Sunoco Inc. Q2 2009 Earnings Call Transcript

| About: Sunoco LP (SUN)

Sunoco Inc. (NYSE:SUN)

Q2 2009 Earnings Call

August 6, 2009; 3:00 pm ET

Executives

Lynn Elsenhans - Chairman & Chief Executive Officer

Terry Delaney - Interim Chief Financial Officer

Vince Kelly - Senior Vice President, Refining and Supply

Mike Thomson - President, SunCoke Energy

Bob Owens - Senior Vice President from Retail Marketing

Bruce Rubin - Vice President Chemicals

Bill Diebold - Manger of Investor Relations

Analysts

Alexander Inkster - Sanford Bernstein

Paul Sankey - Deutsche Bank

Mark Gilman - Benchmark Company

Paul Cheng - Barclays Capital

Paul Cheng - Barclays Capital

Jeff Dietert - Simmons & Company

Chi Chow - Tristone Capital

Faisel Khan - Citigroup

Mark Caruso - Millennium Partners

Mark Gilman - The Benchmark Company

Blake Fernandez - Howard Weil

Operator

Good afternoon. My name is Teresa and I will be your conference operator today. At this time I would like to welcome everyone to the Sunoco second quarter earnings conference call. All lines have been place on mute to prevent any background noise. After the speakers’ remarks there will be a question-and-answer session. (Operator Instructions) Thank you.

I would now like to turn the call over to Lynn Elsenhans, Chairman and CEO. Ms. Elsenhans, you may begin.

Lynn Elsenhans

Thank you, Teresa and good afternoon everyone. Welcome to Sunoco’s quarterly conference call, where we will be discussing the companies second quarter earnings that were posted last evening.

With me today are Terry Delaney, our Interim Chief Financial Officer, Vince Kelley, from Refining, Mike Thomson from SunCoke Energy, Bob Owens from Retail Marketing, Bruce Rubin from Chemicals, and Bill Diebold our Manager of Investor Relations.

I’ll start by making a few introductory remarks and Terry will address the business results and comments on our overall financial position. As part of today’s call I’d like to direct you to our website, www.sunocoinc.com, where we have posted a number of presentation slides which may provide a useful reference as we progress through the remarks.

For purposes of facilitating a good discussion, I’d also like to refer you to the Safe Harbor statement referenced on slide 26 of the slide package, and is included last night’s earnings release and in today’s Form 10-Q filing.

So, let’s begin. We reported a quarterly net loss attributable to Sunoco shareholders of $55 million which included $24 million of net unfavorable special items. We detailed those in our earnings release and they are on slide 11. Excluding these special items, Sunoco’s loss was $31 million or $0.27 a share.

It’s been a challenging market environment and we’ve continued to impact both volumes and margins in our petroleum and chemical businesses and the rise in crude oil prices during the quarter significantly effected by refining margins. Additionally our refining operating results were negatively impacted by a $14 million after tax charge associated with the permanent shutdown at our ethylene complex at our markets refinery.

This decision was made after a fire impacted the operations and it was determined the outlook for those products do not justify repairing or replacing equipment damaged in the fire. In our non-refining businesses we continue to generate good earnings, earnings in these businesses improved to $78 million in the second quarter up from $57 million in the first quarter.

Retail Marketing in Chemicals modestly improved although weak demand in rising feedstock costs continues to limit their contributions. Logistics earned $26 million with strong results from Sunoco Logistics Partners LP, and our Coke segment earned $42 million. As we’ve consider the outlook for the rest of the year them market is expected to remain challenging.

However we continue to make the approximate step to position our businesses for this environment. The company remains focused on executing its strategic plan by improving our competitive cost position and optimizing our portfolio and operational performance. During the quarter, we continued to pursue cost reductions and remain on target to reduce cost by more than $300 million on an annualized basis by the end of the year.

On June 1, we closed on the sale of our Tulsa refinery, the sale of the asset and related inventory generated $157 million in proceeds, and improved our balance sheet and reduced our future capital expenditures. In mid June, we closed on the acquisition of Northeast Biofuels, $100 million gallons-per-year ethanol facility in New York for $8.5 million.

