<PAGE> 1
================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
--------------------- ---------------------
Commission file number 1-13175
-----------------
VALERO ENERGY CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 74-1828067
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One Valero Place
San Antonio, Texas
(Address of principal executive offices)
78212
(Zip Code)
(210) 370-2000
(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
--- ---
-----------------
Indicated below is the number of shares outstanding of the registrant's
only class of common stock, as of August 1, 2000.
<TABLE>
<CAPTION>
Number of
Shares
Title of Class Outstanding
-------------- -----------
<S> <C>
Common Stock, $.01 Par Value 61,512,122
</TABLE>
================================================================================
<PAGE> 2
VALERO ENERGY CORPORATION AND SUBSIDIARIES
INDEX
<TABLE>
<CAPTION>
Page
----
<S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets - June 30, 2000 and December 31, 1999......... 3
Consolidated Statements of Income - for the Three Months Ended and
Six Months Ended June 30, 2000 and 1999............................... 4
Consolidated Statements of Cash Flows - for the Six Months Ended
June 30, 2000 and 1999................................................ 5
Notes to Consolidated Financial Statements................................ 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................................. 18
Item 3. Quantitative and Qualitative Disclosures About Market Risk........... 31
PART II. OTHER INFORMATION..................................................... 34
Item 1. Legal Proceedings.................................................... 34
Item 4. Submission of Matters to a Vote of Security Holders.................. 34
Item 6. Exhibits and Reports on Form 8-K..................................... 35
SIGNATURE....................................................................... 38
</TABLE>
2
<PAGE> 3
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
VALERO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF DOLLARS)
<TABLE>
<CAPTION>
June 30,
2000 December 31,
(Unaudited) 1999
------------- -----------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and temporary cash investments .................................. $ 10,379 $ 60,087
Receivables, less allowance for doubtful accounts of
$3,216 (2000) and $3,038 (1999) .................................... 651,873 372,542
Inventories .......................................................... 492,310 303,388
Current deferred income tax assets ................................... 69,754 79,307
Prepaid expenses and other ........................................... 41,867 13,534
----------- -----------
1,266,183 828,858
----------- -----------
PROPERTY, PLANT AND EQUIPMENT - including
construction in progress of $172,621 (2000)
and $114,747 (1999), at cost ......................................... 3,362,875 2,607,204
Less: Accumulated depreciation .................................... 743,363 692,497
----------- -----------
2,619,512 1,914,707
----------- -----------
DEFERRED CHARGES AND OTHER ASSETS ...................................... 327,298 235,707
----------- -----------
$ 4,212,993 $ 2,979,272
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Short-term debt ...................................................... $ 185,000 $ --
Accounts payable ..................................................... 731,872 616,895
Accrued expenses ..................................................... 168,372 102,087
----------- -----------
1,085,244 718,982
----------- -----------
LONG-TERM DEBT ......................................................... 1,173,005 785,472
----------- -----------
DEFERRED INCOME TAXES .................................................. 307,457 275,521
----------- -----------
DEFERRED CREDITS AND OTHER LIABILITIES ................................. 126,777 114,528
----------- -----------
VALERO-OBLIGATED MANDATORILY REDEEMABLE
PREFERRED CAPITAL TRUST SECURITIES OF SUBSIDIARY
TRUST HOLDING SOLELY VALERO SENIOR NOTES ............................. 172,500 --
----------- -----------
COMMON STOCKHOLDERS' EQUITY:
Common stock, $.01 par value - 150,000,000 shares authorized;
issued 62,311,166 (2000) and 56,331,166 (1999) shares .............. 623 563
Additional paid-in capital ........................................... 1,251,471 1,092,348
Retained earnings (accumulated deficit) .............................. 110,601 (3,331)
Treasury stock, 537,969 (2000) and 264,464 (1999) shares, at cost .... (14,685) (4,811)
----------- -----------
1,348,010 1,084,769
----------- -----------
$ 4,212,993 $ 2,979,272
=========== ===========
</TABLE>
See Notes to Consolidated Financial Statements.
3
<PAGE> 4
VALERO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, June 30,
--------------------------- ---------------------------
2000 1999 2000 1999
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
OPERATING REVENUES ............................................. $ 3,372,502 $ 1,824,450 $ 6,301,119 $ 3,161,553
----------- ----------- ----------- -----------
COSTS AND EXPENSES:
Cost of sales and operating expenses ......................... 3,163,957 1,808,653 5,991,298 3,096,000
Selling and administrative expenses .......................... 23,125 14,540 42,794 32,728
Depreciation expense ......................................... 27,028 21,274 50,868 43,607
----------- ----------- ----------- -----------
Total ...................................................... 3,214,110 1,844,467 6,084,960 3,172,335
----------- ----------- ----------- -----------
OPERATING INCOME (LOSS) ........................................ 158,392 (20,017) 216,159 (10,782)
OTHER INCOME (EXPENSE), NET .................................... 271 350 2,203 (444)
INTEREST AND DEBT EXPENSE:
Incurred ..................................................... (24,510) (16,013) (38,657) (30,301)
Capitalized .................................................. 2,037 1,495 3,424 3,326
DISTRIBUTIONS ON PREFERRED SECURITIES OF
SUBSIDIARY TRUST ............................................. (110) -- (110) --
----------- ----------- ----------- -----------
INCOME (LOSS) BEFORE INCOME TAXES .............................. 136,080 (34,185) 183,019 (38,201)
INCOME TAX EXPENSE (BENEFIT) ................................... 48,400 (12,100) 64,600 (13,400)
----------- ----------- ----------- -----------
NET INCOME (LOSS) .............................................. $ 87,680 $ (22,085) $ 118,419 $ (24,801)
=========== =========== =========== ===========
EARNINGS (LOSS) PER SHARE OF COMMON STOCK ...................... $ 1.56 $ (.39) $ 2.11 $ (.44)
Weighted average common shares outstanding (in thousands) .... 56,174 56,162 56,024 56,109
EARNINGS (LOSS) PER SHARE OF COMMON STOCK -
ASSUMING DILUTION ............................................ $ 1.51 $ (.39) $ 2.05 $ (.44)
Weighted average common shares outstanding (in thousands) .... 58,113 56,162 57,676 56,109
DIVIDENDS PER SHARE OF COMMON STOCK ............................ $ .08 $ .08 $ .16 $ .16
</TABLE>
See Notes to Consolidated Financial Statements.
4
<PAGE> 5
VALERO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF DOLLARS)
(UNAUDITED)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
---------------------------
2000 1999
----------- -----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) .......................................................... $ 118,419 $ (24,801)
Adjustments to reconcile net income (loss)
to net cash provided by operating activities:
Depreciation expense ................................................... 50,868 43,607
Amortization of deferred charges and other, net ........................ 21,011 27,521
Changes in current assets and current liabilities ...................... (131,267) 114,472
Deferred income tax expense (benefit) .................................. 42,700 (13,800)
Changes in deferred items and other, net ............................... (8,024) 880
----------- -----------
Net cash provided by operating activities ............................ 93,707 147,879
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures ....................................................... (76,012) (58,270)
Deferred turnaround and catalyst costs ..................................... (59,776) (52,763)
Benicia Acquisition ........................................................ (889,730) --
Investment in joint ventures and other, net ................................ (1,890) (127)
----------- -----------
Net cash used in investing activities .................................... (1,027,408) (111,160)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Increase (decrease) in short-term debt, net ................................ 185,000 (129,000)
Long-term borrowings, including proceeds from senior notes offering ........ 1,754,306 592,794
Long-term debt reduction ................................................... (1,371,000) (501,000)
Proceeds from common stock offering, net ................................... 167,060 --
Issuance of common stock in connection with employee benefit plans ......... 9,563 4,696
Proceeds from offering of preferred securities of subsidiary trust, net .... 167,193 --
Common stock dividends ..................................................... (8,956) (8,978)
Purchase of treasury stock ................................................. (19,173) (626)
----------- -----------
Net cash provided by (used in) financing activities ...................... 883,993 (42,114)
----------- -----------
NET DECREASE IN CASH AND TEMPORARY CASH INVESTMENTS .......................... (49,708) (5,395)
CASH AND TEMPORARY CASH INVESTMENTS AT
BEGINNING OF PERIOD ........................................................ 60,087 11,199
----------- -----------
CASH AND TEMPORARY CASH INVESTMENTS AT
END OF PERIOD .............................................................. $ 10,379 $ 5,804
=========== ===========
</TABLE>
See Notes to Consolidated Financial Statements.
5
<PAGE> 6
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
As used in this report, the term "Valero" may refer, depending upon the
context, to Valero Energy Corporation, one or more of its consolidated
subsidiaries, or all of them taken as a whole.
The consolidated financial statements included in this report have been
prepared by Valero without audit, in accordance with the rules and regulations
of the Securities and Exchange Commission, or SEC. However, all adjustments have
been made to these financial statements which are, in the opinion of Valero's
management, necessary for a fair presentation of Valero's results of operations
for the periods covered. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted as permitted under the
SEC's rules and regulations, although Valero believes that the disclosures are
adequate to make the information presented not misleading. Certain prior period
amounts have been reclassified for comparative purposes. See Note 7.
2. ACQUISITION OF CALIFORNIA REFINING AND MARKETING ASSETS
During the second quarter of 2000, Valero completed the acquisition of
Exxon Mobil Corporation's Benicia, California refinery (the "Benicia Refinery")
and Exxon-branded California retail assets, which consisted of approximately 80
service stations (the "Service Station Assets") and branded supplier
relationships with approximately 260 Exxon-branded service stations (the
"Distribution Assets") (collectively, the "Benicia Acquisition"). ExxonMobil
agreed to sell these assets as a result of consent decrees issued by the Federal
Trade Commission and the State of California requiring certain assets to be
divested by ExxonMobil to satisfy anticompetitive issues in connection with the
1999 fourth quarter merger of Exxon Corporation and Mobil Corporation. The
purchase price for the Benicia Refinery, the Distribution Assets and the Service
Station Assets was $895 million, plus approximately $150 million for (i)
refinery inventories acquired in the transaction (based on market-related prices
at the time of closing) and (ii) certain costs incurred in connection with the
acquisition. As described further below, $155 million of the total purchase
price was funded through a structured lease arrangement for the Service Station
Assets and the Benicia Refinery's dock facility. The acquisition of the Benicia
Refinery and the Distribution Assets closed on May 15, 2000, and the structured
lease transaction closed on June 15, 2000.
