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FORM 10-K
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001
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 78212
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (210) 370-2000
Securities registered pursuant to Section 12(b) of the Act:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
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COMMON STOCK, $.01 PAR VALUE NEW YORK STOCK EXCHANGE
PREFERRED SHARE PURCHASE RIGHTS NEW YORK STOCK EXCHANGE
Securities registered pursuant to Section 12(g) of the Act:
NONE.
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
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Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value on February 28, 2002, of the registrant's
common stock, $.01 par value, held by nonaffiliates of the registrant, based on
the average of the high and low prices quoted on the New York Stock Exchange for
that date, was approximately $4.2 billion. As of February 28, 2002, 104,915,970
shares of the registrant's common stock were issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Valero intends to file with the Securities and Exchange Commission in
March 2002 a definitive Proxy Statement for Valero's Annual Meeting of
Stockholders scheduled for May 9, 2002, at which directors of Valero will be
elected. Portions of the 2002 Proxy Statement are incorporated by reference in
Part III of this Form 10-K and are deemed to be a part of this report.
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CROSS-REFERENCE SHEET
The following table indicates the headings in the 2002 Proxy Statement where the
information required in Part III of Form 10-K may be found.
FORM 10-K ITEM NO. AND CAPTION HEADING IN 2002 PROXY STATEMENT
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10. Directors and Executive Officers of the
Registrant.................................... Proposal No. 1 - Election of Directors, and Information
Concerning Nominees and Other Directors and Section
16(a) Beneficial Ownership Reporting Compliance
11. Executive Compensation........................... Executive Compensation, Stock Option Grants and
Related Information, Report of the Compensation
Committee of the Board of Directors on Executive
Compensation, Retirement Benefits, Arrangements with
Certain Officers and Directors and Performance Graph
12. Security Ownership of Certain Beneficial
Owners and Management......................... Beneficial Ownership of Valero Securities
13. Certain Relationships and Related
Transactions.................................. Transactions with Management and Others
Copies of all documents incorporated by reference, other than exhibits to such
documents, will be provided without charge to each person who receives a copy of
this Form 10-K upon written request to Jay D. Browning, Vice President and
Corporate Secretary, Valero Energy Corporation, P.O. Box 500, San Antonio, Texas
78292-0500.
ii
CONTENTS
PAGE
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Cross Reference Sheet............................................................ ii
PART I
Items 1. & 2. Business & Properties............................................................ 4
Recent Developments ......................................................... 5
Valero's Operations ......................................................... 7
Selected Operating Results .................................................. 15
Competition ................................................................. 15
Environmental Matters ....................................................... 16
Employees ................................................................... 18
Properties .................................................................. 18
Executive Officers of the Registrant ........................................ 19
Item 3. Legal Proceedings................................................................ 20
Item 4. Submission of Matters to a Vote of Security Holders.............................. 23
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters............ 23
Item 6. Selected Financial Data.......................................................... 24
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations........................................................ 25
Item 7A. Quantitative and Qualitative Disclosures About Market Risk....................... 50
Item 8. Financial Statements............................................................. 56
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure..................................................... 118
PART III
Items 10.-13. Incorporated by Reference from Valero's Proxy Statement for its 2002 Annual
Meeting of Stockholders...................................................... 118
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K................. 118
iii
CAUTIONARY STATEMENTS RELEVANT TO FORWARD-LOOKING INFORMATION FOR THE PURPOSE OF
SAFE HARBOR PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995.
This Form 10-K contains certain estimates, predictions, projections, assumptions
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 in this report. 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.
Some important factors (but not necessarily all factors) that could affect
Valero's sales, growth, profitability and operating results, or that otherwise
could cause actual results to differ materially from those forecasted by Valero
are discussed in (a) Part I of this report under the headings "Competition" and
"Environmental Matters," (b) Management's Discussion and Analysis of Financial
Condition and Results of Operations under the heading "Forward-Looking
Statements," and (c) Valero's other filings with the Securities and Exchange
Commission. Valero does not intend to update these statements unless the
securities laws require Valero to do so, and Valero does not undertake to
release publicly the result of any revisions to any forward-looking statements
that may be made to reflect events or circumstances after the date of this Form
10-K or to reflect the occurrence of unanticipated events.
PART I
ITEMS 1. & 2. BUSINESS & PROPERTIES
Valero Energy Corporation(1) is a Fortune 100 company based in San Antonio,
Texas with over 22,000 employees and total assets of almost $15 billion. Its
common stock trades on the New York Stock Exchange under the symbol "VLO."
Valero's principal executive offices are located at One Valero Place, San
Antonio, Texas, 78212 and its telephone number is (210) 370-2000.