The plant will require approximately $15 million to $20 million in additional capital and we anticipate start up in the first half of 2010. This is our first step into the Biofuels area and we will leverage our manufacturing and Logistics experience to make it a success. During the quarter, we also continued to execute on our retail portfolio management program and generated $27 million of proceeds to the sale of 37 sites.

We will continue to focus on this initiative as it allows us to high grade our portfolio and improve our returns. Our continued focus on cost, the sale of the Tulsa refinery, the Northeast Biofuels acquisition and our retail portfolio management program demonstrate our continuing efforts to realign our portfolio of assets and represent steps towards improving our performance and competitiveness.

These activities along with our focus on capital discipline will allow us to manage through this refining down cycle while maintaining our financial flexibility and liquidity through 2009

Let me now turn it over to Terry Delaney, who will talk about our business results and our financial position.

Terry Delaney

Thank you, Lynn. Before addressing some specifics, in general I’d say the quarterly results, particularly for Refining. Reflect the continuation of market weakness from the first quarter, which was further negatively impacted by rising crude prices and the narrowing of spreads on most crude grades.

Our non-refining operations however, continue to make positive contributions and we continue to take action to improve the companies cost structure and financial position for the future. Now with respect to the second quarter business unit results; first, Refining and Supply.

Excluding the Tulsa refinery, Refining and Supply continuing operations had a loss of $77 million in the second quarter. As Lynn noted, that included a $14 million after-tax write-off of certain assets associated with the shutdown of the ethylene complex at the Marcus Hook refinery.

Our gasoline margins strengthened from the first quarter. Distillate demand in margins continued to deteriorate throughout the quarter. Operationally, crude unit utilization across our system in the second quarter was 78% with rates reflective of weak demand for refined products.

With respect to our Second Quarter margin realization. I refer you to slides 13 and 14 for more detail on our Refining system crude cost and product differentials versus our benchmark. You’ll note there that with the sale of Tulsa, we have restated our historical metrics to exclude Tulsa and are now recording metrics for our Refining and Supply in a single consolidated manner.

Back to the results, across the system and particularly in the Northeast, rising crude costs significantly affected our margin realizations during the quarter. Our crude costs for the quarter averaged about $0.82 a barrel above our weighted benchmark due in large part to the effect of the five day lag, pricing mechanism for crude purchases in our Northeast system and due to weaker differentials on lower quality crude we run.

On the product side, our average differential was $2.58 a barrel lower than our weighted benchmark, as product pricing particularly for non-benchmark products lagged in a rising crude environment. Additionally, the cost of fuel consumed in our operations versus yield gains if you will was higher during the quarter due to elevated crude prices.

As we consider the outlook for the third quarter, our Refining production will be impacted by a planned turnaround at our Toledo refinery, which commenced earlier this week and will extend through mid September. In addition, we are taking one month maintenance outage at a fluid cracking unit in our Philadelphia refinery for repairs that should improve that units operating performance.

Now let’s turn to our non-refining businesses, which earned $78 million in the aggregate during the quarter. Retail Marketing earned $10 million in the second quarter. Sales volumes were relatively flat versus the year ago quarter and margins continued to be constrained by rising wholesale prices in a relatively weak demand environment.

As Lynn noted, we continue to make progress in our retail portfolio management program. During the quarter we divested 37 sites, generated 27 million of proceeds, and recognized a $3 million after-tax gain on the sale of those sites. Year-to-date we have divested 41 sites and generated 29 million in proceeds.

Approximately, 85% of these sites temperature use to be in the Sunoco dealer with distributor portfolio. We will continue to use this program to enhance our overall return on capital employed in that business. In Chemicals, we reported breakeven results for the second quarter.

Results continue to reflect weakness in both the polymers and phenol businesses, but did modestly improve from the first quarter of this year associated largely with better margins. Logistics earned $26 million, as Sunoco Logistics Partners posted another strong quarter. In addition to growth and income from its growing asset base, Sunoco Logistics continued to take advantage of profitable crude storage opportunities in its crude pipeline, storage, and leased acquisition operations.

Our Coke business posted another solid contribution earning $42 million in the quarter, up from the first quarter of this year. The improvement is associated with better price realization from our production at Jewell as noted in the earnings release. As noted in the earnings release, the results include a $6 million after-tax dividend from our Brazilian Coke making operation.