In connection with the Benicia Acquisition, Valero assumed all
liabilities, including environmental liabilities, of ExxonMobil related to the
acquired California assets with certain exceptions, including those exceptions
enumerated below. ExxonMobil retained liability for (i) pending penalties
assessed for violations relating to the Benicia Refinery, (ii) pending lawsuits,
(iii) personal injury or exposure, including asbestos exposure, suffered by
ExxonMobil employees, contractors or subcontractors prior to closing, (iv) all
costs associated with compliance with a variance issued in connection with
control of nitrogen oxides, (v) claims in
6
<PAGE> 7
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
connection with offsite transportation and disposal of wastes prior to closing
asserted within three years of closing or asserted with respect to abandoned
disposal sites, (vi) the capital costs incurred within five years of closing for
specified corrective action of groundwater and soil contamination, (vii) all
covered contamination at the Service Station Assets caused by ExxonMobil or its
lessees that is reflected in baseline reports prepared prior to closing, (viii)
the repair or replacement of any underground storage tanks at the Service
Station Assets found to be leaking prior to closing and (ix) fines and penalties
imposed within five years of closing arising out of a request for information
from the Environmental Protection Agency relating to certain provisions of the
Clean Air Act that are attributable to actions taken prior to closing or
untimely or unresponsive responses to the request. ExxonMobil agreed to
indemnify Valero for all losses related to these retained liabilities, provided
that ExxonMobil will indemnify Valero for losses related to covered
contamination at the Service Station Assets for a period of five years from the
date of closing. In addition, ExxonMobil will indemnify Valero for breaches of
its representations and warranties to the extent that the aggregate amount of
Valero's losses resulting from such breaches exceeds $1 million and ExxonMobil
receives notice of such losses within one year after the closing date.
The Benicia Refinery is located on the Carquinez Straits of the San
Francisco Bay. It is considered a highly complex refinery and has a total
throughput capacity of 160,000 barrels per day, or "BPD." The Benicia Refinery
produces a high percentage of light products, with limited production of other
products. It can produce approximately 110,000 BPD of gasoline, 14,000 BPD of
jet fuel, 11,000 BPD of diesel and 8,000 BPD of natural gas liquids.
Approximately 95% of the gasoline produced by the Benicia Refinery meets the
California Air Resources Board ("CARB") specifications for CARB II gasoline sold
in California. The refinery has significant liquid storage capacity, including
storage for crude oil and other feedstocks. Also included with the refinery
assets are a deepwater dock located offsite on the Carquinez Straits that is
capable of berthing large crude carriers, petroleum coke storage silos located
on an adjacent dock, a 20-inch crude pipeline connecting the refinery to a
southern California crude delivery system, and an adjacent truck terminal for
regional truck rack sales. Under the consent decrees, ExxonMobil was required to
offer the buyer of the divested assets a crude oil supply contract. As a
consequence, in connection with the closing of the Benicia Acquisition, Valero
entered into a ten-year term contract providing for ExxonMobil to supply and for
Valero to purchase 100,000 BPD of Alaska North Slope ("ANS") crude oil at
market-related prices, to be reduced to 65,000 BPD on January 1, 2001. Prior to
January 1, 2001, Valero will have an option to reduce the volume of ANS crude to
65,000 BPD with 90 days' prior notice. After January 1, 2001, Valero will have
an option to reduce the required volumes by an additional 20,000 BPD once per
year.
The Service Station Assets include 10 company-operated service stations
and approximately 70 lessee-dealer service stations, 75 of which are in the San
Francisco Bay area. In connection with the consent decrees issued by the Federal
Trade Commission and the State of California, ExxonMobil was required to
withdraw the "Exxon" brand name from the San Francisco Bay area. As a result,
ExxonMobil notified the dealers in this
7
<PAGE> 8
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
market area that their franchise right to market "Exxon" branded products was
being terminated effective June 15, 2000. Valero is introducing its own brand of
retail petroleum products in the San Francisco Bay area and the dealers at these
locations have entered into a franchise agreement with Valero to market products
under the new Valero brand. Near the end of July 2000, Valero offered these
dealers an option to purchase the stations that they are currently leasing. As
part of the purchase option, the dealers must enter into a fuels purchase
agreement with Valero for a term of 15 years. The dealers have 90 days to
exercise or reject their purchase option.
The Distribution Assets include approximately 260 independently-owned
and operated distributor facilities which are located outside of the San
Francisco Bay area. The distributor locations have retained the right to use the
Exxon brand and will continue to receive Exxon brand support, while Valero has
received the exclusive rights to offer the Exxon brand throughout the state of
California (except for the San Francisco Bay area) for a ten-year period. In
connection with the Benicia Acquisition, ExxonMobil assigned to Valero all of
the existing Exxon California distributor contracts under which the distributors
will purchase Exxon-branded products from Valero after the acquisition.
The Benicia Acquisition was initially funded through interim financing
consisting of (i) borrowings of $600 million under a bank bridge loan facility,
(ii) borrowings of approximately $290 million under Valero's existing bank
credit facilities, and (iii) an approximate $30 million interim lease
arrangement for the Benicia Refinery's dock facility. Subsequently, Valero
entered into a $155 million structured lease arrangement for the Service Station
Assets and to replace the interim lease arrangement for the dock facility. The
$600 million of borrowings under the bridge loan facility and approximately $129
million of the borrowings under Valero's existing bank credit facilities were
subsequently repaid with the proceeds of (i) a common stock offering, (ii) an
offering of premium equity participating security units ("PEPS Units"), and
(iii) a senior notes offering, all of which were completed in late June 2000.
See Note 3 for details regarding these three offerings.
The Benicia Acquisition was accounted for under the purchase method
of accounting and the purchase price was allocated to the assets acquired and
liabilities assumed based on estimated fair values pending the completion of
independent appraisals and other evaluations. In accordance with the purchase
method, the accompanying Consolidated Balance Sheet as of June 30, 2000 includes
the assets acquired and liabilities assumed based on this preliminary purchase
price allocation, and the accompanying Consolidated Statements of Income for the
three months ended and six months ended June 30, 2000 includes the results of
operations related to the Benicia Refinery and the Distribution Assets beginning
May 16, 2000 and the results of operations related to the Service Station Assets
beginning June 16, 2000.
8
<PAGE> 9
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
The preliminary purchase price allocation, including transaction costs
incurred in the acquisition, was as follows (in thousands):
<TABLE>
<S> <C>
Inventories (includes certain base inventories and supplies inventories
included in the $895 million base purchase price) ..................... $ 171,471
Prepaid expenses and other ................................................ 15,000
Property, plant and equipment ............................................. 679,683
Deferred charges and other assets ......................................... 37,044
Accrued expenses .......................................................... (2,500)
Deferred credits and other liabilities .................................... (10,968)
---------
$ 889,730
=========
</TABLE>
The following unaudited pro forma financial information of Valero for
the six months ended June 30, 2000 and 1999 assumes that the Benicia Acquisition
and the securities offerings discussed in Note 3 below occurred at the beginning
of each period. This pro forma information is not necessarily indicative of the
results of future operations. (Dollars in thousands, except per-share amounts.)
<TABLE>
<CAPTION>
Six Months Ended
June 30,
--------------------------
2000 1999
----------- -----------
<S> <C> <C>
Operating revenues ...................................... $ 7,023,403 $ 3,661,422
Operating income ........................................ 266,164 48,857
Net income (loss) ....................................... 136,471 (7,052)
Earnings (loss) per common share ........................ 2.20 (.11)
Earnings (loss) per common share - assuming dilution .... 2.15 (.11)
</TABLE>
3. SECURITIES OFFERINGS
As described in Note 2, in late June 2000, Valero completed three
securities offerings, the proceeds from which were used to repay interim bank
borrowings incurred in connection with the Benicia Acquisition. These securities
were issued under Valero's $1.3 billion universal shelf registration statement
on Form S-3 which was filed with the SEC on March 31, 2000. These securities
offerings are further described below.
Common Stock
On June 28, 2000, Valero issued to the public 5,980,000 shares of its
common stock at $29.125 per share. The net proceeds received by Valero from this
offering were approximately $167 million.
9
<PAGE> 10
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Premium Equity Participating Security Units
On June 28, 2000, Valero issued to the public 6,900,000 7 3/4% PEPS
Units at $25.00 per unit. The net proceeds received by Valero from this offering
were approximately $167 million. Each PEPS Unit consists of (i) a purchase
contract for shares of Valero common stock and (ii) a trust preferred security.
Each purchase contract obligates the holder to purchase from Valero on
August 18, 2003, for a price of $25, the following number of shares of Valero
common stock based on the average closing price of Valero's common stock over
the 20-day trading period ending on the third trading day prior to August 18,
2003: (i) .71531 shares if the average closing price equals or exceeds $34.95;
(ii) a number of shares having a value equal to $25 if the average closing price
is less than $34.95 but greater than $29.125; and (iii) .85837 shares if the
average closing price is less than or equal to $29.125. The holder has the
option to settle a purchase contract early for a price of $25 in exchange for
.71531 shares of Valero common stock.
Each trust preferred security represents an undivided interest in the
assets of VEC Trust I (a wholly owned subsidiary trust of Valero), has a stated
liquidation amount of $25 and matures on August 18, 2005. The trust preferred
security is pledged as collateral to secure the PEPS Unit holder's obligation to
purchase Valero common stock under the related purchase contract. VEC Trust I
will pay a cash distribution on each trust preferred security of $1.9375 per
year (equal to 7.75% of the $25 stated liquidation amount) prior to August 18,
2003, and from August 18, 2003 until August 18, 2005, at a reset rate that may
be less than, equal to or greater than this amount. The cash distribution
payments will be made quarterly on February 18, May 18, August 18 and November
18 of each year, beginning August 18, 2000.
The assets of VEC Trust I consist solely of Valero senior deferrable
notes maturing on August 18, 2005. VEC Trust I's sole source of funds for
distributions on the trust preferred securities is the interest payments it
receives from Valero on the senior deferrable notes. Valero has the right to
defer interest on the senior deferrable notes until August 18, 2003, in which
case distributions on the trust preferred securities would also be deferred. Any
deferred distributions will accumulate and compound quarterly at the rate of
7.75% per year. Valero guarantees the payment of distributions on the trust
preferred securities to the extent interest is paid on the senior deferrable
notes.
The financial statements of VEC Trust I are included in the
accompanying consolidated financial statements of Valero, with the trust
preferred securities shown on the accompanying Consolidated Balance Sheet as of
June 30, 2000 as "Valero-obligated mandatorily redeemable preferred capital
trust securities of subsidiary trust holding solely Valero senior notes."