One of the top three U.S. refining companies in terms of refining capacity,
Valero owns and operates 11 refineries in the United States and one refinery in
Canada with a combined throughput capacity of about 1.9 million barrels per day
(BPD). Valero's refining network stretches from eastern Canada to the U.S. Gulf
Coast and West Coast. Valero produces premium, environmentally clean products,
such as reformulated gasoline (RFG), gasoline meeting the specifications of the
California Air Resources Board (CARB), CARB diesel fuel, low-sulfur diesel fuel
and
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(1) Valero was incorporated in Delaware in 1981 under the name Valero Refining
and Marketing Company as a wholly owned subsidiary of a corporation then known
as Valero Energy Corporation, and referred to in this report as 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 by distributing to them all of the common stock of
Valero. Immediately after this distribution, Old Valero, with its remaining
natural gas related services business, merged with a wholly owned subsidiary of
PG&E Corporation. The distribution of Valero to Old Valero's stockholders and
the merger of Old Valero with the subsidiary of PG&E Corporation are
collectively referred to as the "Restructuring." Upon completion of the
Restructuring, Valero's name was changed from Valero Refining and Marketing
Company to Valero Energy Corporation and its common stock was listed for trading
on the New York Stock Exchange under the symbol "VLO."
4
oxygenates.(2) Valero also produces a substantial slate of conventional
gasoline, distillates, jet fuel, asphalt and petrochemicals.
Valero is also a leading marketer of refined products. Valero markets branded
and unbranded refined products on a wholesale basis in 40 U.S. states and Canada
through an extensive bulk and rack marketing network. Valero also markets
refined products and convenience store merchandise through a network of retail
sites in the United States and Canada bearing the Diamond Shamrock(R),
Ultramar(R), Valero(R), Beacon(R) and Total(R) brand names.
Valero also has a logistics system that complements Valero's refining and
marketing assets in the U.S. Gulf Coast and Mid-Continent regions. Valero owns
about 73 percent of Valero L.P., a master limited partnership that owns and
operates crude oil pipelines, refined product pipelines and refined product
terminals in Texas, Oklahoma, New Mexico and Colorado. Units of Valero L.P. are
listed on the New York Stock Exchange under the symbol "VLI."
When used in this report, the term "Valero" may refer, depending upon the
context, to Valero Energy Corporation, to one or more of its consolidated
subsidiaries or to all of them taken as a whole.
RECENT DEVELOPMENTS
ACQUISITION OF ULTRAMAR DIAMOND SHAMROCK CORPORATION. Effective December 31,
2001, Valero completed the merger of Ultramar Diamond Shamrock Corporation (UDS)
into Valero Energy Corporation, with Valero Energy Corporation as the surviving
corporation. This transaction is referred to in this report as the UDS
Acquisition. Under the terms of the merger agreement dated May 6, 2001, each
outstanding share of UDS common stock, other than treasury shares (which were
cancelled) and shares in employee benefit plans (which were converted directly
into Valero common stock), was converted into the right to receive, at the
shareholder's election but subject to proration, either (i) cash, (ii) a number
of shares of Valero common stock, or (iii) a combination of cash and Valero
stock, in each case having a value equal to the sum of $27.50 and .614 shares of
Valero common stock (valued at the average closing Valero common stock price
over a ten trading-day period ending three days prior to the merger). Merger
consideration paid by Valero to UDS shareholders included approximately $2.1
billion in cash and approximately 45.9 million shares of Valero common stock
(based on an average Valero stock price of $35.78 during the measurement
period).
UDS was an independent refiner and retailer of refined products and convenience
store merchandise in the central, southwest and northeast regions of the United
States and eastern Canada. UDS owned and operated seven refineries, including
two in Texas, two in California and one each in Oklahoma, Colorado and Quebec,
Canada, with a combined throughput capacity of approximately 850,000 BPD. UDS
marketed refined products and a broad range of convenience store merchandise
through a network of approximately 4,500 convenience stores in the United States
and eastern Canada under the brand names Diamond Shamrock(R), Beacon(R),
Ultramar(R) and Total(R). UDS's Northeast operations also included a retail home
heating oil business.
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(2) "Oxygenates" are liquid hydrocarbon compounds containing oxygen. Gasoline
that contains oxygenates usually has lower carbon monoxide emissions than
conventional gasoline. MTBE (methyl tertiary butyl ether) is an oxygen-rich,
high-octane gasoline blendstock produced by reacting methanol and isobutylene,
and is used to manufacture oxygenated and reformulated gasolines.