While coal prices are not yet settled for the remainder of the year, realizations for the third quarter and the remainder of 2009are expected to exceed 2008 levels and our earnings guidance for 2009 remained approximately $175 million to $200 million, including an expected $41 million tax credit associated with our Granite City, Illinois facility, which is expected to be completed and then in start-up by the end of the fourth quarter.

We also continue to work through permitting issues associated with our Middletown, Ohio Cokemaking project. Based on the delays to-date, start-up will likely exceed past 2010, as construction will take about 15 months to18 months upon final resolution of the permit.

Finally, let me take a few minutes to discuss our financial position at the end of June. In connection with that I’d direct you to Slide seven through nine. From a funds flow perspective, net cash flow before debt activity was a source of $14 million for the quarter. Of the total source, $28 million was associated with Sunoco Logistics, partially offset by a use of $14 million associated with the rest of Sunoco’s businesses.

As previously noted the business generated approximately $184 million in divestitures associated with the sale of the Tulsa refinery and from our retail portfolio management program. I’d note that a portion of the Tulsa proceeds were used to settle approximately $50 million of net payables associated with the refinery at the time of the closing.

From a balance sheet perspective, our overall net debt position was essentially unchanged from the first quarter at approximately $2.3 billion, with approximately $860 million of that debt attributable to Sunoco Logistics. We ended the quarter with a consolidated net debt-to-capital ratio of 41%.

As shown in slide nine, excluding Sunoco Logistics, Sunoco’s net debt-to-capital ratio was 34% at quarter end, up slightly from the first quarter. Sunoco Logistics net debt-to-capital was 50%, down from the first quarter due to the second quarter logistics equity offering of $110 million. Relative to other MLP, Sunoco Logistics Partners continues to be well capitalized with very strong coverage ratio.

From a liquidity standpoint, at June 30 we had $67 million of cash and $1.5 billion of available and committed borrowing capacity which includes approximately $200 million dedicated to Sunoco Logistics. As we look to the rest of 2009, we will continue to take appropriate actions that will assist us in maintaining our financial flexibility.

As Lynn mentioned, we continue to focus on reducing cost. Year-to-date versus the prior year and excluding portfolio changes, operating expenses are lower by roughly $200 million. Of this amount, approximately half is attributable to the cost reduction initiative and the remaining amount is associated with lower volumes and energy costs in 2009.

We also continue to reduce capital spending where possible and refining marketing and chemical, while making capital available for opportunities in Sunoco Logistics. Our capital spending discipline and our actions to reduce expenses should increasingly be realized in our operating results.

Together these actions are designed to enable the company to exit 2009 with a stronger balance sheet, enhanced liquidity and a much more competitive cost structure across all of our businesses. So, with that I’ll ask the moderator to open the lines up for any questions you may have.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Paul Sankey - Deutsche Bank.

Paul Sankey - Deutsche Bank

I was just wondering firstly in terms of the differentials that you seen here against benchmarks. I’m assuming that those are going to correct themselves in 3Q, given that oil is no longer rising as rapidly as it was in 2Q.

Vince Kelley

I guess one of the biggest hits there on the crude side was raising oil price over the first quarter. So, we’ll have to see what the crude price does over the third quarter.

Paul Sankey - Deutsche Bank

In general margins are lot better in Q3 than they were in Q2 for you guys?

Vince Kelley

Not necessarily.

Terry Delaney

The cost of the crude from a quality perspective, continue to get more expensive Paul, and the base margins are really not improved.

Paul Sankey - Deutsche Bank

I guess I can see the tracking margin hasn’t, but I just wondered whether or not the other products you referenced might have been behaving a bit better, but I guess you’re telling me they haven’t.

Terry Delaney

I would say as Vince said, the timing effect does it affects our crude costs versus benchmark and even our product realizations versus benchmark certainly can be better in a flat crude price environment, but they’re isolated factors.

Paul Sankey - Deutsche Bank

On the utilization, is that kind of a linear progression downward so you can run lower and lower or is there sort of a tipping point or a cliff over which you can’t really go any lower? I’d like to see utilization at 76% in the first quarter. Is that about as low as you would go or could it go even lower to try to keep the market tight?

Vince Kelly

We could go lower, Paul, but I think when we start looking at our market outlook in some of the proved differentials and kind of try to do the best we can to run the appropriate amount of production to meet the demand for our product.