Distributions on the trust preferred securities, whether paid or accumulated,
are reflected as a charge to income and are shown on the accompanying
Consolidated
10
<PAGE> 11
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Statements of Income for the three months ended and six months ended June 30,
2000 as "distributions on preferred securities of subsidiary trust."
Prior to the issuance of shares of Valero common stock upon
settlement of the purchase contracts, the PEPS Units are reflected in Valero's
earnings per share calculations using the treasury stock method. Consequently,
the PEPS Units will only have a dilutive effect on earnings per share during
reporting periods when the average market price per share of Valero common stock
during the reporting period is above the average 20-day closing price assumed
for purchase contract settlement. See Note 6.
Senior Notes
On June 29, 2000, Valero issued to the public $200 million aggregate
principal amount of 8 3/8% senior notes which are due on June 15, 2005, and $200
million aggregate principal amount of 8 3/4% senior notes which are due on June
15, 2030. The net proceeds received by Valero from this offering were
approximately $395 million, including an aggregate discount of approximately
$1.8 million related to the two issuances. Interest payments on the notes will
be made semi-annually on June 15 and December 15 of each year, beginning
December 15, 2000. These notes do not have any sinking fund requirements and are
redeemable at any time, in whole or in part, at Valero's option.
4. INVENTORIES
Inventories are carried at the lower of cost or market. The cost of
refinery feedstocks purchased for processing and produced products are
determined primarily under the last-in, first-out ("LIFO") method of inventory
pricing, and the cost of feedstocks and products purchased for resale are
determined under the weighted average cost method. At June 30, 2000, the
replacement cost of Valero's LIFO inventories exceeded their LIFO carrying
values by approximately $309 million. The cost of materials and supplies is
determined principally under the weighted average cost method. Inventories as
of June 30, 2000 and December 31, 1999 were as follows (in thousands):
<TABLE>
<CAPTION>
June 30, December 31,
2000 1999
-------- --------
<S> <C> <C>
Refinery feedstocks ................. $114,683 $ 61,649
Refined products and blendstocks .... 310,692 183,519
Materials and supplies .............. 66,935 58,220
-------- --------
$492,310 $303,388
======== ========
</TABLE>
11
<PAGE> 12
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
5. STATEMENTS OF CASH FLOWS
In order to determine net cash provided by operating activities, net
income (loss) has been adjusted by, among other things, changes in current
assets and current liabilities. The changes in Valero's current assets and
current liabilities are shown in the following table as an (increase)/decrease
in current assets and an increase/(decrease) in current liabilities (in
thousands). These amounts exclude changes in "cash and temporary cash
investments," "current deferred income tax assets" and "short-term debt." Also
excluded from the amounts for the six months ended June 30, 2000 are the current
assets and current liabilities acquired in connection with the Benicia
Acquisition which are reflected separately in the Statement of Cash Flows.
<TABLE>
<CAPTION>
Six Months Ended
June 30,
-----------------------
2000 1999
--------- ---------
<S> <C> <C>
Receivables, net .............. $(279,331) $ (18,966)
Inventories ................... (17,451) (14,080)
Prepaid expenses and other .... (13,333) 3,440
Accounts payable .............. 115,063 138,500
Accrued expenses .............. 63,785 5,578
--------- ---------
Total ..................... $(131,267) $ 114,472
========= =========
</TABLE>
Cash flows related to interest and income taxes were as follows (in
thousands):
<TABLE>
<CAPTION>
Six Months Ended
June 30,
------------------
2000 1999
------- -------
<S> <C> <C>
Interest paid (net of amount capitalized) .... $32,993 $20,536
Income tax refunds received .................. 333 7,505
Income taxes paid ............................ 13,495 531
</TABLE>
6. EARNINGS PER SHARE
The computation of basic and diluted per-share amounts, as required by
the Financial Accounting Standards Board's ("FASB") Statement of Financial
Accounting Standards ("SFAS") No. 128, is as follows (dollars and shares in
thousands, except per-share amounts):
12
<PAGE> 13
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
<TABLE>
<CAPTION>
Three Months Ended June 30,
----------------------------------------------------------------
2000 1999
------------------------------ ------------------------------
Per- Per-
Net Share Net Share
Income Shares Amt. (Loss) Shares Amt.
-------- -------- ----- -------- -------- -----
<S> <C> <C> <C> <C> <C> <C>
Net income (loss) ................. $ 87,680 $(22,085)
======== ========
BASIC EARNINGS PER SHARE:
Net income (loss) available to
common stockholders ............. $ 87,680 56,174 $1.56 $(22,085) 56,162 $(.39)
===== =====
EFFECT OF DILUTIVE SECURITIES:
Stock options ..................... -- 1,400 -- --
Performance awards ................ -- 539 -- --
-------- -------- -------- --------
DILUTED EARNINGS PER SHARE:
Net income (loss) available to
common stockholders
plus assumed conversions ........ $ 87,680 58,113 $1.51 $(22,085) 56,162 $(.39)
======== ======== ===== ======== ======== =====
</TABLE>
<TABLE>
<CAPTION>
Six Months Ended June 30,
----------------------------------------------------------------
2000 1999
------------------------------ ------------------------------
Per- Per-
Net Share Net Share
Income Shares Amt. (Loss) Shares Amt.
-------- -------- ----- -------- -------- -----
<S> <C> <C> <C> <C> <C> <C>
Net income (loss) ................. $118,419 $(24,801)
======== ========
BASIC EARNINGS PER SHARE:
Net income (loss) available to
common stockholders ............. $118,419 56,024 $2.11 $(24,801) 56,109 $(.44)
===== =====
EFFECT OF DILUTIVE SECURITIES:
Stock options ..................... -- 1,121 -- --
Performance awards ................ -- 531 -- --
-------- -------- -------- --------
DILUTED EARNINGS PER SHARE:
Net income (loss) available to
common stockholders
plus assumed conversions ........ $118,419 57,676 $2.05 $(24,801) 56,109 $(.44)
======== ======== ===== ======== ======== =====
</TABLE>
Because Valero reported a net loss for the three months and six months
ended June 30, 1999, various stock options and performance awards which were
granted to employees in connection with Valero's stock
13
<PAGE> 14
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
compensation plans and were outstanding during such periods were not included in
the computation of diluted earnings per share because the effect would have been
antidilutive. At June 30, 1999, options to purchase approximately 6.4 million
common shares and performance awards totaling approximately 317,000 common
shares were outstanding.
7. NEW ACCOUNTING PRONOUNCEMENTS
In May 2000, the FASB's Emerging Issues Task Force ("EITF") reached a
consensus in connection with its Issue No. 00-1, "Investor Balance Sheet and
Income Statement Display under the Equity Method for Investments in Certain
Partnerships and Other Ventures." This consensus concluded that a proportionate
gross financial statement presentation is not appropriate for an investment in
an unincorporated legal entity accounted for by the equity method unless the
investee is in either the construction industry or an extractive industry (such
as oil and gas exploration and production but not related activities such as
refining, marketing or transporting extracted mineral resources) where there is
a longstanding practice of its use. In connection with adopting this consensus,
Valero has changed the current period financial statement presentation of its
interest in the Clear Lake, Texas methanol plant (owned by a joint venture
between a Valero subsidiary and Hoechst Celanese Chemical Group) from a
proportionate gross presentation to a single-amount equity method presentation.
In addition, Valero has also restated the comparative financial statements
included in this Form 10-Q to conform with the consensus. This single-amount
presentation related to Valero's investment in the Clear Lake methanol plant is
included in the accompanying Consolidated Balance Sheets under "Deferred charges
and other assets" and is included in the accompanying Consolidated Income
Statements under "Other income (expense), net."
In March 2000, the FASB issued Interpretation No. 44, "Accounting for
Certain Transactions involving Stock Compensation." This interpretation
clarifies the application of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," for certain issues including, among
other things, (i) the definition of employee for purposes of applying Opinion
25, (ii) the criteria for determining whether a plan qualifies as a
noncompensatory plan, (iii) the accounting consequence of various modifications
to the terms of a previously fixed stock option or award, and (iv) the
accounting for an exchange of stock compensation awards in a business
combination. This interpretation will become effective for Valero's financial
statements beginning July 1, 2000, including the effects of applying this
interpretation to certain specific events that occurred prior to July 1, 2000.
The adoption of this interpretation is not expected to have a material effect on
Valero's consolidated financial statements.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards requiring that every derivative instrument (including
certain derivative instruments embedded in other contracts) be recorded in the
balance sheet as either an asset or liability measured at its fair value. The
statement requires that changes in a
14
<PAGE> 15
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. Special accounting for qualifying hedges
allows a derivative's gains and losses to offset related results on the hedged
item in the income statement, and requires that a company must formally
document, designate, and assess the effectiveness of transactions that receive
hedge accounting. As issued, this statement was to become effective for Valero's
financial statements beginning January 1, 2000. However, in June 1999, the FASB
issued SFAS No. 137 which delayed for one year the effective date of SFAS No.
133. As a result, SFAS No. 133 will become effective for Valero's financial
statements beginning January 1, 2001 and is not allowed to be applied
retroactively to financial statements of prior periods. On this effective date,
SFAS No. 133 must be applied to (i) all freestanding derivative instruments and
(ii) all embedded derivative instruments required by the statement to be
separated from their host contracts (or, at Valero's election, only those
derivatives embedded in hybrid instruments issued, acquired or substantively
modified on or after either January 1, 1998 or January 1, 1999). Valero is
currently evaluating the impact on its financial statements of adopting this
statement. Adoption of this statement could result in increased volatility in
Valero's earnings and other comprehensive income.
8. LITIGATION AND CONTINGENCIES
Prior to July 31, 1997, Valero was a wholly owned subsidiary of a
separate corporation named at that time Valero Energy Corporation, or Old
Valero. Old Valero was engaged in both the refining and marketing business and
the natural gas related services business. On July 31, 1997, Old Valero spun off
Valero to Old Valero's stockholders and, with its remaining natural gas related
services business, merged with a wholly owned subsidiary of PG&E Corporation
(the "Restructuring"). Old Valero, together with certain of its natural gas
related subsidiaries, and Valero have been sued by Teco Pipeline Company
regarding the operation of a 340-mile pipeline in West Texas in which a
subsidiary of Old Valero holds a 50% undivided interest. The case was filed
April 24, 1996. In 1985, a subsidiary of Old Valero sold a 50% undivided
interest in the pipeline and entered into a joint venture through an ownership
agreement and an operating agreement, with the purchaser of the interest. In
1988, Teco succeeded to that purchaser's 50% interest. A subsidiary of Old
Valero has at all times been the operator of the pipeline. Despite the written
ownership and operating agreements, the plaintiff contends that a separate,
unwritten partnership agreement exists, and that the defendants have exercised
improper control over this alleged partnership's affairs. The plaintiff also
contends that the defendants acted in bad faith and negatively affected the
economics of the joint venture in order to provide financial advantages to
facilities or entities owned by the defendants, and by allegedly taking for the
defendants' own benefit certain opportunities available to the joint venture.
