HF Sinclair Corporation
Q4 2007 Earnings Call Transcript

Published: 19 Feb 2008

[Operator:]

Good morning. My name is Amanda and I will be your conference operator today. At this time I would like to welcome everyone to the Holly Corporation fourth quarter 2007 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks there will be a question and answer session. (Operator Instructions). I would now like to turn the call over to Neale Hickerson of Holly Corporation. Please go ahead, Sir.

[M. Neale Hickerson:]

Good morning. I’m Neale Hickerson, Vice President of Investor Relations at Holly. I’d like to welcome you to our fourth quarter 2007 and full-year earnings conference call. With us this morning are Matt Clifton, Chairman and CEO of Holly Corporation, Dave Lamp, President of Holly, and Bruce Shaw, Senior Vice President and Chief Financial Officer. We issued a press release this morning at 7

[Bruce R. Shaw:]

Thanks, Neale. And Amanda, we may have a line that’s not muted, but let me go ahead and follow up with my remarks. My remarks this morning will cover four topics. First, our earnings for the fourth quarter and year-end 2007. Second, the continued strength of our balance sheet given our strong cash position. Third, an update on our stock repurchase activity. And fourth, an update on the value of our ownership position in Holly Energy Partners. First, our earnings. As you’ve seen from our press release this morning, earnings for the fourth quarter were (inaudible) $0.90 per diluted share as compared to $47.7 million or $0.86 per diluted share for the fourth quarter of 2006. Our net income for the quarter on a year-over-year basis benefited from $11.1 million higher sales of sulfur credit than in the fourth quarter of 2006, a higher gross margin per barrel on our Woods Cross refinery, a decrease in SG&A costs due primarily to lower incentive compensation costs offset by a lower gross margin at our Navajo refinery on slightly higher volumes. Navajo’s gross margin per barrel averaged $7.95 for the quarter versus $11.30 per barrel for the same quarter last year. Our estimated gross margin for Navajo for January ’08 was approximately $6 per barrel and it’s showing improvement from that level in early February to the low double-digit range. For our Woods Cross refinery in Utah our gross margin per barrel averaged $7.28 in the quarter versus $15.05 per barrel for the same quarter last year. Our estimated gross margin for Woods Cross in January ’08 was approximately $19 per barrel and we see February starting in that same range. Our earnings from continuing operations for the full year of ’07 were $334.1 million or $5.98 per diluted share versus $246.9 million or $4.24 per diluted share for the year ended December 31st, ’06. EBIDTA from continuing operations grew from $414.5 million in ’06 to $528.9 million in ’07. The primary drivers for these year-over-year increases were an increase in our refinery runs at our Navajo refinery of approximately 7,900 barrels per day, a $3.59 per barrel increase in gross margin realized at our Woods Cross refinery on a slight increase in refinery volumes, an increase in profitability of our asphalt business, a $7 million increase in revenue generated year over year from sulfur credit sales, and a reduction in operating expenses per barrel. For 2007 we sold approximately $23 million worth of sulfur credits at an average price of $151 per credit. We generated approximately 85,000 to 90,000 credits in 2007 and have approximately 88,000 to 93,000 credits available for sale at December 31st, ’07. While the prices for credits remain volatile, they currently are in the $130- to $140-per-credit range. I want to highlight for you the increasing contribution of the Woods Cross refinery to our company’s total performance. In 2005 Woods Cross contributed approximately $40 million in EBIDTA or about 13% of our total. In 2006 it contributed over $100 million in EBIDTA amounting to over 20% of the total. And in 2007 Woods Cross generated $150 million in EBIDTA, 28% of total EBIDTA. Second, let me turn to the continued strength of our balance sheet. At the end of 2007 we had $329.8 million of cash and marketable securities and no debt. Looking forward, we believe our cash on hand, plus cash generated from operations in 2008, and $171 million we will receive from HEP for the pipeline and tankage transaction announced last November will be more than sufficient to cover our capital project investments planned for ’08. Given slight permit delays for the Navajo refinery expansion project, our capital expending of $160 million for the year was about $40 million behind the pace of our last public forecast. Matt will have a few additional comments on the projects and their scheduled completion dates later in the call. Third, I’ll provide an update of our stock repurchase activity. As of December 31st, ’07, we’ve repurchased approximately $518 million in Holly shares since we began buying stock back in 2005, including 2.7 million shares repurchased during the fourth quarter. This amounts to 13.5 million shares at the end of ’07 or over 20% of the outstanding shares since the inception of the stock buy-back at an average price of $38.29 a share. We had approximately 56.2 million common shares outstanding at the end of ’07. We continued our stock buy-back program in the first quarter of ’08 and repurchased an additional 1.8 million shares for approximately $82 million. We have $100 million left in our repurchase authorization. Fourth, I’ll now cover a few highlights of our HEP ownership. Prior to the announced pipeline and tankage transaction with HEP, we have a 45% ownership in HEP which includes our 2% GP stake. With HEP units trading at 4250 per unit, or in that range, our subordinated and common units are worth about $300 million. On February 14th HEP paid its recently announced distribution of $0.72½ per unit, for which Holly received $5.1 million for its common and subordinated units, plus approximately $0.9 million for its GP interest which included $0.7 million of incentive distributions. With that, I’ll turn things over to Matt.