5
As a condition to approval of the UDS Acquisition, the U.S. Federal Trade
Commission (FTC) is requiring Valero to sell UDS's 168,000 BPD Golden Eagle
Refinery located in the San Francisco Bay Area, its related wholesale marketing
business, and 70 associated Beacon- and Ultramar-branded retail sites in
Northern California. In February 2002, Valero entered into an agreement to sell
these assets, together with related inventories, to Tesoro Refining and
Marketing Company (Tesoro) for $1.125 billion, subject to closing adjustments.
The sale is expected to close in April 2002, subject to regulatory approval. The
FTC has approved a trustee to manage the operations of these assets pending
their sale to Tesoro. See Notes 2, 3 and 27 of Notes to Consolidated Financial
Statements.
ACQUISITION OF HUNTWAY REFINING COMPANY. Effective June 1, 2001, Valero
completed its acquisition of Huntway Refining Company. Huntway owned and
operated two California refineries at Benicia and Wilmington that produce
asphalt for use in road construction and repair, primarily in California and
Nevada. The facilities also produce smaller amounts of gas oil, naphtha and
kerosene. These facilities have been substantially integrated into Valero's
refinery systems at Benicia and Wilmington. The purchase price, net of cash
acquired, was approximately $76 million and included payment to Huntway's common
stockholders of $1.90 per share and amounts required to retire Huntway's
outstanding debt and satisfy payment obligations under outstanding stock
options.
ACQUISITION OF EL PASO REFINERY AND RELATED PRODUCT LOGISTICS BUSINESS.
Effective June 1, 2001, Valero completed its acquisition of El Paso
Corporation's 115,000 BPD Corpus Christi, Texas refinery and related product
logistics business through capital lease agreements that have a term of 20 years
and require annual lease payments of $18.5 million for the first two years and
increased amounts thereafter. The agreements also give Valero an option to
purchase the facilities for approximately $294 million at the end of the second
year of the lease and for increasing amounts in each succeeding year through the
end of the lease term. As part of the acquisition, Valero also purchased
inventories for approximately $109 million. The refinery, which is located near
Valero's existing Corpus Christi Refinery, is a complex refinery that processes
heavy, high-sulfur crude oil into conventional gasoline, diesel, jet fuel and
other light products and petrochemicals. The product logistics facilities
consist of three intrastate common carrier pipelines and related terminal
facilities that enable refined products to be shipped from Corpus Christi to
markets in Houston, San Antonio, Victoria, and the Rio Grande Valley.
6
VALERO'S OPERATIONS
Valero's primary reportable business segments are refining and retail. Valero's
refining segment includes refinery, wholesale marketing, product supply and
distribution, and transportation operations. The refining segment is segregated
geographically into the Gulf Coast, Mid-Continent, West Coast and Northeast
regions. Valero's retail segment includes company-operated convenience stores,
Canadian dealers/jobbers, truckstop facilities, cardlock and home heating oil
operations. The retail segment is also segregated geographically. Valero's
retail operations in the northeastern United States and eastern Canada are
referred to as the Northeast System, and Valero's remaining retail operations in
the United States are referred to as the US System. See Note 20 of Notes to
Consolidated Financial Statements for additional segment information.
REFINING
Valero's refining operations include 12 refineries with a combined total
throughput capacity of approximately 1.9 million BPD. The following table lists
the location of each of Valero's refineries and its respective feedstock
throughput capacity. The table excludes the Golden Eagle Refinery, which is
being sold.
THROUGHPUT CAPACITY(a)
REFINERY LOCATION (BARRELS PER DAY)
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GULF COAST:
Corpus Christi Texas 340,000
Texas City Texas 240,000
Houston Texas 135,000
Three Rivers Texas 98,000
Krotz Springs Louisiana 85,000
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898,000
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WEST COAST:
Benicia California 180,000
Wilmington California 140,000
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320,000
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MID-CONTINENT:
McKee Texas 170,000
Ardmore Oklahoma 85,000
Denver Colorado 27,000
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282,000
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NORTHEAST:
Quebec Quebec, Canada 205,000
Paulsboro New Jersey 195,000
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400,000
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TOTAL 1,900,000
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(a) Throughput capacity includes crude oil, intermediates
and other feedstocks. Total crude oil capacity is
approximately 1,526,000 BPD.
Gasolines represent approximately 52 percent of Valero's refined product slate,
and distillates - such as home heating oil, diesel and jet fuel - represent
approximately 30 percent; asphalt, lubricants, petrochemicals and other heavy
products comprise the remaining 18 percent. Of the gasoline that Valero
produces, about 45 percent is produced as reformulated gasoline and CARB
gasoline, which sell at a premium over conventional grades of gasoline. Over 75
percent of Valero's distillate slate is CARB diesel, low-sulfur diesel and jet
fuel, which sell for a premium over high-sulfur heating oil.