The plaintiff asserts causes of action for breach of fiduciary duty, fraud,
tortious interference with business relationships, professional malpractice and
other claims, and seeks unquantified actual and punitive damages. Old Valero's
motion to require arbitration of the case as required in the written agreements
was denied by the trial court, but Old Valero appealed, and in August 1999, the
court of appeals ruled in Old Valero's favor and ordered arbitration of the
entire dispute.
15
<PAGE> 16
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
Teco has since waived efforts to further appeal this ruling, and an arbitration
panel has been selected. Valero has been formally added to this proceeding. The
arbitration panel has scheduled the arbitration hearing for February 2001.
Although PG&E previously acquired Teco and now owns both Teco and Old Valero,
PG&E's agreement for the acquisition of Teco purports to assign the benefit or
detriment of this lawsuit to the former shareholders of Teco. In connection with
the Restructuring, Valero has agreed to indemnify Old Valero with respect to
this lawsuit for 50% of any final judgment or settlement amount up to $30
million, and 100% of that part of any final judgment or settlement amount over
$30 million.
In 1986, Valero filed suit against M.W. Kellogg Company for damages
arising from certain alleged design and construction defects in connection with
a major construction project at the Corpus Christi Refinery. Ingersoll-Rand
Company was added as a defendant in 1989. In 1991, the trial court granted
summary judgment against Valero based in part on certain exculpatory provisions
in various agreements connected with the project. In 1993, the court of appeals
affirmed the summary judgment and the Texas Supreme Court denied review.
Subsequent to the summary judgment, Kellogg and Ingersoll-Rand brought indemnity
claims against Valero for attorneys' fees and expenses incurred in defending the
original action. In 1996, the trial court rendered summary judgment against
Kellogg and Ingersoll-Rand based on procedural grounds, and the court of appeals
affirmed that ruling in 1997. However, in 1999, the Texas Supreme Court reversed
the court of appeals and remanded Kellogg's and Ingersoll-Rand's claims for
attorneys' fees and expenses to the trial court. The case is scheduled for trial
on August 21, 2000.
Valero has received notice of, but has not been served with, a
complaint filed April 28, 2000 in federal court by Texas City Railway Company
alleging that several companies, including Valero, are liable under the
Comprehensive Environmental Response, Compensation and Liability Act (CERCLA),
other environmental laws and tort law theories for alleged contamination of the
plaintiff's marine loading and tankering facilities. The parties are presently
seeking to resolve the matter through alternative dispute resolution.
On May 24, 2000, Valero was served with a complaint seeking to certify
a class action which alleges that numerous gasoline suppliers, including Valero,
contaminated groundwater in the State of New York with methyl tertiary butyl
ether (MTBE). Valero has filed a motion to dismiss the complaint based upon a
failure to state a claim and based upon federal preemption under the Clean Air
Act. In addition, motions to consolidate for pretrial proceedings are pending
before the Judicial Panel on Multidistrict Litigation. These motions seek
consolidation of this complaint with two other similar class action complaints.
Valero is also a party to additional claims and legal proceedings
arising in the ordinary course of business. Valero believes it is unlikely that
the final outcome of any of the claims or proceedings to which it is a party
would have a material adverse effect on its financial statements; however, due
to the inherent uncertainty of litigation, the range of possible loss, if any,
cannot be estimated with a reasonable degree of
16
<PAGE> 17
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
precision and there can be no assurance that the resolution of any particular
claim or proceeding would not have an adverse effect on Valero's results of
operations, financial position or liquidity.
9. SUBSEQUENT EVENTS
On July 20, 2000, Valero's Board of Directors declared a regular
quarterly cash dividend of $.08 per common share payable September 13, 2000, to
holders of record at the close of business on August 16, 2000.
17
<PAGE> 18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
This Form 10-Q contains certain estimates, predictions, projections and
other "forward-looking statements" (as defined in Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934) that involve
various risks and uncertainties. While these forward-looking statements, and any
assumptions upon which they are based, are made in good faith and reflect
Valero's current judgment regarding the direction of its business, actual
results will almost always vary, sometimes materially, from any estimates,
predictions, projections, assumptions, or other future performance suggested
herein. These forward-looking statements can generally be identified by the
words "anticipate," "believe," "expect," "plan," "intend," "estimate,"
"project," "budget," "forecast," "will," "could," "should," "may" and similar
expressions. These forward-looking statements include, among other things,
statements regarding:
o future refining margins, including gasoline and heating oil margins;
o expectations regarding feedstock costs, including crude oil discounts, and
operating costs;
o anticipated levels of crude oil and refined product inventories;
o Valero's anticipated level of capital investments, including deferred
turnaround and catalyst costs and capital expenditures for environmental
and other purposes, and the effect of these capital investments on Valero's
results of operations;
o anticipated trends in the supply and demand for crude oil feedstocks and
refined products in the United States and elsewhere;
o expectations regarding environmental and other regulatory initiatives; and
o the effect of general economic and other conditions on refining industry
fundamentals.
Valero's forward-looking statements are based on its beliefs and
assumptions derived from information available at the time the statements are
made. Differences between actual results and any future performance suggested in
these forward-looking statements could result from a variety of factors,
including the following:
o the domestic and foreign supplies of refined products such as gasoline,
diesel, heating oil and petrochemicals;
o the domestic and foreign supplies of crude oil and other feedstocks;
o the ability of the members of the Organization of Petroleum Exporting
Countries to agree to and maintain oil price and production controls;
o the level of consumer demand, including seasonal fluctuations;
o refinery overcapacity or undercapacity;
o the actions taken by competitors, including both pricing and the expansion
and retirement of refining capacity in response to market conditions;
o environmental and other regulations at both the state and federal levels
and in foreign countries;
o political conditions in oil producing regions, including the Middle East;
o the level of foreign imports;
18
<PAGE> 19
o accidents or other unscheduled shutdowns affecting Valero's plants,
machinery, pipelines or equipment, or those of Valero's suppliers or
customers;
o changes in the cost or availability of transportation for feedstocks and
refined products;
o the price, availability and acceptance of alternative fuels;
o cancellation of or failure to implement planned capital projects and
realize the various assumptions and benefits projected for such projects;
o irregular weather, which can unforeseeably affect the price or availability
of feedstocks and refined products;
o rulings, judgments, or settlements in litigation or other legal matters,
including unexpected environmental remediation costs in excess of any
reserves;
o the introduction or enactment of federal or state legislation which may
adversely affect Valero's business or operations;
o changes in the credit ratings assigned to Valero's debt securities and
trade credit; and
o overall economic conditions.
Any one of these factors, or a combination of these factors, could
materially affect Valero's future results of operations and whether any
forward-looking statements ultimately prove to be accurate. Valero's
forward-looking statements are not guarantees of future performance, and actual
results and future performance may differ materially from those suggested in any
forward-looking statement. Valero does not intend to update these statements
unless it is required by the securities laws to do so.
All subsequent written and oral forward-looking statements attributable
to Valero or persons acting on its behalf are expressly qualified in their
entirety by the foregoing. Valero undertakes no obligation to publicly release
the result of any revisions to any such forward-looking statements that may be
made to reflect events or circumstances after the date of this report or to
reflect the occurrence of unanticipated events.
19
<PAGE> 20
RESULTS OF OPERATIONS
SECOND QUARTER 2000 COMPARED TO SECOND QUARTER 1999
FINANCIAL HIGHLIGHTS (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Three Months Ended June 30,
---------------------------------------------------------
Change
----------------------
2000 1999 Amount %
----------- ----------- ----------- -------
<S> <C> <C> <C> <C>
Operating revenues ........................................ $ 3,372,502 $ 1,824,450 $ 1,548,052 85%
Cost of sales ............................................. (2,996,111) (1,682,385) (1,313,726) (78)
Operating costs:
Cash (fixed and variable) ............................. (156,593) (113,601) (42,992) (38)
Depreciation and amortization ......................... (36,785) (33,022) (3,763) (11)
Selling and administrative expenses (including related
depreciation expense) ................................. (24,621) (15,459) (9,162) (59)
----------- ----------- -----------
Total operating income ............................ $ 158,392 $ (20,017) $ 178,409 --(a)
=========== =========== ===========
Interest and debt expense, net ............................ $ (22,473) $ (14,518) $ (7,955) (55)
Income tax (expense) benefit .............................. $ (48,400) $ 12,100 $ (60,500) --(a)
Net income (loss) ......................................... $ 87,680 $ (22,085) $ 109,765 --(a)
Earnings (loss) per share of common stock - assuming
dilution .............................................. $ 1.51 $ (.39) $ 1.90 --(a)
Earnings before interest, taxes, depreciation
and amortization ("EBITDA") ........................... $ 197,705(b) $ 14,414 $ 183,291 --(a)
Ratio of EBITDA to interest incurred ...................... 8.0x(b) .9x 7.1x --(a)
</TABLE>
----------
(a) Percentage variance is greater than 100%.
(b) For purposes of this calculation, distributions on preferred securities of
subsidiary trust are included in interest incurred.