[Matthew P. Clifton:]

Thanks, Bruce. As Bruce has outlined, we had a great 2007. This is our fourth consecutive year with sealed-by-record refinery production levels, increased Woods Cross margins, sustained high margin levels at Navajo, and lower refinery operating expenses per barrel. These effects combined for a 35% increase in net income from continuing operations over our previous 2006 record year. Our employees did a fantastic job in controlling costs in a tough cost environment while safely operating our facilities in a manner to maximize our financial results. We benefited this year from our 2006 refinery upgrades at both refineries, which allowed 100% of our diesel to be produced as high-value, ultra-low sulfur diesel and for us to realize the financial benefits in the expanded Navajo facility. We also benefited by expanding our processing of deeply discounted crude at Woods Cross and our 90-plus% low-priced sour crude processing capabilities at Navajo. Our Holly asphalt company was again a good contributor to our 2007 results, as was the substantial benefit realized in selling sulfur credits generated by our proactive, lower-than-mandated, sulfur levels in gasoline. During 2007 our crude flexibility and expansion projects progressed well. We remain on budget and are now in field construction phase at those refineries. Expect the Woods Cross project to be completed in the third quarter of 2008. This will expand the refinery by 5,000 barrels a day and increase our ability to process deeply discounted black wax or heavy Canadian crudes from roughly 20% currently to 50%. The first phase at Navajo, at 15,000-barrel expansion, is expected to be completed in Q1 2009. With the second phase, modification to run 40% heavy Canadian, expected at the end of third quarter 2009. The Navajo first phase completion is approximately one quarter later than we first expected due to the longer-than-anticipated permit review. The Woods Cross project and the second-phase Navajo is approximately one-quarter and two-quarters, respectively, earlier than we first estimated. Our previously announced Salt Lake City to Las Vegas pipeline project also remains on budget and is expected to be operational in mid-2009 instead of the previous Q1 2009 original estimate. Again, due to a longer-than-expected permit process. In the current construction environment we are pleased with where we are on these projects and believe it reflects very favourably on the quality of our project management leaders and our in-house execution capabilities. In the fourth quarter, although Woods Cross margins remained at lofty levels, the Navajo margins declined due to low west coast gasoline prices during the quarter and their effects on our Phoenix gasoline sales prices. This continued into January ’08, although we have seen steep increases in gasoline prices in California and Arizona as we head into the gasoline summer grade production period. Initial indications lead to us to expect another excellent spring and summer gasoline season. Looking forward, with exciting capital projects coming on line in the near term at both refineries, we are confident that we can continue to deliver peer-leading return on investor capital results for the foreseeable future. These capital projects will deliver step-changing earning power to our company. The projects will expand our refinery capacity by nearly 20%, open the Las Vegas market to our Woods Cross refinery, and, most important, raise our ability to process steeply discounted black wax and heavy Canadian crude from our current 5,000-barrel-a-day level to 55,000 barrels per day. Once these refinery projects are completed our crude slate will go to 40% black wax/heavy Canadian, 46% sour crude, and just 14% sweet, dramatically driving down our raw material costs at current discount levels. We remain extremely optimistic about our future and proud of our strong financial condition. We continue to be committed to prudently deploying our capital to increased shareholder value by either identifying and executing value-added enhancements to our existing assets, opportunistically acquiring attractive additions to our asset base, our continuing to return cash to our shareholders through stock buy-backs and dividends. Since we have started our buy-back program in mid-2005 we have purchased approximately $600 million of poly stock representing over 20% of the stock that was outstanding at the start of the program while maintaining a stellar balance sheet. One final note