Paul Sankey - Deutsche Bank

I’m just thinking about how we should sort of model you going forward, would we expect you in this margin environment that to stay in the mid-70s basically?

Lynn Elsenhans

We don’t give any guidance on a forward-looking basis on utilization, but as we’ve done in the past, we generally run to where the market is.

Paul Sankey - Deutsche Bank

Finally, you mentioned that you’re going to continue your focus on financial flexibility. Does that mean your envisage more disposals or are we kind of reaching the end of that disposals process? Thanks.

Lynn Elsenhans

We had given guidance in I believe, it was December that we had a program for retail that would be over a two year period and that we were looking for about $180 million on that. So we’re clearly not to the end of that, so we would expect that they’re just based on what we announce that there’s more out there. The timing is a little bit depending on how the market is doing.

Operator

Your next question comes from Mark Gilman - Benchmark Company.

Mark Gilman - Benchmark Company

A couple things, if I could. Is it a full turnaround at Toledo, Vince, in the third quarter, full plant?

Vince Kelly

No, not an entire refinery shutdown, Mark we have one of our two crude units is shutdown for turnaround along with our FCC unit to not only do a maintenance turnaround, but also to tie in the emissions controls as part of the consent decree and then just some the auxiliary that go around with that gas plant calculation unit. We still have one crud unit on, and hydrocracker on and the reformer off.

Mark Gilman - Benchmark Company

Since I’m having a lot of trouble understanding the refining and supply loss, even taking the $14 million out such that you’re dealing with $63 million and I guess what I’m really having trouble with to go to the varying in slides is that $258 per barrel debit, can we talk a little bit more specifically about what specialty products you’re talking about in terms of contributing to that and also let me ask once again are there any derivative effects that are kind of included in that 258 per barrel hit on the product side?

Vince Kelly

There’s no derivative effects, but basically, it’s the lag in the product prices increasing with the rising proved cost is kind of one the bigger impacts on that when you look at comparing second quarter ‘09 versus first quarter ‘09. The product mix in Toledo, there’s more distillate yield in the benchmark and the distillate was an unfavorable impact on that.

Also we had some product inventory builds in June in preparations for the Toledo turnaround that had an unfavorable impact on it also and then as noted on that slide two, higher cost of fuel of our own produced fuel from the proved had an unfavorable impact also.

Mark Gilman - Benchmark Company

How large was the inventory effect, Vince?

Vince Kelly

Probably, about $0.20 a barrel of that delta.

Mark Gilman - Benchmark Company

I understand the fuel thing that you’re talking about. Because you treat internally used fuel as a reduction in margin, the impact of that shows up in this product differential, is that correct?

Bob Owens

That’s correct.

Mark Gilman - Benchmark Company

Just one more for me on the retail side, I heard what you said about divestment, but unless I transcribed some numbers wrong, it looks like your station count, but not the C-Store count, but the station count looks like it’s up at June 30 versus March 31. Am I wrong?

Bob Owens

No. We’re continuing to add locations, Mark that would be open dealer locations as well as distributor sites.

Mark Gilman - Benchmark Company

So Bob, that number goes up if for instance, you sell a station and it converts to a distributor outlet?

Bob Owens

No. The total Mark, those are just switches and classes of trade, but we’re out every day calling on competitive facilities, whether they are open dealer or new ground up location that’s being built or a distributor chain of service stations that is branded with somebody else and we recently converted over a couple of pretty good sized accounts continuing to work on that.

Mark Gilman - Benchmark Company

There’s no capital Bob, associated with this?

Bob Owens

Very modest, a little bit on branding, ID sign, paint that kind of things, Mark.

Operator

Your next question comes from Paul Cheng - Barclays Capital.

Paul Cheng - Barclays Capital

Three quick questions; first if we looking at, I think Terry was talking about, you have about $200 million of the cost savings and about $100 million related to the cost initiative that you guys on the restructuring. Do you have a breakdown by segment? How that $100 million is spread between Refining, Retail, Chemical and the other areas?

Terry Delaney

Not available right here Paul, but in general like most of our things Refining the biggest of the business units and the majority going to go there, but no I don’t have a specific breakdown for you on that.

