains subject to court approval and could be the subject of an objection by
potentially affected persons. On November 14, 2002, the SEC issued a Formal Order of Private Investigation
relating to the transactions underlying and other matters relating to the
restatements of our financial statements announced in 2002. We have cooperated
with the Fort Worth District Office Staff of the SEC in its investigation.
Based upon our discussions to date with the Fort Worth District Office Staff of
the SEC, we currently believe that a settlement of the investigation will be
reached on terms that we do not believe will have a material adverse impact on
our business, consolidated financial position, results of operations or cash
flows. However, we can give no assurances in this regard, and we expect any
settlement with the SEC to include findings of violations of the securities
laws by us with respect to certain of the restated transactions. We understand
that any resolution of the investigation reached by us with the Fort Worth
District Office Staff of the SEC will have no legal effect until it is reviewed
and, if appropriate, approved by the SEC in Washington, D.C., and we cannot
predict what action might ultimately be taken against us by the SEC. As such,
we do not anticipate announcing any resolution of the investigation unless and
until such resolution is approved by the SEC in Washington, D.C. As of September 30, 2003, we had incurred approximately $14.0 million in legal
related expenses in connection with the internal investigations, the putative
class action securities lawsuits, the derivative lawsuit and the SEC
investigation. Of this amount, we advanced approximately $2.2 million on behalf
of current and former officers and directors in connection with the above-named
proceedings. We intend to advance the litigation costs of our officers and
directors, subject to the limitations imposed by Delaware and other applicable
law and Hanovers certificate of incorporation and bylaws. We expect to incur
approximately $4.4 million in additional legal fees and administrative expenses
in connection with the settlement of the securities-related litigation, the SEC
investigation and advances on behalf of current and former officers and
directors for legal fees. On June 25, 1999, we notified the Air Quality Bureau of the Environmental
Protection Division, New Mexico Environment Department of potential violations
of regulatory and permitting requirements. The violations included failure to
conduct required performance tests, failure to file required notices and
failure to pay fees for compressor units located on sites for more than one
year. We promptly paid the required fees and corrected the violations. On June
12, 2001, after the violations had been corrected, the Director of the Division
issued a compliance order to us in connection with the alleged violations. The
compliance order assessed a civil penalty of $15,000 per day per regulatory
violation and permit; no total penalty amount was proposed in the compliance
order. On October 3, 2003, the Division notified us that the total proposed
penalty would be $759,072. However, since the alleged violations had been
self-disclosed, that amount was reduced to $189,768. We expect to respond to
the penalty assessment, challenging some of the calculations, and will propose
an alternative settlement amount, which we expect to be less than $100,000. In the ordinary course of business we are involved in various other pending or
threatened legal actions, including environmental matters. While management is
unable to predict the ultimate outcome of these actions, it believes that any
ultimate liability arising from these actions will not have a material adverse
effect on our consolidated financial position, results of operations or cash
flows. 36




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ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits  10.1
    
    Stipulation And Agreement Of Settlement(1) [10.1]10.2
    
    Second Amended and Restated Memorandum of Understanding(1) [10.2]31.1
    
    Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002(2)31.2
    
    Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002(2)32.1
    
    Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002(3)32.2
    
    Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002(3)  (1)
    
    Such exhibit previously filed as an exhibit to the Companys Quarterly Report on Form 10-Q for the third quarter of 2003, under
the exhibit number indicated in brackets [], and is incorporated by reference.(2)
    
    Filed herewith.(3)
    
    Furnished herewith. (b) Reports submitted on Form 8-K:  1.
    
    A report on Form 8-K was filed on July 13, 2003, which reported under
the caption Item 5 Other Events and Required FD Disclosure the
death of Michael OConnor, Hanovers director and chairman emeritus of
the company. A copy of the press release was attached as Exhibit 99.1
under caption Item 7(c)Exhibits. Also reported under the caption
Item 5 Other Events and Required FD Disclosure was the announcement
that Hanover entered into an Amended Memorandum of Understanding
related to its securities litigation settlement. A copy of the Amended
Memorandum of Understanding was attached as Exhibit 10.1 under the
caption Item 7(c)Exhibits. The date of such report (the date of the
earliest event reported) was July 18, 2003.2.
    
    A report on Form 8-K was filed on July 30, 2003, which reported under
caption Item 9Regulation FD Disclosure (Information furnished under
Item 12  Results of Operations and Financial Condition) Hanovers
financial results for the fiscal quarter ended June 30, 2003. A copy
of the press release was attached as Exhibit 99.1 under the caption
Item 7(c)Exhibits. The date of such report (the date of the
earliest event reported) was July 30, 2003. 37




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SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. HANOVER COMPRESSOR COMPANY Date: April 5, 2004 By:
    
    /s/    CHAD C. DEATON
Chad C. Deaton
President and Chief Executive Officer
 Date: April 5, 2004 By:
    
    /s/ JOHN E. JACKSON
John E. Jackson
Senior Vice President and Chief Financial Officer
 38




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EXHIBIT INDEX  10.1
    
    Stipulation And Agreement Of Settlement(1) [10.1]10.2
    
    Second Amended and Restated Memorandum of Understanding(1) [10.2]31.1
    
    Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002(2)31.2
    
    Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002(2)32.1
    
    Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(3)32.2
    
    Certification of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002(3)  (1)
    
    Such exhibit previously filed as an exhibit to the Companys Quarterly Report on Form 10-Q for the third quarter of 2003, under the exhibit number indicated in
brackets [], and is incorporated by reference.(2)
    
    Filed herewith.(3)
    
    Furnished herewith. 39