20
<PAGE> 21
OPERATING HIGHLIGHTS
<TABLE>
<CAPTION>
Three Months Ended June 30,
------------------------------------
Change
----------------
2000 1999 Amount %
----- ----- ------ ----
<S> <C> <C> <C> <C>
Sales volumes (Mbbls per day) .................... 1,086 1,037 49 5%
Throughput volumes (Mbbls per day) ............... 820 716 104 15
Average throughput margin per barrel ............. $5.04 $2.18 $2.86 --(d)
Operating costs per barrel:
Cash (fixed and variable) .................... $2.10 $1.74 $ .36 21
Depreciation and amortization ................ .49 .51 (.02) (4)
----- ----- -----
Total operating costs per barrel ......... $2.59 $2.25 $ .34 15
===== ===== ===== --
Charges:
Crude oils:
Sour ..................................... 51% 43% 8% 19
Heavy sweet .............................. 11 16 (5) (31)
Light sweet .............................. 8 9 (1) (11)
----- ----- -----
Total crude oils ..................... 70 68 2 3
High-sulfur residual fuel oil, or "resid" .... 3 3 -- --
Low-sulfur resid ............................. 4 7 (3) (43)
Other feedstocks and blendstocks ............. 23 22 1 5
----- ----- -----
Total charges ............................ 100% 100% --% --
===== ===== =====
Yields:
Gasolines and blendstocks .................... 52% 53% (1)% (2)
Distillates .................................. 28 28 -- --
Petrochemicals ............................... 3 4 (1) (25)
Lubes and asphalts ........................... 3 3 -- --
Other products ............................... 14 12 2 17
----- ----- -----
Total yields ............................. 100% 100% --% --
===== ===== =====
</TABLE>
AVERAGE MARKET REFERENCE PRICES AND DIFFERENTIALS
(DOLLARS PER BARREL AT U.S. GULF COAST, EXCEPT AS NOTED)
<TABLE>
<CAPTION>
Three Months Ended June 30,
------------------------------------
Change
----------------
2000 1999 Amount %
----- ----- ------ ----
<S> <C> <C> <C> <C>
Feedstocks:
West Texas Intermediate, or "WTI," crude oil .... $28.82 $17.63 $11.19 63%
WTI less sour crude oil (a) (c) ................. $ 2.96 $ 2.47 $ .49 20
WTI less ANS (U.S. West Coast) .................. $ 1.91 N/A -- --
WTI less sweet crude oil (b) (c) ................ $ (.43) $ .44 $ (.87) --(d)
Products:
Conventional 87 gasoline less WTI ............... $ 7.37 $ 2.85 $ 4.52 --(d)
CARB less ANS (U.S. West Coast) ................. $12.93 N/A -- --
No. 2 fuel oil less WTI ......................... $ 1.61 $ (.62) $ 2.23 --(d)
Propylene less WTI .............................. $14.54 $(1.90) $16.44 --(d)
</TABLE>
----------
(a) The market reference differential for sour crude oil is based on posted
prices for 35% Arab medium, 30% Arab light, 20% Basrah and 15% Oriente.
(b) The market reference differential for sweet crude oil is based on posted
prices for 50% light Louisiana sweet, or "LLS," and 50% Cusiana, with LLS
adjusted for backwardation.
(c) The market reference differential for the 1999 period has been restated
from the amount reported in Valero's June 30, 1999 Form 10-Q to conform to
the components used in the 2000 period.
(d) Percentage variance is greater than 100%.
21
<PAGE> 22
Valero reported net income for the second quarter of 2000 of $87.7
million, or $1.51 per share, compared to a net loss of $22.1 million, or $.39
per share, for the second quarter of 1999. The increase in second quarter
results was due primarily to a significant increase in throughput margins
resulting from strong refining industry fundamentals in the 2000 period compared
to exceptionally weak industry fundamentals in the 1999 period. Also
contributing to higher second quarter results was the contribution from the
Benicia Acquisition ($.13 per share) that was completed in May and June of 2000.
Partially offsetting the increases in income resulting from these factors were
the effect of scheduled and unscheduled refinery downtime experienced during the
2000 period, higher cash operating costs and selling and administrative expenses
(excluding the effect of the Benicia Acquisition) and an increase in income tax
expense.
Operating revenues increased $1.5 billion, or 85%, to $3.4 billion
during the second quarter of 2000 compared to the same period in 1999 due to a
$14.73, or 76%, increase in the average sales price per barrel and a 5% increase
in average daily sales volumes. The increase in average sales prices was due to
(i) significantly higher refined product prices resulting from reduced refined
product inventories and (ii) the effect of higher- priced sales of CARB gasoline
and other products in the California market in connection with the Benicia
Acquisition. The decline in refined product inventory levels was attributable
primarily to (i) lower crude oil supplies resulting from the continued impact of
OPEC's decision in March 1999 to significantly reduce production, (ii) lower
refinery utilization rates in late 1999 and early 2000, (iii) reduced refinery
production due to more stringent fuel specifications in the U.S. and Europe that
became effective in 2000, (iv) improved product demand and (v) high market
backwardation. Average daily sales volumes increased due primarily to additional
volumes attributable to the Benicia Acquisition.
Operating income was $158.4 million in the second quarter of 2000
compared to an operating loss of $20.0 million in the second quarter of 1999, a
$178.4 million increase. This increase, excluding the effect of the Benicia
Acquisition, was due mainly to an approximate $186 million increase in total
throughput margins (discussed below), partially offset by an approximate $22
million increase in cash operating costs and an approximate $8 million increase
in selling and administrative expenses (including related depreciation expense).
Cash operating costs were higher due primarily to an increase in employee
salaries and variable compensation, higher fuel costs attributable mainly to an
increase in natural gas prices, and higher maintenance costs related primarily
to the unscheduled downtime noted above. Selling and administrative expenses
(including related depreciation expense) increased primarily as a result of an
increase in employee variable compensation and other employee-related costs.
Total throughput margins (operating revenues less cost of sales),
excluding the effect of the Benicia Acquisition, increased due to (i)
significantly higher gasoline and distillate margins resulting primarily from
the improvement in industry fundamentals noted above, (ii) higher RFG premiums
and oxygenate margins due to improved demand and the tightening of fuel
specifications in the U.S. and Europe noted above, (iii) significantly higher
petrochemical margins resulting from improving worldwide demand, particularly in
Asia, and (iv) improved feedstock discounts for sour crude oil resulting
primarily from recent increases in sour crude oil production by OPEC and
increased demand for sweet crude oil due to lower sulfur requirements for
certain refined products. Partially offsetting the increases in total throughput
margins resulting from these factors were (i) the effect of the scheduled and
unscheduled downtime noted above, (ii) a decrease in sweet crude oil
differentials attributable to an increase in worldwide demand for sweet crude
oils resulting from the
22
<PAGE> 23
new 2000 fuel specifications noted above and (iii) lower prices for fuel oil and
other heavy products relative to crude oil prices. The downtime experienced
during the second quarter of 2000 included (i) a scheduled maintenance
turnaround of the fluid catalytic cracking unit, or FCC, at the Paulsboro
Refinery and unscheduled delays encountered in bringing this and other units
back into service, (ii) unscheduled maintenance of the heavy oil cracker at the
Corpus Christi Refinery resulting from a power outage, and (iii) unscheduled
repairs to the residfiner at the Texas City Refinery.
Net interest and debt expense increased $7.9 million, or 55%, to $22.5
million during the second quarter of 2000 compared to the same period in 1999
due primarily to borrowings under the bridge loan facility and Valero's existing
bank credit facilities required to fund the Benicia Acquisition (the effect of
which is included in the $.13 per share contribution from the Benicia
Acquisition noted above).
Income taxes increased from an income tax benefit of $12.1 million in
the second quarter of 1999 to income tax expense of $48.4 million in the second
quarter of 2000 due primarily to the significant increase in pre-tax income.
23
<PAGE> 24
YEAR-TO-DATE 2000 COMPARED TO YEAR-TO-DATE 1999
FINANCIAL HIGHLIGHTS (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
Six Months Ended June 30,
----------------------------------------------------
Change
--------------------
2000 1999 Amount %
----------- ----------- ----------- ------
<S> <C> <C> <C> <C>
Operating revenues ........................................ $ 6,301,119 $ 3,161,553 $ 3,139,566 99%
Cost of sales ............................................. (5,681,234) (2,838,754) (2,842,480) --(a)
Operating costs:
Cash (fixed and variable) ............................. (287,521) (231,634) (55,887) (24)
Depreciation and amortization ......................... (70,547) (67,434) (3,113) (5)
Selling and administrative expenses (including related
depreciation expense) ................................. (45,658) (34,513) (11,145) (32)
----------- ----------- -----------
Total operating income ............................ $ 216,159 $ (10,782) $ 226,941 --(a)
=========== =========== ===========
Other income (expense), net ............................... $ 2,203 $ (444) $ 2,647 --(a)
Interest and debt expense, net ............................ $ (35,233) $ (26,975) $ (8,258) (31)
Income tax (expense) benefit .............................. $ (64,600) $ 13,400 $ (78,000) --(a)
Net income (loss) ......................................... $ 118,419 $ (24,801) $ 143,220 --(a)
Earnings (loss) per share of common stock - assuming
dilution .............................................. $ 2.05 $ (.44) $ 2.49 --(a)
Earnings before interest, taxes, depreciation
and amortization ("EBITDA") ........................... $ 292,940(b) $ 58,809 $ 234,131 --(a)
Ratio of EBITDA to interest incurred ...................... 7.6x(b) 1.9x 5.7x --(a)
</TABLE>
----------
(a) Percentage variance is greater than 100%.
(b) For purposes of this calculation, distributions on preferred securities of
subsidiary trust are included in interest incurred.
24
<PAGE> 25
OPERATING HIGHLIGHTS
<TABLE>
<CAPTION>
Six Months Ended June 30,
------------------------------------
Change
----------------
2000 1999 Amount %
----- ----- ------ ----
<S> <C> <C> <C> <C>
Sales volumes (Mbbls per day) ............... 1,044 1,043 1 --%
Throughput volumes (Mbbls per day) .......... 782 707 75 11
Average throughput margin per barrel ........ $4.35 $2.52 $1.83 73
Operating costs per barrel:
Cash (fixed and variable) ............... $2.02 $1.81 $ .21 12
Depreciation and amortization ........... .50 .53 (.03) (6)
----- ----- -----
Total operating costs per barrel .... $2.52 $2.34 $ .18 8
===== ===== =====
Charges:
Crude oils:
Sour ................................ 51% 47% 4% 9
Heavy sweet ......................... 10 14 (4) (29)
Light sweet ......................... 9 10 (1) (10)
----- ----- ----
Total crude oils ................ 70 71 (1) (1)
High-sulfur resid ....................... 4 3 1 33
Low-sulfur resid ........................ 4 6 (2) (33)
Other feedstocks and blendstocks ........ 22 20 2 10
----- ----- ----
Total charges ....................... 100% 100% --% --
===== ===== ====
Yields:
Gasolines and blendstocks ............... 51% 52% (1)% (2)
Distillates ............................. 29 29 -- --
Petrochemicals .......................... 4 4 -- --
Lubes and asphalts ...................... 3 3 -- --
Other products .......................... 13 12 1 8
----- ----- ----
Total yields ........................ 100% 100% --% --
===== ===== ====
</TABLE>
AVERAGE MARKET REFERENCE PRICES AND DIFFERENTIALS
(DOLLARS PER BARREL AT U.S. GULF COAST, EXCEPT AS NOTED)
<TABLE>
<CAPTION>
Six Months Ended June 30,
-----------------------------------
Change
---------------
2000 1999 Amount %
----- ----- ------ ----
<S> <C> <C> <C> <C>
Feedstocks:
WTI crude oil ........................... $28.83 $15.34 $13.49 88%
WTI less sour crude oil (a) (c) ......... $ 2.70 $ 2.49 $ .21 8
WTI less ANS (U.S. West Coast) .......... $ 1.82 N/A -- --
WTI less sweet crude oil (b) (c) ........ $ (.56) $ .40 $( .96) --(d)
Products:
Conventional 87 gasoline less WTI ....... $ 5.83 $ 2.26 $ 3.57 --(d)
CARB less ANS (U.S. West Coast) ......... $12.13 N/A -- --
No. 2 fuel oil less WTI ................. $ 1.75 $ (.16) $ 1.91 --(d)
Propylene less WTI ...................... $ 8.46 $(1.10) $ 9.56 --(d)
</TABLE>
----------
(a) The market reference differential for sour crude oil is based on posted
prices for 35% Arab medium, 30% Arab light, 20% Basrah and 15% Oriente.