[M. Neale Hickerson:]

Well, that concludes our prepared remarks for this morning. I’d like to turn things back over to Amanda to announce again the procedure for answering question and we’re ready to take your questions at this point.

[Operator:]

(Operator Instructions). Your first question is from Jeff Deitert with Simmons.

[Jeff Deitert:]

Good morning. I was wondering if you could talk a little bit about the third-party marketing. It looks like that had a nice contribution this quarter. Could you talk a little bit about what’s going on there?

[Matthew P. Clifton:]

You might be a little bit more specific on the third-party marketing.

[Jeff Deitert:]

The sales of purchased products was $5 million for the quarter, $5.4 million for the quarter. Gross margin.

[Matthew P. Clifton:]

Right. There, basically from time to time we’re net short, particularly as we started to ramp up our increased sales to Arizona with more access under the Kinder Morgan expanded line to Phoenix. I think we just showed some opportunistically buy and re-sale opportunities there in the fourth quarter.

[Jeff Deitert:]

Okay. And within the other revenue category, I believe that’s where the sulfur credit sales were included, but it looked like that was an above average contribution, even adjusting for the sulfur credits. Any comment on the contributions there?

[Bruce R. Shaw:]

Jeff, the other component of other revenues – it’s Bruce – is our asphalt sales revenue, our asphalt business. That’s the other strong contributor to that number.

[Matthew P. Clifton:]

Jeff, basically our asphalt business, just to remind you, it’s not only markets, the asphalt produced at our Navajo refinery, but we also buy a fair amount of asphalt from third parties and upgrade it by modifying with polymers to sell it into the higher-valued asphalt business. That’s kind of the spread between acquisition and ultimate sales price to the consumers.

[Jeff Deitert:]

So the price for the premium asphalt widened during the quarter relative to previous quarters?

[Matthew P. Clifton:]

Yeah, there was a widening, I think, between the ultimate price of the premium asphalt and the depressed price of the commodity asphalt that we were able to buy.

[Jeff Deitert:]

Thank you.

[Operator:]

Your next question is from Chi Chow with Tristone Capital.

[Chi Chow:]

Thanks. Just following up on Jeff’s question there on asphalt. It’s a little bit surprising given that 4Q seasonally is typically a weak quarter in asphalt. Is this something you think is refutable going forward?

[Matthew P. Clifton:]

Chi, the one opportunity that you have usually in the fourth quarter in the asphalt business is buying distressed asphalt or asphalt that’s basically sold at a discount due to tankage constraints. So basically in the industry it’s called ‘winter fill.’ So you sometimes have opportunities in the fourth quarter to buy the commodity asphalt at deeply discounted price just because refiners in certain circumstances have to get rid of it just due to tankage constraints.