Paul Cheng - Barclays Capital

Terry, that $100 million you’re talking about as to run rate of $100 million or is that actual, because if you’ve saying that the first six month you’ve already get $100 million then that means the run rate is $200 million all of the $300 million that you going to achievement. Is that the way we should look at it?

Terry Delaney

You can look at it that way, but I mean with the $100 million is simply a six month-to-six month review looking at our expenses isolating the things, that I said that I’d attribute more to market or portfolio structural things and as a combination of things that we had in our plans coming into the year and things that have been affected by the business improvement initiatives.

What I would say is that $100 million gives us the confidence and we have the evidence of the past that will let us conclude that we’re going to leave this year on target for the $300 million year-on-year lower cost run rate that we targeted earlier this year.

Paul Cheng - Barclays Capital

Terry, I guess my question is that if we assume you already got $100 million in the first six months, if that means that we have another $100 million of the run rate improvement that we can expect or that should we assume that we have $200 million more to go?

Terry Delaney

Not to latter of the former. We’re progressing along the way and the second half should be like the first half and maybe a little bit lower, but some of the savings in the $300 million run rate we won’t get later in the year.

Paul Cheng - Barclays Capital

Second question is for Lynn. Lynn, I think given apparently that’s not become to consensus view among the industry executives of pretty difficult margin environment for the next six to 12 months perhaps and it seems like the industry is dividing to two time. One time, executive is now [Inaudible] and trying to just the priorities as protect the balance sheet.

Another time, you’re seeing the all different plenty of opportunity that we should take the low life of the asset price and go out and really expand our footprint. I wanted to see that, where are you, what is in your priority for the next six to 12 months. Do you think this is a good time that for you to expand your Refining footprint and also that from that standpoint, given your view about a margin? How do you think in order for you two guys to do well in the future, you need to expand and diversify your geographic footprint in the Refining?

Lynn Elsenhans

The first part of your question, one of the reasons that we look to protect the balance sheet is so that, if we do have good opportunities before, whether they be organic growth or they be acquisition that we’d be in a position to take advantage of those opportunities. As it has been and most of that has been in the SXL part of the business and less so, in the other segments, but we are not ruling out the other segments of the business.

Paul Cheng - Barclays Capital

In here that, if you do see opportunity in the refining side, are you will be more interested in the asset-by-asset acquisition or that you will be interested in a more wholesale company wide transaction?

Lynn Elsenhans

It depends on the opportunity and what it presents itself. I’d say, we’re looking to be able to add value to our logistics system, our retail brand and the facilities and the marketplace that we are having strengthen. So, that kind of gets to your second question or second part of your question, which is you asked me about geographic.

For us, the thought of geographic expansion again has to be around the ability to generate synergy in the business and build upon strengths that we have. So, it’s not so much about looking for just broader geographic spread as it is, the ability to generate value through either synergy in the business or building on strength.

Paul Cheng - Barclays Capital

So, not necessarily believe as some people saying that, you may need to have expand into a coast-to-coast more diversify, because that actually is not going to give you much synergy if you do that.

Lynn Elsenhans

Correct.

Paul Cheng - Barclays Capital

Final question; in the coke business, if you exclude the 6 million dividends you earn 36 million or about 11 million better than the first quarter. How much of that 11 million is related to the higher realized coal price for your equity production?

Lynn Elsenhans

I’m going to turn that over to Mike Thomson. He’s on the line.

Mike Thomson

Most of that is related to better coal and coke price realizations through our Jewell coke contract, the majority of it.

Paul Cheng - Barclays Capital

So, that means that you’re sustained brilliant to the second quarter and third quarter, because it supposed to be contract, right?

Mike Thomson

All because, that is a function of or really is an average coal price and we haven’t achieved final settlements on that going forward. So, it is suggest to some variability, because those average coal prices, those blend costs are a combination of spot purchases, new contracts, old contracts, as well as contracts that are carryover, subject to renegotiation. We continue to press on the coal companies and work with our customers in that regard. So, there’s still some variability in that.

Operator

Your next question comes from Jeff Dietert - Simmons & Company.

Jeff Dietert - Simmons & Company

Could you talk about the factors you consider, when you’re thinking about crude volume purchases going forward?