(b) The market reference differential for sweet crude oil is based on posted
prices for 50% LLS and 50% Cusiana, with LLS adjusted for backwardation.
(c) The market reference differential for the 1999 period has been restated
from the amount reported in Valero's June 30, 1999 Form 10-Q to conform to
the components used in the 2000 period.
(d) Percentage variance is greater than 100%.
25
<PAGE> 26
Valero reported net income for the first six months of 2000 of $118.4
million, or $2.05 per share, compared to a net loss of $24.8 million, or $.44
per share, for the first six months of 1999. The increase in year-to-date
results was due primarily to dramatically improved refining industry
fundamentals which resulted in a significant increase in throughput margins.
Also contributing to higher year-to-date results was the contribution from the
Benicia Acquisition ($.13 per share) completed in the 2000 period, and the
effect in the first quarter of 1999 of a major maintenance turnaround of the
heavy oil cracker and related units at the Corpus Christi Refinery, as well as
certain unit expansions implemented during that downtime, which both reduced
results for the 1999 period and increased results for the 2000 period. Partially
offsetting the increases in income resulting from these factors were the effects
of scheduled and unscheduled refinery downtime experienced during the 2000
period as described above in the quarter-to-quarter discussion, higher cash
operating costs and selling and administrative expenses (excluding the effect of
the Benicia Acquisition), an increase in income tax expense, and the
nonrecurrence in 2000 of a benefit to income in 1999 related to a permanent
reduction in LIFO inventories.
Operating revenues increased $3.1 billion, or 99%, to $6.3 billion
during the first six months of 2000 compared to the same period in 1999 due to a
$16.39, or 98%, increase in the average sales price per barrel. The increase in
sales prices was due primarily to the factors noted above in the
quarter-to-quarter discussion.
Operating income was $216.2 million for the first six months of 2000
compared to an operating loss of $10.8 million for the first six months of 1999,
a $227 million increase. This increase, excluding the effect of the Benicia
Acquisition, was due to an approximate $249 million increase in total throughput
margins (discussed below), partially offset by an approximate $35 million
increase in cash operating costs and an approximate $10 million increase in
selling and administrative expenses (including related depreciation expense).
Cash operating costs and selling and administrative expenses (including related
depreciation expense) increased primarily as a result of the factors noted above
in the quarter-to-quarter discussion.
Total throughput margins, excluding the effect of the Benicia
Acquisition, increased due to significantly higher margins for gasoline,
distillates, oxygenates and petrochemicals, and higher premiums for RFG,
resulting primarily from the factors noted above in the quarter-to-quarter
discussion. Partially offsetting these increases in total throughput margins
were (i) a decrease in feedstock discounts relative to WTI, (ii) lower prices
for fuel oil and other heavy products relative to crude oil prices, (iii) a
decrease in gains from trading activities and (iv) the nonrecurrence in 2000 of
a $10.5 million benefit in the first quarter of 1999 resulting from the
liquidation of LIFO inventories. The 1999 LIFO benefit was attributable to a
steep increase in prices at the end of the 1999 first quarter.
Other income (expense), net, increased by $2.6 million during the first
six months of 2000 compared to the same period in 1999 due primarily to improved
results of $5.4 million from Valero's 20% equity interest in the Javelina
off-gas processing plant in Corpus Christi attributable primarily to higher
prices for natural gas liquids, ethylene and other products, partially offset by
higher natural gas feedstock costs. Partially offsetting the increased results
from the Javelina investment were approximately $3 million of costs in 2000
related to the agreement entered into by Valero in September 1999 to sell a
portion of its accounts receivable.
26
<PAGE> 27
Net interest and debt expense increased $8.3 million, or 31%, to $35.3
million during the first six months of 2000 compared to the same period in 1999
due primarily to borrowings under the bridge loan facility and Valero's existing
bank credit facilities required to fund the Benicia Acquisition (the effect of
which is included in the $.13 per share contribution from the Benicia
Acquisition noted above).
Income taxes increased from an income tax benefit of $13.4 million in
the first six months of 1999 to income tax expense of $64.6 million in the first
six months of 2000 due primarily to the significant increase in pre-tax income.
OUTLOOK
Thus far in the third quarter of 2000, margins for all of Valero's
major products have remained strong. Heating oil margins on average have
improved from already favorable second quarter levels due to continued low
inventories and increasing demand, and are significantly in excess of third
quarter 1999 margins. Although Gulf Coast gasoline margins on average have
declined from the high levels achieved during the second quarter as inventories
have increased from historically low levels due to increased production, they
are still above historical averages and are in excess of third quarter 1999
margins. Average West Coast gasoline margins have increased substantially from
second quarter levels. With regard to other products, average margins thus far
in the third quarter of 2000 for RFG and MTBE have continued at favorable levels
due to continued strong demand.
With regard to feedstocks, average discounts for sour crude oil have
improved from second quarter levels due to increasing OPEC production of sour
crude oil and are well in excess of third quarter 1999 levels. Sweet crude oil
continues to trade at a premium to WTI due to increasing demand for sweet crudes
as a result of the new stringent 2000 fuel specifications. Valero expects to
continue to recognize significant benefits from its ability to meet current fuel
specifications using predominantly sour crude oil feedstocks as the supply of
sour crudes and the demand for sweet crudes increase in the future.
In August 2000, Valero completed a 14-day turnaround of a distillate
hydrotreater at the Texas City Refinery which will result in increased
production of low sulfur diesel. The Texas City Refinery will also undergo a
scheduled maintenance turnaround of its crude units during the fourth quarter of
2000. During this turnaround, these units will be upgraded which is expected to
result in (i) a net 20,000 barrels per day of additional capacity, (ii) lower
operating costs and (iii) improved reliability. Valero expects this turnaround
will last approximately 30 days. As refining margins merit, Valero expects to
continue making capital improvements at its refinery facilities to increase,
among other things, throughput capacity, conversion capability, operational
efficiency and feedstock flexibility and to improve mechanical reliability. The
majority of these capital improvements are expected to be performed during
scheduled maintenance turnarounds.
27
<PAGE> 28
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operating activities decreased $54.2 million
during the first six months of 2000 compared to the same period in 1999 due
primarily to a $245.7 million increase in the amount of cash utilized for
working capital purposes, as detailed in Note 5 of Notes to Consolidated
Financial Statements, partially offset by the significant increase in earnings
discussed above under "Results of Operations." In the first six months of 2000,
approximately $113 million, $71 million and $41 million, respectively, of the
increases reflected in accounts receivable, accounts payable and accrued
expenses were attributable to balances at the end of June related to the
operations associated with the Benicia Acquisition which was completed in the
second quarter of 2000. However, while the Benicia Acquisition caused a
significant increase in individual components of the change in working capital,
it did not have a significant effect on the total change in working capital,
which was primarily attributable to increased accounts receivable resulting from
a significant increase in commodity prices from December 31, 1999 to June 30,
2000. This increase in accounts receivable was somewhat offset by an increase in
accounts payable also resulting from higher commodity prices. During the first
six months of 2000, cash provided by (i) operating activities, (ii) existing
cash balances, (iii) proceeds from the common stock, PEPS Units and senior notes
offerings described in Note 3 of Notes to Consolidated Financial Statements,
(iv) bank borrowings, and (v) issuances of common stock related to Valero's
benefit plans were utilized to fund the Benicia Acquisition, fund capital
expenditures, deferred turnaround and catalyst costs and investments in joint
ventures, repurchase shares of Valero common stock and pay common stock
dividends.
Valero currently maintains an unsecured $835 million revolving bank
credit and letter of credit facility which matures in November 2002 and is
available for general corporate purposes including working capital needs and
letters of credit. Borrowings under this facility bear interest at either LIBOR
plus a margin, a base rate or a money market rate. Valero is also charged
various fees and expenses in connection with this facility, including a facility
fee and various letter of credit fees. The interest rate and fees under this
credit facility are subject to adjustment based upon the credit ratings assigned
to Valero's long-term debt. The credit facility includes certain restrictive
covenants including a coverage ratio, a capitalization ratio, and a minimum net
worth test. In connection with Valero's interim financing plan for the Benicia
Acquisition, in April 2000, this credit facility was amended to, among other
things, increase the total debt-to-capitalization limit from 50% to 65%. This
ratio limit was subsequently decreased to 60% upon the completion of the common
stock and PEPS Units offerings described in Note 3, and will further decrease to
55% on September 30, 2001. These amendments to the credit facility became
effective upon the closing of the acquisition of the Benicia Refinery and the
Distribution Assets. As of June 30, 2000, outstanding borrowings under this
committed facility totaled $130 million, while letters of credit outstanding
were approximately $117 million. Valero also currently has various uncommitted
short-term bank credit facilities, along with various uncommitted bank letter of
credit facilities. As of June 30, 2000, $185 million was outstanding under the
short-term bank credit facilities, and letters of credit totaling approximately
$46 million were outstanding under the uncommitted letter of credit facilities.
As of June 30, 2000, Valero's debt-to-capitalization ratio was 48.4% (with 20%
of the aggregate liquidation amount of trust preferred securities issued as part
of the PEPS Units deemed to be debt for purposes of this computation).