7
GULF COAST
Valero's Gulf Coast refining region includes the Corpus Christi Refinery, the
Texas City Refinery, the Houston Refinery, the Three Rivers Refinery and the
Krotz Springs Refinery. The following table shows representative percentages of
the principal feedstock charges and product yields for the five refineries in
this region for 2002.
Combined Gulf Coast Region Feedstocks and Products
Projected for 2002
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Feedstocks: Percentage
----------
sour crude 54%
sweet crude 22%
residual fuel oil 9%
other feedstocks and blendstocks 15%
Products:
gasoline & blendstocks 50%
distillates 30%
petrochemicals 5%
lubes and asphalts 2%
other products 13%
CORPUS CHRISTI REFINERY. The Corpus Christi Refinery is located along the Corpus
Christi Ship Channel on the Texas Gulf Coast. The refinery is composed of two
plants, Valero's flagship West Plant and the recently acquired East Plant. The
West Plant is a highly complex refinery that specializes in processing primarily
lower-cost sour crude oil and residual fuel oil (resid) into premium products
such as RFG and CARB gasoline. Valero has substantially integrated the
operations of the West Plant and the East Plant allowing for the transfer of
various feedstocks and blending components between the plants and the sharing of
resources. The refinery typically receives and delivers its feedstocks and
products by tanker and barge via deep-water docking facilities along the Corpus
Christi Ship Channel. In addition, the refinery has an eight-bay truck rack for
servicing local markets and uses the Colonial, Explorer and other major
pipelines - including its own pipelines - for distribution of its products.
TEXAS CITY REFINERY. The Texas City Refinery is located approximately 40 miles
southeast of Houston on the Texas City Ship Channel. As a result of improvements
Valero made to this refinery since its acquisition in 1997, the Texas City
Refinery processes primarily lower-cost sour crudes into a wide slate of
products. A 45,000 BPD delayed coking unit and related facilities are being
constructed at the refinery which are expected to be operational in early 2004.
The refinery typically receives and delivers its feedstocks and products by
tanker and barge via deep-water docking facilities along the Texas City Ship
Channel and also has access to the Colonial, Explorer and TEPPCO pipelines for
distribution of its products.
HOUSTON REFINERY. The Houston Refinery is located on the Houston Ship Channel.
The refinery typically receives its feedstocks via tanker at deep-water docking
facilities along the Houston Ship Channel. The refinery primarily delivers its
products through major product pipelines, including the Colonial, Explorer and
TEPPCO pipelines.
8
THREE RIVERS REFINERY. The Three Rivers Refinery is located in South Texas near
Corpus Christi. The Three Rivers Refinery has access to crude oil from foreign
sources delivered to the Texas Gulf Coast at Corpus Christi as well as crude oil
from domestic sources through third-party pipelines. The Three Rivers Refinery
and the Corpus Christi Refinery are connected by a 70-mile pipeline that can
deliver 120,000 BPD of crude oil. Valero distributes refined products produced
at this refinery primarily through pipelines owned by Valero L.P.
KROTZ SPRINGS REFINERY. The Krotz Springs Refinery is located approximately
halfway between Baton Rouge and Lafayette, Louisiana on the Atchafalaya River.
The refinery's location provides access to upriver markets on the Mississippi
River, and its docking facilities along the Atchafalaya River are sufficiently
deep to allow barge access. The facility also uses the Colonial pipeline to
transport products to markets in the Southeast and Northeast.
WEST COAST
Valero's West Coast refining region includes the Benicia Refinery and the
Wilmington Refinery. The following table shows representative percentages of the
principal feedstock charges and product yields for the two refineries in this
region for 2002.
Combined West Coast Region Feedstocks and Products
Projected for 2002
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Feedstocks: Percentage
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sour crude 77%
sweet crude 0%
residual fuel oil 0%
other feedstocks and blendstocks 23%
Products:
gasoline & blendstocks 64%
distillates 23%
petrochemicals 0%
lubes and asphalts 2%
other products 11%
BENICIA REFINERY. The Benicia Refinery is located northeast of San Francisco on
the Carquinez Straits of San Francisco Bay. It is a highly complex refinery that
processes sour crude oils into a high percentage of premium products, primarily
CARB gasoline. The refinery can receive crude supplies via a deep-water dock
that can berth large crude carriers and a 20-inch crude pipeline connected to a
southern California crude delivery system. Most of the refinery's products are
distributed via the Kinder Morgan pipeline in California.
WILMINGTON REFINERY. The Wilmington Refinery is located near Los Angeles,
California. The refinery processes a blend of lower-cost heavy and high-sulfur
crude oils. The refinery can produce all of its gasoline as CARB gasoline. The
refinery is connected by pipeline to marine terminals and associated dock
facilities that can move and store crude oil and other feedstocks. Refined
products are distributed via a third-party pipeline and terminals in southern
California, Nevada and Arizona.