[Chi Chow:]

Okay. That’s continuing here in the first quarter?

[Matthew P. Clifton:]

No. I think we’ve pretty much filled out our winter fill purchases in the fourth quarter.

[Chi Chow:]

Okay. And then a question on the UNEV pipeline. When do you expect to actually obtain the permits and begin construction on the project?

[Matthew P. Clifton:]

Right now, Chi, our best estimate is to obtain it probably at the end of the summer this year. In the late August time frame. And we’ve already had bids on the construction. We have pipe being fabricated. So we’ll commence the pipeline construction at that time. We will be starting the construction of the two terminals – one in North Las Vegas and one outside of Cedar City, Utah – prior to that time since we have already got permits from the respective state authorities to proceed with those terminals.

[Chi Chow:]

And the total construction time on the pipeline is something around a year then?

[Matthew P. Clifton:]

Something about nine months.

[Chi Chow:]

Okay. And then one final question. Do you have an updated capex number for ’08 and ’09, if you’ve got it?

[Matthew P. Clifton:]

Yeah. I think Bruce has it here.

[Bruce R. Shaw:]

Yeah, the ’08 number, Chi, is going to be in the mid-$400 million range. So kind of taking that $40 million that we’re slightly behind pace in ’07, shifting it over to ’08 and shifting a little bit of the UNEV costs forward to ’09, I think we see ’09 still in kind of the mid-$100 million range, $150 million to $170 million.

[Chi Chow:]

Okay. Thanks a lot.

[Operator:]

Your next question is from Daniel Burke with Johnson Rice.

[Daniel Burke:]

Good morning. Question on the plans to get the Canadian crudes over towards Navajo. Any update on the potential opportunities for how to accomplish that as that timeline gets a little shorter?

[Matthew P. Clifton:]

We’ve made a lot of progress on there. We’re really at the point right now unfortunately that we can’t announce anything, but we should be able to announce something fairly soon. But we’ve made progress on at least one of the alternatives that we were pursuing.

[Daniel Burke:]

Okay. And then another question. The operating costs look pretty good in the fourth quarter. Can you address the operating cost outlook for 2008 and then, the second question, are we going to see opex increase due to, I guess, the incremental fees you’ll be paying over to HEP due to the sale of the mid-stream assets?

[Matthew P. Clifton:]

On the second part of that question, basically, the primarily the fees that will be paid by Holly to HEP will be related to moving crude into the refineries and gathering in the crude system. So those additional fees would be embedded in the cost of sales rather than the operating expenses. And I think Bruce has some information on the going forward operating expenses.

[Bruce R. Shaw:]

Yeah, I think we benefited a bit this year, year over year from ’06, in slightly lower natural gas prices. I think if you take the fourth quarter operating expenses of around $55 million that’s a pretty good go-forward quarterly rate to use.

[Matthew P. Clifton:]

I think the only caveat there is just assume that the natural gas prices stay roughly where they were in the fourth quarter. That would be the variable.

[Bruce R. Shaw:]

Right. For every dollar increase we see in natural gas prices that can drive $6 million or so of increase in operating expenses.

[Matthew P. Clifton:]

Per year, I think.

[Bruce R. Shaw:]

Per year. That’s right.

[Daniel Burke:]

Okay. Great. Thanks.

[Operator:]

Your next question is from Daniel Vetter with J. P. Morgan.

[Daniel Vetter:]

Good morning. I was hoping you could just comment on the implications that this Alon refinery explosion has for Holly. Or to what extent do your markets overlap with the markets that that refinery serve?

[Matthew P. Clifton:]

Basically we haven’t heard to what extent the refinery will be down or how long it will be down yet, but we market in the Albuquerque, northern New Mexico area as well as the El Paso areas is the main areas that we compete with Alon. They move volume into the El Paso area of HEP’s pipelines from West Texas down to El Paso. And then we have some arrangements whereby we exchange barrels, Holly exchanges barrels that they’ve received from Alon in El Paso to get barrels back in the Albuquerque-Bloomfield areas. So on direct competition that’s the main areas we compete on the product side. On the crude side, Alon and Holly, as well as ConocoPhillips in Borger, are the main sour crude buyers in the Permian Basin. We do compete with them on the crude purchase side.