28
<PAGE> 29
As discussed in Note 2 of Notes to Consolidated Financial Statements,
the Benicia Acquisition was completed in May and June of 2000 for a purchase
price of $895 million, plus approximately $150 million for refinery inventories
acquired in the transaction and certain other acquisition costs. Interim
financing for the acquisition was provided by a $600 million bank bridge loan
facility, borrowings under Valero's existing bank credit facilities, and an
interim lease arrangement for the Benicia Refinery's dock facility. The $600
million of borrowings under the bridge loan facility, which bore interest at
LIBOR plus an applicable margin, and approximately $129 million of the
borrowings under Valero's existing bank credit facilities were subsequently
repaid with the proceeds of the securities offerings described in Note 3. The
Service Station Assets were funded through, and the interim lease arrangement
for the dock facility was replaced with, a $155 million structured lease
arrangement. This structured lease, which is being accounted for as an operating
lease, has a remaining primary term of approximately five years.
During the first six months of 2000, Valero expended approximately $138
million for capital investments (excluding the cost of the Benicia Acquisition),
including capital expenditures of $76 million, deferred turnaround and catalyst
costs of $60 million and investments in joint ventures of $2 million. The
deferred turnaround and catalyst costs related primarily to (i) a maintenance
turnaround of the FCC unit and a crude unit at the Paulsboro Refinery, (ii) a
turnaround of the residfiner at the Texas City Refinery and (iii) a turnaround
of the hydrocracker and reformer units at the Corpus Christi Refinery. For total
year 2000, including amounts related to the Benicia Refinery and the Service
Station Assets, Valero currently expects to incur approximately $200 million for
capital expenditures and approximately $80 million for deferred turnaround and
catalyst costs. The capital expenditure estimate includes approximately $16
million for computer system projects and approximately $10 million for projects
related to environmental control and protection (excluding costs related to a
flue gas scrubber at the Texas City Refinery which is being financed through a
lease arrangement). Any major upgrades in any of Valero's refineries would most
likely require additional expenditures to comply with environmental laws and
regulations. However, because environmental laws and regulations are
increasingly becoming more stringent and new environmental laws and regulations
are continuously being enacted or proposed, Valero cannot predict with certainty
the level of future expenditures that will be required for environmental
matters.
Under common stock repurchase programs approved by Valero's Board of
Directors, Valero repurchases shares of its common stock from time to time for
use in connection with its employee benefit plans and other general corporate
purposes. During the second quarter and first six months of 2000, Valero
repurchased shares of its common stock under these programs at a cost of
approximately $10 million and $19 million, respectively. Thus far in the third
quarter of 2000 (through August 10), Valero has repurchased additional common
shares under these programs at a cost of approximately $28 million.
Valero believes it has sufficient funds from operations, and to the
extent necessary, from the public and private capital markets and bank markets,
to fund its ongoing operating requirements. Valero expects that, to the extent
necessary, it can raise additional funds from time to time through equity or
debt financings. However, there can be no assurances regarding the availability
of any future financings or whether such financings can be made available on
terms acceptable to Valero.
29
<PAGE> 30
NEW ACCOUNTING PRONOUNCEMENTS
As discussed in Note 7 of Notes to Consolidated Financial Statements,
certain new financial accounting pronouncements have been issued by the FASB and
the EITF which either have already been reflected in the accompanying
consolidated financial statements, or will become effective for Valero's
financial statements beginning in either July 2000 or January 2001. Except for
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities,"
for which the impact has not yet been determined, the adoption of these
pronouncements has not had, or is not expected to have, a material effect on
Valero's consolidated financial statements.
30
<PAGE> 31
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
COMMODITY PRICE RISK
Valero is exposed to market risks related to the volatility of crude
oil and refined product prices, as well as volatility in the price of natural
gas used in Valero's refining operations. In order to reduce the risks of these
price fluctuations, Valero uses derivative commodity instruments to hedge
certain refinery feedstock and refined product inventories. Valero also uses
derivative commodity instruments to hedge the price risk of anticipated
transactions such as anticipated feedstock, product and natural gas purchases,
product sales and refining operating margins. In addition, Valero uses
derivative commodity instruments for trading purposes using its fundamental and
technical analysis of market conditions to earn additional income.
The types of instruments used in Valero's hedging and trading
activities described above include futures, options, and swaps with third
parties. Valero's positions in derivative commodity instruments are monitored
and managed on a daily basis by a risk control group to ensure compliance with
Valero's stated risk management policy which has been approved by Valero's Board
of Directors.
In the tables below detailing Valero's open derivative commodity
instruments as of June 30, 2000, the total gain or (loss) on swaps is the net of
the fixed price payor and receiver fair value amounts, while the total gain or
(loss) on futures is (i) the excess of the fair value amount over the contract
amount for fixed price payor positions, combined with (ii) the excess of the
contract amount over the fair value amount for fixed price receiver positions.
Gains and losses on hedging activities are deferred and recognized when the
hedged transaction occurs while gains and losses on trading activities are
recognized currently.
HEDGING ACTIVITIES
The following table provides information about Valero's derivative
commodity instruments held to hedge refining inventories as of June 30, 2000
(which mature in 2000) (dollars in thousands, except amounts per barrel, or
bbl).
<TABLE>
<CAPTION>
Mature in 2000
---------------------
Fixed Price
---------------------
Payor Receiver
-------- --------
<S> <C> <C>
Futures:
Volumes (Mbbls)......................... 5,658 7,658
Weighted average price (per bbl)........ $ 32.37 $ 33.91
Contract amount......................... $183,138 $259,675
Fair value.............................. $191,095 $267,670
</TABLE>
31
<PAGE> 32
The following table provides information about Valero's derivative
commodity instruments held to hedge anticipated feedstock and product purchases,
product sales and refining margins as of June 30, 2000 (which mature in 2000 or
2001) (dollars in thousands, except amounts per barrel). Volumes shown for swaps
represent notional volumes which are used to calculate amounts due under the
agreements.
<TABLE>
<CAPTION>
Mature in 2000 Mature in 2001
------------------ ------------------
Fixed Price Fixed Price
------------------ ------------------
Payor Receiver Payor Receiver
------ -------- ------ --------
<S> <C> <C> <C> <C>
Swaps:
Notional volumes (Mbbls) .................... 850 3,900 -- 300
Weighted average pay price (per bbl) ........ $ 2.69 $ 4.28 $ -- $ 2.28
Weighted average receive price (per bbl) .... $ 4.26 $ 3.82 $ -- $ 2.55
Fair value .................................. $1,333 $(1,792) $ -- $ 80
Futures:
Volumes (Mbbls) ............................. 25 -- 48 --
Weighted average price (per bbl) ............ $34.93 $ -- $32.41 $ --
Contract amount ............................. $ 873 $ -- $1,556 $ --
Fair value .................................. $ 873 $ -- $1,556 $ --
</TABLE>
In addition to the above, as of June 30, 2000, Valero was the fixed
price payor under certain swap contracts held to hedge anticipated purchases of
refinery feedstocks and refined products that mature in 2002, have notional
volumes totaling approximately 7.5 million barrels, and have a weighted average
pay price of $20.11 per barrel. As of June 30, 2000, these swaps had a weighted
average receive price of $22.43 per barrel and a net unrecognized fair value of
approximately $40.5 million.
TRADING ACTIVITIES
The following table provides information about Valero's derivative
commodity instruments held or issued for trading purposes as of June 30, 2000
(which mature in 2000 or 2001) (dollars in thousands, except amounts per barrel
or per million British thermal units, or MMBtus). Volumes shown for swaps
represent notional volumes which are used to calculate amounts due under the
agreements.
<TABLE>
<CAPTION>
Mature in 2000 Mature in 2001
------------------ ------------------
Fixed Price Fixed Price
------------------ ------------------
Payor Receiver Payor Receiver
------- -------- ------ --------
<S> <C> <C> <C> <C>
Swaps:
Notional volumes (Mbbls)...................... 13,175 12,700 2,700 2,700
Weighted average pay price (per bbl).......... $ 5.09 $ 6.84 $ 3.66 $ 3.98
Weighted average receive price (per bbl)...... $ 6.96 $ 5.08 $ 3.98 $ 3.62
Fair value.................................... $24,578 $(22,303) $ 879 $ (988)
Notional volumes (billion Btus, or BBtus)..... 2,270 2,270 1,670 1,660
Weighted average pay price (per MMBtu)........ $ 3.94 $ 4.48 $ 3.75 $ 3.81
Weighted average receive price (per MMBtu).... $ 4.48 $ 3.96 $ 3.81 $ 3.81
Fair value.................................... $ 1,231 $ (1,183) $ 102 $ 9
</TABLE>
32
<PAGE> 33
<TABLE>
<S> <C> <C> <C> <C>
Futures:
Volumes (Mbbls)............................... 16,604 16,854 3,700 3,700
Weighted average price (per bbl).............. $ 23.54 $ 24.21 $ 19.48 $ 18.94
Contract amount............................... $390,884 $407,989 $ 72,074 $ 70,073
Fair value.................................... $525,318 $537,345 $100,088 $100,088
Volumes (BBtus)............................... 31,440 31,440 -- --
Weighted average price (per MMBtu)............ $ 4.28 $ 4.26 $ -- $ --
Contract amount............................... $134,571 $133,981 $ -- $ --
Fair value.................................... $140,247 $140,381 $ -- $ --
</TABLE>
INTEREST RATE RISK
Valero's primary market risk exposure for changes in interest rates
relates to its long-term debt obligations. Valero manages its exposure to
changing interest rates principally through the use of a combination of fixed
and floating rate debt and currently does not use derivative financial
instruments to manage such risk.
33
<PAGE> 34
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
Berisha, et al. v. Amerada Hess Corp., et al., Case No. 00-CIV-1898-
[SAS], United States District Court for the Southern District of New York. On
May 24, 2000, Valero was served with a complaint seeking to certify a class
action which alleges that numerous gasoline suppliers, including Valero,
contaminated groundwater in the State of New York with methyl tertiary butyl
ether (MTBE). Valero has filed a motion to dismiss the complaint based upon a
failure to state a claim and based upon federal preemption under the Clean Air
Act. In addition, motions to consolidate for pretrial proceedings are pending
before the Judicial Panel on Multidistrict Litigation. These motions seek
consolidation of the Berisha case with England v. Atlantic Richfield Co., et
al., Civil Action Nos. 00-370 and 00-371 (S.D. Ill.), and Lynn, et al. v. Amoco
Oil Company, et al., No. 96-T-940-N (M.D. Ala.).
Texas City Terminal Railway Company d/b/a Port of Texas City v.
Marathon Ashland Petroleum, LLC, et al., Civil Action No. G-00-239, United
States District Court for the Southern District of Texas (Galveston Division).