9
MID-CONTINENT
Valero's Mid-Continent refining region includes the McKee Refinery, the Ardmore
Refinery and the Denver Refinery. The following table shows representative
percentages of the principal feedstock charges and product yields for the three
refineries in this region for 2002.
Combined Mid-Continent Region Feedstocks and Products
Projected for 2002
------------------
Feedstocks: Percentage
----------
sour crude 20%
sweet crude 75%
residual fuel oil 0%
other feedstocks and blendstocks 5%
Products:
gasoline & blendstocks 56%
distillates 29%
petrochemicals 3%
lubes and asphalts 7%
other products 5%
MCKEE REFINERY. The McKee Refinery is located in the Texas panhandle. The McKee
Refinery has access to crude oil from Texas, Oklahoma, Kansas and Colorado
through crude oil pipelines owned or leased by Valero and through third-party
pipelines. The refinery also has access at Wichita Falls, Texas to third-party
pipelines that transport crude oil from the Texas Gulf Coast and West Texas oil
fields to the Mid-Continent region. The refinery distributes its products via
pipeline to markets in North Texas, New Mexico, Arizona, Colorado and Oklahoma.
ARDMORE REFINERY. The Ardmore Refinery is located in Ardmore, Oklahoma,
approximately 90 miles from Oklahoma City. Crude oil is delivered to the
refinery through Valero's crude oil gathering and trunkline systems, third-party
pipelines and trucking operations. Refined products are transported via
pipelines, rail cars and trucks.
DENVER REFINERY. The Denver Refinery is located outside Denver, Colorado. Crude
oil for the refinery is supplied by a third-party pipeline and by truck. The
refinery benefits from a refined product pipeline that runs to and from the
McKee Refinery, which enhances flexibility in operations at both refineries.
10
NORTHEAST
Valero's Northeast refining region includes the Quebec Refinery in Quebec,
Canada and the Paulsboro Refinery in New Jersey. The following table shows
representative percentages of the principal feedstock charges and product yields
for the two refineries in this region for 2002.
Combined Northeast Region Feedstocks and Products
Projected for 2002
------------------
Feedstocks: Percentage
----------
sour crude 66%
sweet crude 27%
residual fuel oil 0%
other feedstocks and blendstocks 7%
Products:
gasoline & blendstocks 41%
distillates 40%
petrochemicals 3%
lubes and asphalts 6%
other products 10%
QUEBEC REFINERY. Valero's Quebec Refinery is located in Quebec, Canada on the
St. Lawrence River. The refinery receives crude oil by ship at its deep-water
dock on the St. Lawrence River and can receive year-round shipments of crude oil
from large crude oil tankers. Valero charters large crude oil tankers that can
navigate the St. Lawrence River year-round. The refinery's production is
transported primarily by unit trains to markets in Montreal and New Brunswick,
and by tankers and trucks to markets in Canada's Atlantic provinces.
PAULSBORO REFINERY. The Paulsboro Refinery is located in Paulsboro, New Jersey
approximately 15 miles south of Philadelphia on the Delaware River. The refinery
processes primarily sour crudes into a wide slate of products including
gasoline, distillates, a variety of lube oil basestocks, asphalt and fuel oil.
Feedstocks and refined products are typically transported by tanker and barge
via refinery-owned dock facilities along the Delaware River, ExxonMobil's
product distribution system, an onsite truck rack and the Colonial pipeline,
which allows products to be sold into the New York Harbor market.
WHOLESALE MARKETING
Valero is a leading wholesale marketer of branded and unbranded refined
products. Valero markets on a wholesale basis in 40 U.S. states and Canada
primarily through an extensive bulk and rack marketing network. Valero markets
branded refined products under the Diamond Shamrock(R), Ultramar(R), Valero(R),
Beacon(R), Total(R) and Exxon(R) brand names.
Valero's bulk gasoline and distillate sales are made to various oil companies
and gasoline distributors and are transported by pipeline, barges and tankers.
The principal purchasers of Valero's transportation fuels from terminal truck
racks are wholesalers, distributors, retailers and end users (such as railroads,
airlines and utilities) throughout the United States. Most of Valero's
refineries have access to deep-water transportation facilities, and all
interconnect with
11
common-carrier pipeline systems allowing Valero to sell products in most major
geographic regions of the United States and eastern Canada.