Vince Kelly

Basically, as we discussed in the past where we buy our crude approximately eight weeks out, we do a market outlook on projected demand and margins. One of the things that’s been setting our utilization is we’ve been trying to lower our overall crude cost. So, we’ve been looking at crude’s that are slightly heavier, slightly higher sulfur, slightly higher tan and they limit some of the [throughput] capacity we have on some of our process units. So, what we try to do is, try to meet the demand for our products and try to lower our crude cost and that has been putting us in that mid to high 70% utilization range.

Jeff Dietert - Simmons & Company

It appears WTI prices are under a little pressure and the Brent Premium has blown out recently. How do you react to that type of market and try to minimize your crude cost?

Vince Kelly

Again, we don’t like it when they separate like that. Typically, historically, Brent’s been under WTI, so I think we’re a little bit more cautious on how much crude you buy in that period, but we’re still in the Atlantic base in market to or more these systems, so that’s pretty much what the differential it offers.

Jeff Dietert - Simmons & Company

Is there an ability to shift towards more Canadian crude’s that might not be quite as disadvantaged or are you looking for the best available Atlantic Basin crude only?

Vince Kelly

We can run some of the Northeast Canadian crude’s and we go for then.

Operator

Your next question comes from Chi Chow - Tristone Capital.

Chi Chow – Tristone Capital

Vince, do you have the timing on the Philadelphia SEC maintenance?

Vince Kelly

Yes. We’re planning to take the unit down tomorrow and it’s projected to be about 25 days.

Chi Chow – Tristone Capital

Okay, and do you have an update, Lynn, on ‘09 CapEx and any comments on 2010?

Lynn Elsenhans

Nothing yet on 2010, but Terry is going to go through a little bit of a recap on the capital.

Terry Delaney

Yes, Chi. What I’d say is we came into the year with a capital program that it was about a $1.2 billion including Sunoco Logistics. I think after the end of the first quarter, we provided guidance that we would probably spend about $200 million less than that. I think that guidance still stands as we speak today; the mix of it might change a little bit.

I think as we alluded to we’re probably going to spend less in refining, marketing and chemicals and Sunoco Logistics has identified a few other growth opportunities that would be included in that number, so all-in-all, still a capital program for the year of about a billion, which is $250 million lower than what we started the year with higher Sunoco Logistics and lower in our other businesses.

Chi Chow – Tristone Capital

I guess looking at your cash situation, you got some refinery down time here in the third quarter and crude prices kind of going back up to 70, you got relatively low cash balance coming out of the second quarter. Is it reasonable to assume that you’re going to have to tap into the revolver during the back end of the year?

Terry Delaney

I would say, Chi, I mean temporarily that’s what it’s there for but the other thing I’d say is as I look at the second half of the year we finished June 30 was about $3 million more barrels of refined product than we came into the year with and we’re likely to end the year within part due to the fact that as Vince alluded to we have turnaround activity undergoing at both Toledo and Philadelphia.

On the Sunoco Logistics side they have several million barrels of storage opportunities in the tanks at the end of June that may or may not be there as the year progresses so that’s another possible available source and thirdly as Lynn alluded to, the retail portfolio management program will continue to kick in additional proceeds in the second half of the year.

So notwithstanding the challenges that are ahead of us from an earnings standpoint from a cash perspective, I think the second half has prospects of being better than the first. I will also point out that in the first half of this year, we made a significant tax payment related to last years results as well, so second half cash is looking better I believe.

Operator

Your next question comes from Faisel Khan with Citigroup.

Faisel Khan - Citigroup

Going back to the product differential for a second, the 258, is it fair to say that a big chunk of that or most of that is the difference in diesel margins second quarter versus first quarter ‘09?

Vince Kelly

Yes. There’s a part of it.

Faisel Khan - Citigroup

The rest is propane and all of the other sort of bottom of the barrel products?

Vince Kelly

Yeah, propane, butane…

Terry Delaney

The other thing I would say, Faisel, and again in any rising crude price environment, our ability to pass that through in product realizations whether it’s through the Iraq prices or however we move the product, that’s always challenging just like in any period of rising crude prices, our differentials relative to crude prices are going to suffer as well. I think it’s just an impossible thing to model from the inside let alone from the outside, but I think the history has shown it’s consistently underestimated versus the direction of crude.

