AZURE MIDSTREAM PARTNERS, LP

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. ORGANIZATION AND DESCRIPTION OF BUSINESS

General

In this Quarterly Report, the terms “Partnership”, “our”, “we”, “us” and “its” refer to Azure Midstream Partners, LP itself or Azure Midstream Partners, LP together with its consolidated subsidiaries, which includes the Azure System, as defined below, for all periods presented.

In this Quarterly Report the term “Legacy System” refers to the Legacy gathering system entities and assets, which has been deemed to be the predecessor of the Partnership for accounting and financial reporting purposes. The closing of the transactions described below under "”Sale of General Partner Interests and Contribution of the Legacy System"” (the “Transactions”) occurred on February 27, 2015, and was reflected in the condensed consolidated financial statements of the Partnership using, for accounting purposes, a date of convenience of February 28, 2015 (the “Transaction Date”). The effect of recording the Transactions as of the Transaction Date was not material to the information presented.

In this Quarterly Report the term “Azure System” refers to the operations of the Legacy System, together with the contribution of Azure ETG, LLC; a Delaware limited liability company (“Azure ETG”) that owns and operates the East Texas gathering system, (the “ETG System”), for periods beginning November 15, 2013, representing the period Azure Midstream Energy LLC (“AME”), a Delaware limited liability company that is wholly owned by Azure Midstream Holdings LLC a Delaware limited liability company, (collectively “Azure”), acquired 100% of the equity interests in the entities that own the Legacy System and the ETG System up to the Transaction Date. Azure contributed the ETG System to the Partnership on August 6, 2015, effective as of July 1, 2015. This transaction was determined to be a transaction between entities under common control for financial reporting purposes. Accordingly, we have recast the financial results of the Partnership to include the financial results of the ETG System for all periods presented.

Organization and Description of Business

Azure Midstream Partners, LP is a publicly traded Delaware master limited partnership that was formed by NuDevco Partners, LLC and its affiliates ("NuDevco") to develop, own, operate and acquire midstream energy assets. We currently offer natural gas gathering, compression, dehydration, treating, processing, and hydrocarbon dew-point control and transportation services to producers, marketers and third-party pipeline companies.

As of March 31, 2016, Azure owned and controlled: (i) our general partner, Azure Midstream Partners GP, LLC, a Delaware limited liability company, (the "General Partner"), through its ownership of a 1.93% general partner interest; (ii) 255,319 common units, representing 1.2% of our outstanding limited partner interests; and (iii) 90% of our IDR Units, as defined below. As of March 31, 2016, NuDevco owned: (i) 1,939,265 of our common units, representing an 8.9% limited partner interest; (ii) 8,724,545 of our subordinated units, representing a 40.0% limited partner interest; and (iii) 10% of our IDR Units, as defined below. As of March 31, 2016, the public owned 10,869,634 of our common units, representing a 49.9% limited partner interest. Azure, through its ownership of our General Partner, controls us and is responsible for managing our business and operations.

Going Concern Uncertainty

The Partnership’s liquidity outlook changed throughout 2015 and continuing through the first quarter of 2016, due to continued low commodity prices, which are expected to affect a number of companies in the oil and natural gas industries, including our customers. Lower commodity prices have caused a significant reduction in drilling, completing and connecting new wells, which has caused a reduction in our forecasted volumes. These lower volumes have negatively impacted our operating cash flows. The downturn in the market has also effected the Partnership’s ability to access the capital markets, which would have allowed the Partnership to facilitate growth or reduce debt.

As a result of these and other factors the Partnership’s ability to comply with financial covenants and ratios in its senior secured revolving credit facility (the "Credit Agreement") has adversely impacted the Partnership’s ability to continue as a going concern. Absent a waiver or amendment, failure to meet these covenants and ratios would have resulted in a default and, to the extent the applicable lenders so elect, an acceleration of the existing indebtedness, causing such debt of approximately $231.6 million to be immediately due and payable. Based upon our current estimates and expectations for commodity prices in 2016, we do not expect to remain in compliance with all of the restrictive covenants contained in our Credit Agreement throughout 2016 unless those requirements are waived or amended. The Partnership does not currently have adequate liquidity to repay all of its outstanding debt in full if such debt were accelerated.

The report of the Partnership’s independent registered public accounting firm that accompanies its 2015 audited consolidated financial statements contains an explanatory paragraph regarding the substantial doubt about the Partnership’s ability to continue as a going concern. The condensed consolidated financial statements do not include any adjustments that might result from the outcome of the going concern uncertainty. The Partnership’s Credit Agreement contains the requirement to deliver audited consolidated financial statements without a going concern or like qualification or exception. Consequently, the Partnership would have been in default under the Credit Agreement. Had we been unable to obtain a waiver or other suitable relief from the lenders under the Credit Agreement prior to the expiration of the 30 day grace period, an Event of Default (as defined in the Credit Agreement) would have resulted in the lenders holding a majority of the commitments under the Credit Agreement, accelerate the outstanding indebtedness, which would have made it immediately due and payable. On March 29, 2016, the Partnership entered into the Third Amendment to the Credit Agreement (as defined below). See Note 3 for further information regarding our ability to continue as a going concern.

