Western Refining, Inc. Q2 2008 Earnings Call Transcript

| About: Western Refining, (WNR)

Western Refining Inc. (NYSE:WNR)

Q2 FY08 Earnings Call

August 7, 2008, 9:00 AM ET

Executives

Mark B. Cox - Sr. VP, Treasurer and Director of IR

Jeff A. Stevens - EVP

Paul L. Foster - President and CEO

Gary R. Dalke - CFO

Analysts

Jeff Dietert - Simmons & Company International

Chi Chow - Tristone Capital

Paul Sankey - Deutsche Bank

Ann Kohler - Caris & Company

Jacques. Rousseau - Soleil-Back Bay Research

Operator

Good day, ladies and gentlemen and welcome to the Second Quarter 2008 Western Refining Earnings Conference Call. My name is Fab and I'll be your coordinator for today. At this time, all participants are in a listen-only mode. We'll conduct a question-and-answer session towards the end of this conference. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the presentation over to your host for today's call Mr. Mark Cox, Treasurer and Director of Investor Relations. Please proceed.

Mark B. Cox - Senior Vice President, Treasurer and Director of Investor Relations

Thank you, Fab. Good morning everyone. I would like to thank you all for listening in today and for your continued interest in Western. My name is Mark Cox; I'm the Company's Treasurer and Director of Investor Relations. Today, we'll be discussing our second quarter 2008 financial and operating results, the details of these results were published this morning.

Joining me for today's call are Paul Foster, our CEO; Gary Dalke, our CFO; Jeff Stevens, our COO and other members of our senior management team. If you need a copy of the earnings release, you may obtain one from the Investor Relation section of our website at www.wnr.com.

I would like to remind everyone that many of the statements made during the course of this conference call may include forward-looking statements concerning management's current expectations. These statements are covered by the Safe Harbor provisions of the Securities and Exchange Act of 1934.

I refer you to the forward-looking statement and risk factors sections of the Company's reports that are filed periodically with the Securities and Exchange Commission including our Annual Report on Form 10-K and Quarterly Report on Form 10-Q.

In addition to reporting financial results in accordance with Generally Accepted Accounting Principles or GAAP, we report certain non-GAAP financial results. Investors are encouraged to review the reconciliation of these non-GAAP financial measures to the comparable GAAP results, which can be found in the press release, and also on our Investor Relations website.

At this time, I would like to turn the call over to Paul.

Paul L. Foster - President and Chief Executive Officer

Thank you, Mark and thank you all for joining us this morning. As noted in our press release, second quarter 2008 net income was $8.2 million or $0.12 per diluted share. This includes a non-cash pretax charge of $10.9 million or about $0.12 per diluted share, as a result of a write-off of unamortized loan fees. Without this write-off, earnings would have been 16.4 million or $0.24 per share. This compares to net income of 155 million or $2.29 per diluted share for the same period in 2007.

While throughput in all of our refineries continued to improve during the quarter. The benefit of this increase was more than offset by rising crude prices. The increase in feedstock cost coupled with softness in finished product prices, particularly gasoline and lower value products such as asphalt, fuel oil and petroleum coke, resulted in lower refining margins compared to the same period last year. Our refinery gross margin per throughput barrel was $9.29 for the quarter compared to $21.85 for the same period in 2007.

During the second quarter, we continue to make very significant progress on our operating initiatives, which led to improved performance at all the refineries. At our El Paso refinery, we increased the amount of sour crude oil that we are processing to approximately 22,000 barrels per day compared to approximately 12,000 barrels per day this time last year. This increase is in line with what we thought we would achieve with completion of the DuPont SAR project.

When we complete the low sulfur gasoline project at the El Paso refinery in the second quarter of 2009, we'll have the ability to raise our sour crude runs up to approximately 50% of crude oil throughput. We increased the amount of heavy crude oil that we processed at our Yorktown refinery from 33,100 barrels per day in the second quarter last year to 39,400 barrels per day this year.

In the month of July, we increased the heavy crude oil throughput to approximately 54,000 barrels per day and we believe that we'll move that right even higher. The displacement of light crude with heavier crude oil could have a significant impact on Yorktown's bottom line, as the pricing differential between the two grades has been approximately $10 per barrel.

In our Four Corners refineries, we have continued to renegotiate feedstock supply agreements and to make efforts to reduce our feedstock cost. Today, our average crude oil cost at the Four Corners is approximately $9 below NYMEX. We have made great strides in the areas of safety and improving the reliability of our refining operations. In the past year, we have significantly reduced the occurrence of unplanned outages at the Legacy Giant facilities and our El Paso refinery recently celebrated the achievement of 1 million man hours of accident free operations.