Valero also enters into refined product exchange and purchase agreements. These
agreements enable Valero to minimize transportation costs, optimize refinery
utilization, balance refined product availability, broaden geographic
distribution and sell to markets not connected to Valero's refined product
pipeline system. Exchange agreements provide for the delivery of refined
products to unaffiliated companies at Valero's and third parties' terminals in
exchange for delivery of a similar amount of refined products to Valero by these
unaffiliated companies at specified locations. Purchase agreements involve
Valero's purchase of refined products from third parties with delivery occurring
at specified locations. Most of these agreements are long-standing arrangements.
However, they generally can be terminated with 30 to 90 days notice. Valero does
not anticipate an interruption in its ability to exchange or purchase refined
products in the near future.
Valero also sells a variety of other products produced at its refineries
including asphalt, lube base oils and commodity petrochemicals. These products
are transported via pipelines, barges, trucks and railcars. Valero produces and
markets approximately 57,000 BPD of asphalt to customers in the paving and
roofing industries. Valero is the second largest producer of asphalt in the
United States. Valero produces asphalt at eight refineries and markets asphalt
in 20 states from coast to coast through 11 company-owned or leased terminal
facilities.
Paraffinic lube base oils are produced at Valero's Paulsboro Refinery and are
sold to a variety of customers, including ExxonMobil under a long-term
agreement. ExxonMobil purchases approximately 50% of the refinery's production
with the balance sold to independent motor oil and industrial lubricant
customers.
Valero produces and markets a variety of commodity petrochemicals including
aromatic solvents (benzene, toluene, and xylene), refinery- and chemical-grade
propylene and anhydrous ammonia. Aromatic solvents and propylene are sold to
customers for further processing in the chemical industry for such products as
paints, plastics and adhesives. Ammonia, produced at Valero's McKee Refinery, is
sold to customers in the agriculture industry as fertilizer.
Approximately 10.6 percent of Valero's consolidated operating revenues for the
year ended December 31, 2001 were derived from ExxonMobil. Other than sales to
ExxonMobil, no single purchaser of Valero's products accounted for more than 10
percent of Valero's total operating revenues for 2001.
FEEDSTOCK SUPPLY
Valero processes a wide slate of feedstocks including sour crude oils,
intermediates and resid, which can typically be purchased at a discount to West
Texas Intermediate, a benchmark crude oil. Sour crude oils represent
approximately 50 percent of Valero's present feedstock slate, sweet crudes
represent about 30 percent, and the remaining 20 percent is composed of
intermediates, resid and blendstocks.
Approximately 1,160,000 BPD, or 76 percent, of Valero's crude feedstock
requirements are purchased through term contracts. The remainder of Valero's
feedstock requirements are generally purchased on the spot market. The term
agreements include contracts to purchase feedstocks from various foreign
national oil companies (including feedstocks originating in Saudi Arabia,
Mexico, Iraq, Venezuela and Africa) and domestic integrated oil companies at
market-
12
related prices. Valero also uses the futures market to manage the price
risk inherent in purchasing crude oil in advance of its delivery date and in
maintaining Valero's inventories.
Valero's U.S. network of crude oil pipelines and terminals allows Valero to
acquire crude oil from producing leases, domestic crude oil trading centers and
ships delivering cargoes of foreign and domestic crude oil. The network also
allows Valero to transport crude supplies to many of its U.S. refineries at a
competitive cost (compared to facilities that lack proprietary supply networks).
Valero's Quebec Refinery relies on foreign crude oil that is delivered to its
St. Lawrence River dock facility by ship.
Valero's cost to acquire feedstocks, and the price for which Valero ultimately
can sell refined products, depend on a number of factors beyond Valero's
control, including regional and global supply and demand for crude oil,
gasoline, diesel and other feedstocks and refined products. These in turn are
dependent upon, among other things, the availability of imports, the production
levels of domestic and foreign suppliers, competitive fuels, U.S. relationships
with foreign governments, political affairs and the extent of governmental
regulation.
VALERO L.P.
Valero also has a logistics system that complements the company's refining and
marketing business in the U.S. Gulf Coast and Mid-Continent regions. Valero owns
approximately 73 percent of Valero L.P., a master limited partnership that owns
approximately 782 miles of crude oil pipelines, 2,845 miles of refined product
pipelines and 11 refined product terminals. Valero assumed its ownership
interest in Valero L.P. (formerly known as "Shamrock Logistics, L.P.") upon
completion of the UDS Acquisition. Valero L.P.'s revenues for the year ended
December 31, 2001, were approximately $98.8 million.
Valero L.P. transports the majority of all refined products from Valero's McKee,
Three Rivers and Ardmore refineries to markets in the Mid-Continent, Southwest
and Mexico border regions of the United States. In addition, Valero L.P.'s
pipelines supply these three refineries with crude oil feedstocks and provide
access to Texas, Gulf Coast and foreign crude oil sources.