Associated Energy Services, LP (“AES”) Contract Terminations

During the first quarter of 2016, AES was delinquent in paying amounts invoiced under its gathering and processing contracts, as well as its logistics contracts, with subsidiaries of the Partnership. The contracts had provisions requiring AES to make payments based on minimum volume commitments (“MVCs”). AES caused its bank to issue a $15.0 million letter of credit to the administrative agent under the Credit Agreement to secure the amount of its obligations under its logistics contracts. On March 31, 2016, the Partnership’s General Partner executed a settlement agreement with AES and its parent, NuDevco, (the “AES Agreement”) to resolve these issues under the gathering and processing agreements and the logistics contracts. The execution of the AES Agreement resulted in the following: (i) on April 1, 2016, AES instructed our administrative agent to draw down the full $15.0 million amount of the letter of credit, the proceeds of which were applied to pay down debt under our Credit Agreement; (ii) effective as of January 1, 2016 the gathering and processing agreement and the logistics contracts were terminated; (iii) effective April 1, 2016, NuDevco surrendered to the Partnership 8,724,545 subordinated units, 1,939,265 common units and 10 IDR Units of the Partnership held by NuDevco or its subsidiary; (iv) the parties released each other from other claims in respect of the terminated contracts; and (v) AES assigned all of its rights and interests in third-party contracts to Azure. The AES Agreement was subject to final approval from the lenders under the Credit Agreement. See Note 15 for information on the effect of the AES Agreement on ongoing operations.

Amendment to Credit Agreement

On March 29, 2016, the Partnership entered into the third amendment to the Credit Agreement (“Third Amendment”). The amendment waived the affirmative covenant that stated if the Partnership’s annual financial statements, prepared in accordance with generally accepted accounting standards, contained any going concern qualification an event of default would result, for the year ended December 31, 2015. Additionally, the Third Amendment waived certain other events of default until June 30, 2016.

Under the terms of the Third Amendment, we are still prohibited from declaring or paying any distributions to unitholders if a default or event of default exists.

Suspension of Distribution

As a result of covenant restrictions contained in our Credit Agreement, the Partnership’s board of directors and management have suspended the distribution for the quarterly period ended March 31, 2016. The board of directors will continue to evaluate the Partnership’s ability to reinstate the distribution, although reinstatement of distributions is not expected in the near term absent substantial improvement in our operating performance and compliance with the terms of our Credit Agreement.

Sale of General Partner Interest and Contribution of the Legacy System

On February 27, 2015, we consummated a transaction agreement, (the “Transaction Agreement”) by and amongst us, Azure, our General Partner, NuDevco and Marlin IDR Holdings Inc, LLC, a wholly owned subsidiary of NuDevco (“IDRH”). The consummation of the Transaction Agreement resulted in Azure contributing the Legacy System to us, and Azure receiving $92.5 million in cash and acquiring 100% of the equity interests in our General Partner and 90% of our incentive distribution rights.

The Transaction Agreement occurred in the following steps:

we (i) amended and restated the Agreement of Limited Partnership of Marlin Midstream Partners, LP (the "Partnership Agreement") for the second time to reflect the unitization of all of our incentive distribution rights, (as unitized, the “IDR Units”); and (ii) recapitalized the incentive distribution rights owned by IDRH into 100 IDR Units;

we redeemed 90 IDR Units held by IDRH in exchange for a payment of $63.0 million to IDRH, (the “Redemption”);

Azure contributed the Legacy System to us through the contribution, indirectly or directly, of: (i) all of the outstanding general and limited partner interests in Talco Midstream Assets, Ltd., a Texas limited liability company and subsidiary of Azure (“Talco”); and (ii) certain assets, the (“TGG Assets”) owned by TGG Pipeline, Ltd., a Texas limited liability company and subsidiary of Azure ("TGG") and, collectively with Talco, ("TGGT"), in exchange for aggregate consideration of $162.5 million, which was paid to Azure in the form of: (i) a cash payment of $99.5 million; and (ii) the issuance of 90 IDR Units, (the foregoing transaction, collectively, the “Contribution”); and

Azure purchased from NuDevco: (i) all of the outstanding membership interests in our General Partner, (the “GP Purchase”) for $7.0 million; and (ii) an option to acquire up to 20% of each of the common units and subordinated units held by NuDevco as of the execution date of the Transaction Agreement, the (“Option”) and, together with the Redemption, Contribution and GP Purchase, the Transactions.

The Legacy System consists of approximately 666 miles of high-and low-pressure gathering lines and serves approximately 100,000 dedicated acres within the Harrison, Panola and Rusk counties in Texas and Caddo parish in Louisiana and currently serves the Cotton Valley formation, the Haynesville shale formation and the shallower producing sands in the Travis Peak formation. The Legacy System has access to seven major downstream markets, three third-party processing plants and our Panola County processing plants.

Contribution of the ETG System

On August 6, 2015, the Partnership entered into a contribution agreement, (the “Contribution Agreement”) with AME, which is the sole member of the General Partner. Pursuant to the Contribution Agreement, AME contributed 100% of the outstanding membership interests in Azure ETG to the Partnership in exchange for the consideration described below, (the "ETG Contribution"). The closing of the transactions contemplated by the Contribution Agreement occurred simultaneously with the execution of the Contribution Agreement. The Contribution Agreement contains customary representations and warranties, indemnification obligations and covenants by the parties, and provides that the ETG Contribution was effective on July 1, 2015.

The following transactions took place pursuant to the Contribution Agreement:

as consideration for the membership interests of Azure ETG, the Partnership paid AME $80.0 million in cash and issued 255,319 common units representing limited partner interests in the Partnership to Azure.

the Partnership entered into a gas gathering agreement, (the "Gas Gathering Agreement") with TGG, an indirect subsidiary of AME.

The ETG System includes approximately 255 miles of gathering pipelines, two treating plants, 5 MMcf/d of processing capacity and four interconnections with major interstate pipelines providing 1.75 Bcf per day of access to downstream markets. A total of 336,000 gross acres in thepresee Haynesville Shale and Bossier Shale formations are dedicated to the ETG System under 23 long-term producer contracts.

The Partnership financed the cash consideration portion of the ETG Contribution with an $80.0 million draw from its credit facility.