Looking ahead, Diesel margins continued to be very strong and we are experiencing significant improvement in asphalt margins, as asphalt prices have increased and the price of crude oil has declined. The loss on asphalt has been a very significant drag on earnings in the first half of '08, as prices struggle to increase at the same rate as crude oil. Gasoline margins continued to be lower than historical levels, as a result of reduced consumer demand and product inventory builds.

With regard to our guidance for the third quarter of '08, we expect crude oil throughput at our Four refineries to be approximately 211,600 barrels per day. We expect total refinery throughput at our Four refineries to be approximately 232,180 barrels per day.

We expect operating cost to be 390 per barrel at El Paso, approximately 758 per barrel at the Four Corners and approximately 464 per barrel at Yorktown. We except SG&A expenses to be approximately $27 million, interest expense to be about $31 million and depreciation and amortization of about $29 million. Our tax rate should be 32%. We believe that capital expenditures for the remainder of '08 will be approximately $80 million for a total of 197 million for the full year of 2008. A significant portion of this spending will be for the low sulfur gasoline unit in El Paso.

I think everyone listening to this call today knows how challenging the refining environment has been in the past few quarters. We recently announced that we amended our credit facilities to eliminate all financial covenants for the fiscal quarter ended June 30, 2008. Financial covenants will be reinstated for future quarters effective September 30, 2008 at renegotiated levels. We have obtained a new $80 million credit facility, which is in addition to our $800 million revolver.

As we said in the press release, we have recently taken another step, as we have retained Goldman Sachs and Company and Banc of America Securities LLC to help evaluate additional options to further strengthen our balance sheet as well as specific asset sales. We remain confident that we are taking significant strides in the right direction and it will be significantly stronger financially, when we complete this process.

In closing, I would like to thank our employees throughout the company for their hard work and their dedication to safety. We have a number of projects underway in all of our refineries and safe reliable operations along with environmental stewardship continue to be our top priorities. Thank you again for listening and we'll now open the call up for questions. Fab, we are ready for questions.

Question And Answer

Operator

[Operator Instructions] And your first question will come from the line of Jeff Dietert from Simmons. Please proceed.

Jeff Dietert - Simmons & Company International

Good morning. Paul I was hoping you could talk to us about what you are targeting on restructuring or is it primarily meeting the debt covenant or what do you see ideally you are accomplishing through the process?

Paul L. Foster - President and Chief Executive Officer

Jeff we have always had a, what we considered to be a conservative financial policy and capital policy and we have always had a goal of not having debt that's more than two to three times our EBITDA. And in the environment that we have been in the last year obviously we have gotten way outside of that range and our goal is to get back within that range.

Jeff Dietert - Simmons & Company International

You mentioned specifically the Yorktown asset is under strategic review. What other assets are in that category?

Paul L. Foster - President and Chief Executive Officer

Right now we are focusing on Yorktown. It's a very comprehensive process. We are looking at a number of other assets that are in our portfolio and we think a lot of them have great value. Yorktown in particular has….we think is a great asset. It's one of the… its probably the most complex refining asset that we have seen on the market and offers a lot of advantages and we think we can be able to really realize a lot of value out of that asset.

Jeff Dietert - Simmons & Company International

On your, asphalt margins could you give us a feel for what the margins were in the second quarter, and then what you saw in July and kind of current asphalt margins?

Paul L. Foster - President and Chief Executive Officer

Yeah. I'm going to… I'll ask Jeff to address that. He is probably closer to the numbers. One thing I'll mention is I have heard some of our peer refiners talk about asphalt margin, I think they look at it a little bit differently then we do. We don't use a transfer pricing mechanism. We kind of look at, what is our price of asphalt versus what is our cost of crude oil, when we are looking at margins. And so our view of it… I think at the end today, it all comes out the same. But the way we are reporting it and talk about is a little bit different. But Jeff, can you talk a little bit about some specifics.

Jeff A. Stevens - Executive Vice President

Yeah. In the second quarter when you look at what we realize for asphalt the absolute price Jeff was about $60 versus our cost of crude. So, we took about a $60 per barrel hit in the second quarter. In the third quarter, now that has shrunk back to what we would consider a historical differences of 10 to $20 of barrel. And in fact in August, if crude prices stay were they are at, we are about even as far as what we are selling asphalt for versus what we are paying for crude.

Jeff Dietert - Simmons & Company International

Very good. Thanks for your comments.

Jeff A. Stevens - Executive Vice President

Thank you, Jeff.

Operator

Your next question will come from the line of Chi Chow from Tristone Capital.