13
RETAIL
Valero is one of the largest independent retailers of refined products in the
central and southwest United States, with strong brand identification in a
12-state retail area, including Texas, California, Colorado, Oklahoma, and in
eastern Canada. Valero's US System sells gasoline and diesel fuel under the
brand names Diamond Shamrock(R), Valero(R), Beacon(R), Ultramar(R) and Total(R).
Valero has approximately 1,430 company-operated and five dealer-operated
convenience stores in its US System. Of the company-operated stores, about 770
are owned and 660 are leased. Company-operated stores are operated under a
variety of brand names including Corner Store(R), Ultramart(R) and Stop N Go(R).
For the year ended December 31, 2001, the total sales of refined products of UDS
and Valero through the US System's retail sites averaged approximately 164,000
BPD.
The company-operated convenience stores sell, in addition to gasoline and diesel
fuels, a wide variety of immediately consumable products such as snacks, candy,
beer, fast foods, cigarettes, fountain drinks and other beverages. Valero has an
ongoing program to modernize and upgrade the convenience stores it operates.
These efforts are focused primarily on improving the uniformity and appearance
of existing stores. Improvements generally include new exterior signage,
lighting and canopies, and interior store upgrades.
Valero's competitive retail position is supported by its proprietary credit card
program, which had approximately 691,000 active accounts as of December 31,
2001. Valero uses electronic point-of-sale (POS) credit card processing at
substantially all of its company- and dealer-operated stores. POS processing
reduces transaction time at the sales counter and lowers Valero's credit card
program costs.
In eastern Canada, Valero is a major supplier of refined products serving
Quebec, Ontario and the Atlantic provinces of Newfoundland, Nova Scotia, New
Brunswick and Prince Edward Island. For the year ended December 31, 2001, total
retail sales of refined products through the Northeast System averaged
approximately 72,800 BPD. Gasoline and diesel fuel are sold under the
Ultramar(R) brand through a network of 1,134 stores throughout eastern Canada.
As of December 31, 2001, UDS owned (or controlled under long-term leases) 529
stores and distributed gasoline to about 605 dealers and independent jobbers. In
addition, the Northeast System operates 86 cardlocks, which are card- or
key-activated, self-service, unattended stations that allow commercial, trucking
and governmental fleets to buy gasoline and diesel fuel 24 hours a day.
The Northeast System operations also include one of the largest home heating oil
businesses in North America. In 2001, UDS sold home heating oil under the
Ultramar(R) brand to approximately 250,000 households in eastern Canada and the
northeastern United States.
14
SELECTED OPERATING RESULTS
The following tables set forth certain consolidated operating results for the
last three fiscal years (volumes are stated in thousand barrels per day or
MBPD). These results exclude amounts related to the operations of UDS, which
Valero acquired on December 31, 2001. Amounts for 2001 include the results of
operations of Huntway Refining Company and the operations of the Corpus Christi
East Plant beginning on June 1, 2001. Amounts for 2000 include the results of
operations related to the Benicia Refinery and related distribution assets
beginning May 16, 2000, and the operations related to the California retail
service stations beginning June 16, 2000. Average throughput margin per barrel
is computed by subtracting total direct product cost of sales from product sales
revenues and dividing the result by throughput volumes. Aggregate refinery
charges and yields for each feedstock and product are expressed as percentages
of total charge and yield volumes, respectively.
Year Ended December 31,
---------------------------------------
2001 2000 1999
---- ---- ----
Refinery Throughput Volumes.......................... 1,001 857 712
Sales Volumes........................................ 1,355 1,142 1,033
Average Throughput Margin per Barrel................. $6.16 $5.08 $2.90
Average Operating Costs per Barrel:
Cash (Fixed and Variable)....................... $2.31 $2.18 $1.83
Depreciation and Amortization................... .61 .52 .52
----- ----- -----
Total Operating Costs per Barrel........... $2.92 $2.70 $2.35
===== ===== =====
Charges:
Crude Oils:
Sour........................................ 62% 55% 48%
Sweet....................................... 11 16 21
----- ----- -----
Total Crude Oils......................... 73 71 69
Residual Fuel Oil............................... 8 7 9
Other Feedstocks and Blendstocks................ 19 22 22
----- ----- -----
Total Charges............................... 100% 100% 100%
===== ===== =====
Yields:
Gasolines and Blendstocks....................... 53% 53% 51%
Distillates..................................... 27 28 29
Petrochemicals.................................. 3 3 5
Lubes and Asphalts.............................. 4 3 3
Other Products.................................. 13 13 12
----- ----- -----
Total Yields................................ 100% 100% 100%
===== ===== =====
For additional information regarding Valero's operating results for the three
years ended December 31, 2001, see "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
COMPETITION
The refining and marketing industry continues to be highly competitive. Valero's
competitors include well-capitalized and fully integrated major oil companies
and other independent refining and marketing entities that operate in all of
Valero's market areas. Many of Valero's competitors are fully integrated
companies engaged on a national or international basis in many segments of the
petroleum business, including exploration, production, transportation, refining
and marketing, on scales much larger than Valero's. Such competitors may have
greater flexibility in responding to or absorbing market changes occurring in
one or more of such segments. All of Valero's crude oil and
15
feedstock supplies are purchased from third-party sources, while some
competitors have proprietary sources of crude oil available for their own
refineries.