Valero has received notice of, but has not been served with, a complaint filed
April 28, 2000 in federal court by Texas City Railway Company alleging that
several companies, including Valero, are liable under the Comprehensive
Environmental Response, Compensation and Liability Act (CERCLA), other
environmental laws and tort law theories for alleged contamination of the
plaintiff's marine loading and tankering facilities. The parties are presently
seeking to resolve the matter through alternative dispute resolution.
New Jersey Department of Environmental Protection. On July 17, 2000,
Valero Refining Company-New Jersey received an Administrative Order (EA ID No.
PEA000002-55006) from the New Jersey Department of Environmental Protection
(NJDEP) related to alleged excess emissions from the Paulsboro Refinery. NJDEP
is seeking penalties of $394,000 and compliance. Valero intends to contest the
Administrative Order.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company's annual meeting of stockholders was held May 4, 2000.
Matters voted on at the meeting and the results thereof were (i) a proposal to
elect three Class III directors to serve until the 2003 annual meeting: Donald
M. Carlton (approved with 49,764,776 affirmative votes, and 205,202
abstentions), Jerry D. Choate (approved with 49,766,126 affirmative votes, and
203,852 abstentions), and Robert G. Dettmer (approved with 49,755,928
affirmative votes, and 214,050 abstentions); and (ii) a proposal to ratify the
appointment of Arthur Andersen LLP as independent public accountants (approved
with 49,910,058 affirmative votes, 19,987 negative votes, and 39,933
abstentions). Directors whose term of office continued after the meeting were:
Ruben M. Escobedo, Lowell H. Lebermann, Ronald K. Calgaard, William E. Greehey,
and Susan Kaufman Purcell.
34
<PAGE> 35
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits.
4.1 Amended and Restated Declaration of Trust, dated as of June
28, 2000, of VEC Trust I--incorporated by reference from
Exhibit 4.1 to Valero's Current Report on Form 8-K dated June
28, 2000, and filed June 30, 2000.
4.2 Form of Preferred Security (included in Exhibit 4.1).
4.3 Valero Energy Corporation Guarantee Agreement, dated as of
June 28, 2000, relating to VEC Trust I--incorporated by
reference from Exhibit 4.3 to Valero's Current Report on Form
8-K dated June 28, 2000, and filed June 30, 2000.
4.4 Purchase Contract Agreement, dated as of June 28, 2000,
between Valero Energy Corporation and The Bank of New
York--incorporated by reference from Exhibit 4.4 to Valero's
Current Report on Form 8-K dated June 28, 2000, and filed June
30, 2000.
4.5 Pledge Agreement, dated as of June 28, 2000, among Valero
Energy Corporation, Bank One Trust Company, N.A. and The Bank
of New York--incorporated by reference from Exhibit 4.5 to
Valero's Current Report on Form 8-K dated June 28, 2000, and
filed June 30, 2000.
4.6 Indenture between Valero Energy Corporation and Bank of New
York, dated as of December 12, 1997--incorporated by reference
from Exhibit 3.4 to Valero's Registration Statement on Form
S-3 (File No. 333-56599), filed June 11, 1998.
4.7 First Supplemental Indenture, dated as of June 28, 2000,
between Valero Energy Corporation and The Bank of New
York--incorporated by reference from Exhibit 4.6 to Valero's
Current Report on Form 8-K dated June 28, 2000, and filed June
30, 2000.
4.8 Form of 7 3/4% Senior Deferrable Note due 2005 (included in
Exhibit 4.7).
4.9 Remarketing Agreement, dated as of June 28, 2000, among Valero
Energy Corporation, VEC Trust I and Morgan Stanley & Co.
Incorporated--incorporated by reference from Exhibit 4.8 to
Valero's Current Report on Form 8-K dated June 28, 2000, and
filed June 30, 2000.
4.10 Officer's Certificate delivered pursuant to Sections 102, 301
and 303 of the Indenture, dated as of December 12, 1997,
providing for the terms of the Notes by Valero Energy
Corporation--incorporated by reference from Exhibit 4.9 to
Valero's Current Report on Form 8-K dated June 28, 2000, and
filed June 30, 2000.
4.11 Form of Note (included in Exhibit 4.10).
35
<PAGE> 36
27.1* Financial Data Schedule (reporting financial information as of
and for the six months ended June 30, 2000).
----------
* The Financial Data Schedule shall not be deemed "filed" for purposes of
Section 11 of the Securities Act of 1933 or Section 18 of the Securities
Exchange Act of 1934, and is included as an exhibit only to the electronic
filing of this Form 10-Q in accordance with Item 601(c) of Regulation S-K
and Section 401 of Regulation S-T.
(b) Reports on Form 8-K.
(i) On May 30, 2000, Valero filed a report on Form 8-K dated
May 15, 2000 reporting Item 2 (Acquisition of Assets) in connection with the
closing of Valero's acquisition of the Benicia refinery and related distribution
assets on May 15, 2000. Financial statements were not filed with this report.
(ii) On June 1, 2000, Valero filed an amended report on Form
8-K/A dated May 15, 2000 amending (A) its report on Form 8-K dated March 17,
2000 (filed March 20, 2000), and (B) its report on Form 8-K dated May 15, 2000
(filed May 30, 2000). This amended report includes the following financial
statements and pro forma financial information.
(1) EXXON CALIFORNIA REFINERY, TERMINAL AND RETAIL ASSETS BUSINESS (as
defined in the Sale and Purchase Agreement between Exxon Mobil
Corporation and Valero Refining Company-California)
Report of Independent Accountants
Balance Sheet as of December 31, 1999 and 1998
Statement of Income for the Years Ended December 31, 1999, 1998
and 1997
Statement of Cash Flows for the Years Ended December 31, 1999, 1998
and 1997
Statement of Changes in Exxon Mobil Corporation Net Investment
Notes to Financial Statements as of December 31, 1999
Balance Sheet as of March 31, 2000 (unaudited) and December 31, 1999
Statement of Income for the Three Months Ended March 31, 2000 and 1999
(unaudited)
Statement of Cash Flows for the Three Months Ended March 31, 2000
and 1999 (unaudited)
Notes to Financial Statements as of March 31, 2000
(2) UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS
Unaudited Pro Forma Combined Balance Sheet as of March 31, 2000
Unaudited Pro Forma Combined Statement of Income for the Three Months
Ended March 31, 2000
Unaudited Pro Forma Combined Statement of Income for the Year Ended
December 31, 1999
Notes to Unaudited Pro Forma Combined Financial Statements
(iii) On June 22, 2000, Valero filed a report on Form 8-K
dated June 21, 2000 reporting Item 7 (Financial Statements and Exhibits) to file
as exhibits the forms of underwriting agreements related to the
36
<PAGE> 37
proposed public offerings by Valero of (A) common stock, par value $0.01 per
share, (B) notes, and (C) Premium Equity Participating Security Units. Financial
statements were not filed with this report.
(iv) On June 30, 2000, Valero filed a report on Form 8-K dated
June 28, 2000 reporting Item 5 (Other Events) in connection with (A) the June
28, 2000 closing of a public offering by Valero and VEC Trust I of 6,900,000
7 3/4% Premium Equity Participating Security Units, (B) the June 29, 2000
closing of a public offering by Valero of $200,000,000 aggregate principal
amount of its 8 3/8% notes due 2005, and $200,000,000 aggregate principal amount
of its 8 3/4% notes due 2030. Financial statements were not filed with this
report.
37
<PAGE> 38
SIGNATURE
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.
VALERO ENERGY CORPORATION
(Registrant)
By: /s/ John D. Gibbons
-----------------------------------------
John D. Gibbons
Chief Financial Officer, Vice President -
Finance
(Duly Authorized Officer and Principal
Financial and Accounting Officer)
Date: August 11, 2000
38
<PAGE> 39
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
4.1 Amended and Restated Declaration of Trust, dated as of June
28, 2000, of VEC Trust I--incorporated by reference from
Exhibit 4.1 to Valero's Current Report on Form 8-K dated June
28, 2000, and filed June 30, 2000.
4.2 Form of Preferred Security (included in Exhibit 4.1)
4.3 Valero Energy Corporation Guarantee Agreement, dated as of
June 28, 2000, relating to VEC Trust I--incorporated by
reference from Exhibit 4.3 to Valero's Current Report on Form
8-K dated June 28, 2000, and filed June 30, 2000.
4.4 Purchase Contract Agreement, dated as of June 28, 2000,
between Valero Energy Corporation and The Bank of New
York--incorporated by reference from Exhibit 4.4 to Valero's
Current Report on Form 8-K dated June 28, 2000, and filed June
30, 2000.
4.5 Pledge Agreement, dated as of June 28, 2000, among Valero
Energy Corporation, Bank One Trust Company, N.A. and The Bank
of New York--incorporated by reference from Exhibit 4.5 to
Valero's Current Report on Form 8-K dated June 28, 2000, and
filed June 30, 2000.
4.6 Indenture between Valero Energy Corporation and Bank of New
York, dated as of December 12, 1997--incorporated by reference
from Exhibit 3.4 to Valero's Registration Statement on Form
S-3 (File No. 333-56599), filed June 11, 1998.
4.7 First Supplemental Indenture, dated as of June 28, 2000,
between Valero Energy Corporation and The Bank of New
York--incorporated by reference from Exhibit 4.6 to Valero's
Current Report on Form 8-K dated June 28, 2000, and filed June
30, 2000.
4.8 Form of 7 3/4% Senior Deferrable Note due 2005 (included in
Exhibit 4.7)
4.9 Remarketing Agreement, dated as of June 28, 2000, among Valero
Energy Corporation, VEC Trust I and Morgan Stanley & Co.
Incorporated--incorporated by reference from Exhibit 4.8 to
Valero's Current Report on Form 8-K dated June 28, 2000, and
filed June 30, 2000.
4.10 Officer's Certificate delivered pursuant to Sections 102, 301
and 303 of the Indenture, dated as of December 12, 1997,
providing for the terms of the Notes by Valero Energy
Corporation--incorporated by reference from Exhibit 4.9 to
Valero's Current Report on Form 8-K dated June 28, 2000, and
filed June 30, 2000.
4.11 Form of Note (included in Exhibit 4.10)
27.1* Financial Data Schedule (reporting financial information as of
and for the six months ended June 30, 2000).
</TABLE>
----------
* The Financial Data Schedule shall not be deemed "filed" for purposes of
Section 11 of the Securities Act of 1933 or Section 18 of the Securities
Exchange Act of 1934, and is included as an exhibit only to the electronic
filing of this Form 10-Q in accordance with Item 601(c) of Regulation S-K
and Section 401 of Regulation S-T.