Chi Chow - Tristone Capital

Good morning.

Paul L. Foster - President and Chief Executive Officer

Good morning.

Chi Chow - Tristone Capital

Hey Paul, little bit further on Yorktown would you… are you looking at an outright sale would you consider a partial sale of that asset.

Paul L. Foster - President and Chief Executive Officer

We are looking at both. We are undertaking a very comprehensive analysis just to see what the best ultimate structure is for us to show up our balance sheet. And I think, there are a lot of good alternatives for us out there. We are certainly interested in a joint venture type arrangement and we are also taking a hard look at an outright sale, if that's…if that's where we end up.

Chi Chow - Tristone Capital

Okay, great. Thanks. I guess you have got a reset on your coverage ratio here at the end of third quarter. Do you feel like you need to complete an asset sale by the end of this quarter to meet that covenant? It seems like the fundamentals are getting better. But how do you raise the…

Paul L. Foster - President and Chief Executive Officer

As far as the covenants I can tell you that, that based on the results we have reported for the second quarter and based on what we have already seen in July, we are very, very comfortable. We are not at all concerned about covenant issues. And onto the rest of your question, I don't think it's feasible to expect, to put a deadline or a hard time on when we'll complete asset sales.

Chi Chow - Tristone Capital

Okay.

Paul L. Foster - President and Chief Executive Officer

But we don't feel any pressure to get it done by certain time.

Chi Chow - Tristone Capital

All right. Great. Could you give us some feel on the gasoline market in southwest region how is that acting here by in August and do you have any data from your retail on how things are trending?

Paul L. Foster - President and Chief Executive Officer

I think, I'm going to defer to Jeff again on that. Jeff is the guy that's closest to the market.

Jeff A. Stevens - Executive Vice President

Yeah. In the southwest right now what we are seeing is obviously the spot markets have comedown and are at a very low margin. But in the southwest right now, what we are seeing is above historical relationships between what we would consider the Gulf Coast versus the different markets we are in. So, relative to the markets the margins are okay. They are not as depressed as they are on the spot markets.

As far as volumes go within the retail group they are actually holding in pretty well. We have not seen within our retail group much of a decline, has been reported by other large retail chain. So, overall considering the environment we are in it's an okay environment is how I would put it Chi.

Chi Chow - Tristone Capital

Okay. Thanks, Jeff. And then one more question, do you have a CapEx assessment for 2009?

Paul L. Foster - President and Chief Executive Officer

We are actually… we haven't reported that yet Chi.

Chi Chow - Tristone Capital

Okay. Thanks a lot. I appreciate it.

Paul L. Foster - President and Chief Executive Officer

Thank you.

Operator

Your next question will come from the line of Paul Sankey from Deutsche Bank.

Paul Sankey - Deutsche Bank

Hi guys. Good morning. Can you hear me?

Paul L. Foster - President and Chief Executive Officer

Yes we can.

Paul Sankey - Deutsche Bank

Sorry about that. Just going through some of your interest income expense and write-offs, can you give… forgive me if I missed this, but did you give any guidance for how much you expect that interest expense to be going forward? Obviously you have had bit of a jump up I just wondered what was your views and how should we think about it?

Paul L. Foster - President and Chief Executive Officer

The guidance that I gave few minutes to go was to make sure that we expect interest expense in the third quarter to be $31 million. Gary, I don't know, if you have more color on that?

Gary R. Dalke - Chief Financial Officer

That would be you know until we achieve debt reduction that should be the target going forward on a quarterly basis.

Paul Sankey - Deutsche Bank

Is there a sensitivity we can think about regarding because it's fairly easy to calculate what that would be given the additional level of interest rates, I mean at a wider level?

Gary R. Dalke - Chief Financial Officer

Well, the guidance that we gave is based upon the… we used an interest rate of 7.75 annualized percent, which is our LIBOR for 3.25 plus the new order of [ph] 4.5% and that's how we got there as depending on what LIBOR does that would be the sensitivity and that's the basis for the calculation.

Paul Sankey - Deutsche Bank

That's great. That's exactly what I was wondering. Thank you. And on the write-off that you have got there of the amortization of loan fees and the write-off of unamortized is that… is there more to come from the… or is that kind of… is that cleaned out now?

Gary R. Dalke - Chief Financial Officer

No, that's cleaned out now.

Paul Sankey - Deutsche Bank

Right. Okay. So, we just got to think about the interest expense we don't need to think about anymore write downs there. Can you go into the derivative activities a little bit more obviously you have got a loss there. I just wondered if you could help me think about that going forward as well.