[Daniel Vetter:]

Okay. And one more if I may. With some refining capacity coming on line in the Asia-Pacific region in the coming years, some of which may end up on the west coast shores, how do you expect that additional product to impact the Phoenix and Las Vegas markets that you’ll have increasing access to with your product pipeline from Salt Lake to Las Vegas and now with the recent expansion of the Kinder Morgan pipeline to Phoenix? Do you expect to see any weakening in those markets or what do you expect the impact to be?

[Matthew P. Clifton:]

Well, I think that the big question on that capacity coming on line is how the supply-demand balance in that area of the world is after that comes on. Whether it will be absorbed in the China and India demand by itself. But the west coast has been a net importer of something like 100,000 barrels a day on product side to keep it balanced, so we would see that continuing. It’s hard to say right now what the impact would be. I think we’re just set up in both refineries we’re reconfiguring to run very cheap crudes to be ultra competitive. So we think we’re positioning ourselves to control the cost side to be the most competitive we can in any environment. But indications are right now is that the, that we feel good about where we are and that we’ll be able to continue to serve the markets that we’ve traditionally served efficiently. We have both of our refineries running at full capacity now to meet the demand and we see that continuing.

[Daniel Vetter:]

Okay. Thank you.

[Operator:]

(Operator Instructions). Your next question is from Jacques Rousseau with Back Bay Research.

[Jacques Rousseau:]

Good quarter, gentlemen. Just a question on the Woods Cross project. When do you start locking in the crude supply for that?

[Matthew P. Clifton:]

Jacques, we already have a contract for black wax of 5,000 barrels a day with Barry (sic) and we also have a shorter term contract with Newfield and we’ll continue to work those volumes up on those contracts as we phase into these projects.

[Jacques Rousseau:]

So where do you see the, I guess you’re going to get to about 15,000 barrel per day of capacity for black wax or Canadian. When do you think you’ll have most of that locked in? I think that’s a pretty important metric that people are tracking.

[Matthew P. Clifton:]

As soon as we activate the Newfield contract at 5,000 barrels a day. We are currently not at that. We will be at about eight and then the rest we’ll be, we’re actively negotiating with those two companies to see what we can do on additional volume.

[Jacques Rousseau:]

Right. And just to make sure I’m clear on this, it’s at 74% of WTI?

[Matthew P. Clifton:]

Seventy-four-point-five.

[Jacques Rousseau:]

Seventy-four-point-five. Right. One other question. On the share repurchases, I just want to make sure I picked up all these numbers. Where is the actual share count at the end of the year?

[Bruce R. Shaw:]

It’s 52.6 million common shares, Jacques.

[Jacques Rousseau:]

Is that the basic or the diluted share count?

[Bruce R. Shaw:]

That’s the basic share count.

[Jacques Rousseau:]

What would be the diluted at year end?

[Bruce R. Shaw:]

It’s roughly 500,000 more shares, Jacques.

[Jacques Rousseau:]

Okay. And then did you say that there was 82 million purchased so far in the first quarter?

[Bruce R. Shaw:]

That’s correct.

[Jacques Rousseau:]

Great. Thank you.

[Operator:]

That does conclude the Q&A portion of today’s call. I’ll turn it back over to Management for further remarks.

[M. Neale Hickerson:]

Well, this is Neale again. We appreciate everyone listening today and for those of you who have follow-up questions as you review the content of the call and the press release we’re certainly happy to visit with you at your convenience. Thanks a lot everyone.

[Operator:]

Thank you for participating in today’s conference call. You may now disconnect.