Faisel Khan - Citigroup

Okay, gotcha and then given that we have seen some stabilization in crude prices although it’s been meandering around a little bit. Are you saying that has there been no improvement in some of those product prices in the last couple of weeks?

Terry Delaney

No. I wouldn’t say that. I’d say again for that one component, our realizations are impacted by many factors, but for that one factor, flat crude prices relative to rising crude prices are going to be beneficial.

Faisel Khan - Citigroup

Then just on the working capital amount that you report on the cash flow statement. I just want to make sure, is most of that working capital related to the Logistics business?

Terry Delaney

On a consolidated cash statement in our 10-Q?

Faisel Khan - Citigroup

Yes.

Terry Delaney

Yes.

Faisel Khan - Citigroup

You had about a negative drop of about half a $0.5 billion. I just want to make sure.

Terry Delaney

Well a big part of it is from there; possibly you’re right, because of the build up of the crude storage, its storage play relative to where they were at the end of last year. They are a big part of it. The other part of it is, our own build of product inventories partially offset by the fact that we have from a working capital standpoint benefited from higher crude pricing.

Faisel Khan - Citigroup

Then just in terms of helping me understand how you get to the bottom of your guidance for Coke versus the top of your guidance what are the major variables that are going to help either get to the high end of the guidance or bottom end of the guidance for coke?

Mike Thomson

Again, it’s going to be the same answer I gave to Paul. The biggest sensitivity we have and continue to have is where coal prices ultimately settle out including the surrogate price for the coal we transfer over the fence in our Jewel operation to serve the ArcelorMittal Jewell coal contract. So we keep a close eye on that. We continue to manage that, but there’s still is some unsettled activity in that and if you remember that the nature of the sensitivity, every $25 a ton change in those coal prices or those coal blend prices is approximately $20 million to $25 million in net earnings.

So it remains a sensitivity, I will say we’re closing in on the second half so the lens is a little clearer than it was in the first half, but there is some open ended aspects of it.

Faisel Khan - Citigroup

Usually those coal contracts are kind of settled in the beginning of the year, right, in January?

Mike Thomson

That’s a unique year and what’s making it particularly unique is there’s still a lot of discussion around carryover contract, because volumes have been so low and working with the coal companies on those lower volumes and carryover tons and pricing.

Operator

Your next question comes from Alexander Inkster - Sanford Bernstein.

Alexander Inkster - Sanford Bernstein

A couple of questions, if I may and firstly, I was just wondering if you’re planning further acquisitions in Biofuels, and just in terms of modeling business, will it be as a separate business or part of Refining and Supply?

Lynn Elsenhans

We are considering other opportunities in Biofuels. We’ll look at that on a case-by-case basis. The way we approach this is to say, in the short term, it has to be a very attractive and economic supply for what we must put into our gasoline pool and longer term, it would be about does it position us for the opportunity to get away from corn based ethanol which we don’t, while we believe it will be part of the blending pool for a long time to come, is not necessarily the most sustainable of the Biofuel alternatives. So we’d have a bias towards those opportunities that would be able to put us in more sustainable Biofuels and really looking at it on a kind of case-by-case basis.

At the end of the day, we would not be looking to cover a 100% of our blending needs, but so we’d still want to have a portion at the market. I’m sorry, did you ask another question? What segment? Right now we’re putting it in Refining and Supply, so it’s like a supply cost.

Operator

Your next question comes from Mark Caruso - Millennium Partners.

Mark Caruso - Millennium Partners

Just a few clarification questions on coke, one of the things I was curious about is as Granite City has come back up, I want to see how that influences things at all and if there are any other plants we should keep an eye on if they come back online that would make a difference for coke.

Terry Delaney

Yes, none of this really makes too much of a difference, because we do have these take or pay contracts, but recently there’s been some good news with respect to the underlying assets behind our customer, our contracts with our customers. Indiana Harbor furnace number seven has been pretty much running at full capacity.

Up in Indiana they also started up number five and the good news down in Brazil with ArcelorMittal Tubarão, who is our customers, they publicly indicated they expect to be at about 90% operating utilization in the third quarter. Then as you mentioned, U.S. Steel brought back to Granite City Furnace. So, that’s all encouraging.