Paul L. Foster - President and Chief Executive Officer

Yeah that was primarily… we sold some crack spread, some heat and jet cracks. We currently have some of those in the third quarter as we have said before Paul, we do very little it's less than 10% of our diesel and jet production. So, we have some in the third quarter that have actually, have turned slightly positive. We don't have any in the fourth quarter or beyond that. So, there is very little out there.

Paul Sankey - Deutsche Bank

Good. Thank you. That's helpful. On the strategy note, where you are saying that you are trying to sell the Yorktown, but at the same time you are saying you think it's a very attractive refinery, and at the same time you are also saying that you think you are in a K shape as far as the balance sheet goes. Can you just comment and square the circle there a bit because surely what you would want to do here is tough it on Yorktown and make it work better. I don't quite understand if you think that the balance sheet is okay, why you feel that you got to try and sell it?

Jeff A. Stevens - Executive Vice President

Well, we have made, as I mentioned, we are committed to getting our debt down and that's sort of the bottom line for us. We don't want to sell Yorktown. We think Yorktown has fantastic, not only value but upside. And at the end of the day, I don't know, markets change very quickly. We bought Giant a year ago at that time based on both historical and future earnings. We were within that 2 to 3 range, where we wanted to be and we are very comfortable with it, and we are very happy with the portfolio of assets that we had.

So, it's not a case I want to get rid of the Yorktown. But we are committed, we have committed to our lenders. We have committed to our shareholders; you guys, the analysts and everybody else that we are going to get our balance sheet shorter. And a transaction involving Yorktown is probably the best way to get a lot of that done. It's not a certainty that we'll sell Yorktown, like I said we have other assets. And we are looking at other alternatives to raise capital and reduce debt. And so, we'll just see at the end of the day, we are going through a very comprehensive process right now on Yorktown. But we are also looking at a number of other alternatives.

Paul Sankey - Deutsche Bank

I suppose that the price below, which you won't go, I guess, is that the way you are looking at?

Jeff A. Stevens - Executive Vice President

Well, we haven't established that. But we are going to do this analysis and go through the process and make a determination, whatever is best for the shareholders. And we are not going to give it away.

Paul Sankey - Deutsche Bank

Yep. Okay. Thanks guys. I understand. Thank you.

Operator

Your next question will come from the line of Ann Kohler from Caris.

Ann Kohler - Caris & Company

Yes, good morning. Just sort of a follow-up on that question. I guess, you either thought of right I mean, you currently have a little bit it's taken…. basically indicated that they were unable to get the kind of asset prices that they deemed appropriate for some of their refineries. One of your competitors is also indicating that they have pulled out of looking at purchasing any refineries in the near-term. I guess, I just a little confused as to sort of why I mean… again I mean it seems as though…. that the goal to sell Yorktown or some strategic alternative joint venture is really driven, I guess more by the concern over the balance sheet.

I mean how, do you write the thought that you are looking at splitting an asset on the market, when it seems as though your peers has unable to get the kinds of prices that they are looking for or if others that are totally backed away indicating their concern about the overall environment going forward. So, kind of what confidence are you providing to the street and I guess also from a…from your shareholder standpoint of view, is this really the best time to be selling that or looking for a partner for that asset?

Paul L. Foster - President and Chief Executive Officer

Thanks, Ann. I can tell you that we had obviously a lot of discussion on that topic and we are aware of the others assets that have been on the market. And first of all, we would not have made this announcement today if we weren't confident in this process. As I mentioned earlier that Yorktown is a unique asset. It is a very different from the other assets that has been on the market. From what I saw those were mostly sweet crude, non-complex refineries.

Yorktown is a very complex refinery. It's on the East coast with waterborne access, which is a great asset. It's got a lot of room to expand and has the ability to process a lot of different crudes. We run virtually 100% foreign crudes in that refinery and with the operating initiatives that we put into place, we just think it's a great asset and it's going to bring a lot of value. We don't think it's very comparable to the other assets that have been on the market and we are very confident in the process.

Ann Kohler - Caris & Company

Well then again it goes back to Paul's question is that is such a wonderful asset. I mean certainly we are now a year into the poor refining margin environment and certainly you were cognizant that you were having difficulties at the beginning of the year. I mean it seems to me now that by putting the market… the asset on the market now given the outlook that many have within the industry and concerned about demand going into next year that you really… and the market is aware of the financial difficulties that you have been in that you really kind of jeopardizing the shareholders versus the debt holders to remain in ongoing entity?

Paul L. Foster - President and Chief Executive Officer

Well, Ann that's a great question. Ann, I'll tell you our focus right now is on Yorktown. But we clearly have another…. number of other assets that have great value and we are undertaking this very comprehensive process and looking at the entire company and the assets throughout the company. And at the end of the day we are going to do what makes sense for the company and for the shareholder.