With respect to the Granite City project itself its 85% complete and we still do expect to commission that and start it up in the fourth quarter. So, everything seems to be on track.

Operator

Your next question comes from Mark Gilman - The Benchmark Company.

Mark Gilman - The Benchmark Company

Do you account for the Brazilian operation on a cost basis or an equity basis?

Terry Delaney

We account for that on a cost basis.

Mark Gilman - The Benchmark Company

That’s why the reference to the dividend in the second quarter.

Terry Delaney

Yes.

Mark Gilman - The Benchmark Company

What is the regularity with respect to those dividend payments? Is this the first one you’ve ever seen? What’s been the recent history and/or any formula oriented pay out policy going forward?

Terry Delaney

It’s an annual dividend and it’s the first one that we’ve seen.

Mark Gilman - The Benchmark Company

I’m having a little trouble understanding the Northeast Biofuels acquisition. On the one hand, it seems too small to even bother with, on the other hand, I don’t understand why in light of the comments with respect to the prior question, you’d even be interested the ethanol business. What’s the thinking here?

Lynn Elsenhans

Well, Mark first on the size. Yes, it is a very small investment, but it ends up giving us 25% of our needs for ethanol that we blend into the gasoline pool. So, we did another similar size investment it would get us to about 50% and that’s about as much as we would want to go on a corn-based ethanol.

Our thinking is that, in those geographies that we have a strong brand and that we have strong logistics that, we should we looking at the opportunity to provide these fuels to the customer if that’s what the customer in the end is going to want or the customer has helped to want it through government mandates and/or incentives.

So, getting some experience in doing this and tying it through and getting it all the way to the customer is our ultimate goal. As you say, it is at this point a very small investment and it’s providing as I said, 25% of our own internal needs. I’d just suspect that it will be sometime before it would be material, but you got to start someplace.

Mark Gilman - The Benchmark Company

So Lynn, this is not a return oriented investment nor would returns be an important consideration with respect to anything else you might do vis-a-vis ethanol?

Lynn Elsenhans

I don’t think that would be correct. Again, we have to buy this material to put it into our pool. So, we’ve kind of have done a make versus buy type analysis, and believe that this is going to deliver at an attractive supply point. So, we did nothing else, in a sense from your standpoint make a return.

We wouldn’t invest further in the business, as we did see our way to being able to make additional returns above the cost of capital.

Mark Gilman - The Benchmark Company

Why is it that you chose to combine the two refining divisions and no longer provide the transparency with respect to Toledo versus the Northeast?

Terry Delaney

Mark, because we’re not going to provide single refinery statistics to that level of specificity. So, we would be left with Toledo by itself. The size of our system within one system, it can be still bottled separately if that, what the capacity is, you know the kind of crude we buy. You can model it, the way you want, but we’re not going to provide the level of margin specificity and expenses for one refinery system every quarter.

Operator

Your next question is from Blake Fernandez - Howard Weil.

Blake Fernandez - Howard Weil

My questions on export opportunities, some of your peers on the Gulf Coast, you’ve talked about opportunities to export distillate. I’m curious, if you have any update on what you’re seeing on the East Coast?

Bob Owens

Blake, we have done a little bit of exports, but nothing significant and we continue to watch for opportunities there.

Blake Fernandez - Howard Weil

The second question, I had quickly on Chemicals. I see obviously some sequential improvement I guess as the economy seems to be recovering somewhat. I’m just curious if you can give an update on Q3. Are you’re seeing continual improvement into this quarter?

Bruce Rubin

I would say moderately, but not substantial. Some of our improvement is people restocking from customer base off of lower inventories and some of our improvement as we talked in general has been cost reductions for the business, but clearly we’re not seeing kind of volume dips that we saw late fourth quarter and first quarter.

Operator

There are no further questions. I would now like to turn the call back to Ms. Lynn Elsenhans.

Lynn Elsenhans

Okay, thank you everybody for participation today. Before I close the call, I’d like to thank Terry Delaney for all of the help he’s been as our interim CFO and his long and distinguish service at Sunoco. We all wish Terry, well as he goes on to the next journey in his life and Terry, all the best.

Terry Delaney

Thank you.

Lynn Elsenhans

We are adjourned. Thank you.

Operator

This concludes Sunoco’s second quarter earnings conference call. You may now disconnect.

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