Ann Kohler - Caris & Company

Great. Thank you.

Operator

Your next question will come from the line of [inaudible] from Credit Suisse.

Unidentified Analyst

Hi. Good morning.

Paul L. Foster - President and Chief Executive Officer

Good morning.

Unidentified Analyst

A couple of questions on liquidity how… it looks like you guys built about 60 million bucks in liquidity this quarter versus last quarter, do that come from not only from shrinking working capital or from other sources?

Paul L. Foster - President and Chief Executive Officer

Gary, can you?

Gary R. Dalke - Chief Financial Officer

Yeah. We hope to publish our 10-Q tomorrow which will have the statement of cash flows. But if you look at our changes in operating assets and liabilities, they contributed 9.1 million year-to-date. We have got significant depreciation that certainly improves cash flow of 53 million. We also received a…..we had paid down a significant amount of income taxes for….and last year and we actually received about 65 million during the second quarter of income tax pre-funds that we had paid above and beyond and what we needed to. So, those are kind of the driving factors.

Unidentified Analyst

I'm sorry. How much was that income tax, rebate or refund?

Gary R. Dalke - Chief Financial Officer

About 65 million.

Unidentified Analyst

Okay. Another question I guess is, we are obviously seeing lower crudes here in the last several days. Do you think that's going to sort of help the working capital situation? And sort of how much of the help, do you think it will be just qualitatively?

Gary R. Dalke - Chief Financial Officer

Yeah. I mean, as crude costs come down that will definitely help the working capital situation. We carry approximately 7.7 million barrels of hydrocarbon inventories, a large portion of which is crude. So, yes, as that comes down, our working capital should improve.

Unidentified Analyst

All right. Got you. Do you, and it's a hard question to answer I guess. But do you think gas can run this thing for a free cash flow neutral between now and end of the year. Are you putting in place various cost containment efforts and other things that will sort of keep you in good form here?

Gary R. Dalke - Chief Financial Officer

I think… I think our projections and our operating plan, we are very confident in our ability to stay within our budgets and stay within our objectives. And of course, we have new the loan covenants that we are dealing with and we are also very confident in our ability to comply with those.

Unidentified Analyst

Just one more, that's great. Just one more question on Yorktown. Obviously, there was some concern that the mine has been damaged by some various set of crudes schedule running through and I guess there was a contract issue with… I think with Statoil. Any update on that or comment on the Yorktown what the situation is there?

Paul L. Foster - President and Chief Executive Officer

Well. I think most people are aware that we are involved in some litigation in that regard and because of that I'm not sure I can speak much to that. I can tell you that we are confident that we stop the problem in time and that the plant is operating very safely and efficiently now. So, we are happy with the way the asset is. But we are also glad that we are able to get away from that.

Unidentified Analyst

All right. Thank you.

Operator

Your last question will come from the line of Jacques Rousseau from Back Bay Research.

Jacques. Rousseau - Soleil-Back Bay Research

Good morning, gentlemen.

Paul L. Foster - President and Chief Executive Officer

Good morning.

Jeff A. Stevens - Executive Vice President

Good morning, Jack

Jacques. Rousseau - Soleil-Back Bay Research

Just a quick question, I wanted to see if you could an update on the maintenance schedule for the rest of this year and next year?

Jeff A. Stevens - Executive Vice President

I'm looking around the table. I don't have those numbers at my fingertips.

Jacques. Rousseau - Soleil-Back Bay Research

Do you have…

Paul L. Foster - President and Chief Executive Officer

We'll have planned maintenance turnarounds for the balance of this year. We have two schedules for next year. We have got a turnaround scheduled at our El Paso facility in the spring…actually early next year. And then we also have a maintenance plan, maintenance turnaround scheduled at our Yorktown refinery during the third quarter of next year.

Jacques. Rousseau - Soleil-Back Bay Research

Are those significant turnarounds?

Paul L. Foster - President and Chief Executive Officer

I think they are each about $25 million as what's expected. So, yeah they are fairly significant.

Jacques. Rousseau - Soleil-Back Bay Research

Thank you very much.

Paul L. Foster - President and Chief Executive Officer

Thank you.

Operator

I'll now turn the call back over to management for closing remarks.

Mark B. Cox - Senior Vice President, Treasurer and Director of Investor Relations

Okay. Thank you. Fab. I just once again want to thank everybody for participating and we look forward to another profitable quarter and look forward to talking to you soon. Thank you.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a wonderful day.

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