Financial returns in the refining and marketing industry depend largely on
refining margins and retail fuel margins, both of which fluctuate significantly.
Refining margins are frequently impacted by sharp changes in crude oil costs
which are not immediately reflected in product prices. Historically, refining
margins have been volatile, and they are likely to continue to be volatile in
the future. The retail sector has become increasingly competitive. Valero faces
fierce competition from the fully integrated major oil companies that have
increased their efforts to capture retail market share in recent years. Valero
also competes with large grocery stores and other general merchandisers (the
so-called "hypermarts") that often sell gasoline at aggressively competitive
prices in order to attract customers to their sites. Some specific factors that
may affect Valero's margins are listed below in "Item 7. Management's Discussion
and Analysis of Financial Condition and Results of Operations."
Most of Valero's refineries and supply and distribution networks are
strategically located in the markets Valero serves. For example, in Quebec,
Canada and in the adjacent Atlantic provinces, Valero is the largest independent
retailer of gasoline. The industry tends to be seasonal with increased demand
for gasoline during the summer driving season and, in the northeast regions,
increased demand for home heating oil during the winter months.
ENVIRONMENTAL MATTERS
The principal environmental risks associated with Valero's operations are
emissions into the air and releases into soil or groundwater. Valero's
operations are subject to extensive federal, state and local environmental laws
and regulations, including those relating to the discharge of materials into the
environment, waste management, pollution prevention measures and characteristics
and compositions of gasoline and diesel fuels. Valero's operations are subject
to environmental regulation by several federal, state and local authorities. The
significant federal laws applicable to Valero's operations include the Clean Air
Act, the Clean Water Act, the Comprehensive Environmental Response, Compensation
and Liability Act (CERCLA), and the Solid Waste Disposal Act, as amended by the
Resource Conservation and Recovery Act (RCRA).
In February 2000, the U.S. Environmental Protection Agency (EPA) published its
"Tier II" gasoline standard pursuant to the Clean Air Act. The standard requires
the sulfur content in gasoline to be reduced from approximately 300 parts per
million to 30 parts per million; the regulation will be phased in between 2004
and 2006. In addition, the EPA's Tier II distillate standard requires the sulfur
content of diesel fuel sold to highway consumers to be reduced from 500 parts
per million to 15 parts per million, beginning in 2006. (The American Petroleum
Institute is challenging the EPA's distillate standard in federal court.)
Modifications will be required at each of Valero's refineries as a result of the
Tier II standards. Valero believes that capital expenditures, not including
costs for hydrogen facilities, of approximately $550 million will be required
for its refineries to meet the Tier II standards. (Valero expects to refine this
estimate throughout the phase-in of the Tier II standards.) Valero began
implementing the modifications in 2002 and expects modifications to be complete
in time for compliance with the effective dates of the gasoline and distillate
standards.
In 2000, the EPA issued to a majority of refiners operating in the United States
a series of information requests pursuant to Section 114 of the Clean Air Act as
part of an enforcement initiative. Valero received a Section 114 information
request pertaining to all of its refineries owned at that time. Valero completed
its response to the request and has provided additional clarification requested
by the EPA. After Valero received its Section 114 information request,
16
Valero acquired the Benicia Refinery and the Golden Eagle Refinery, which were
subject to Section 114 information requests received by the prior owners of
these refineries. Valero has not been named in any proceeding. However, based in
part upon announced settlements and evaluation of its relative position, Valero
expects to incur penalties and related expenses in connection with its potential
settlement of this enforcement initiative. Valero believes that any potential
settlement penalties and expenses will be immaterial to its financial position.
Valero believes that any potential settlement with the EPA in this matter will
require various capital improvements, which could be material in the aggregate,
or changes in operating parameters or both at some or all of its refineries.
The presence of MTBE in some water supplies in California and other states,
resulting from gasoline leaks primarily from underground and aboveground storage
tanks, has led to public concern that MTBE has contaminated drinking water
supplies and thus poses a possible health risk. As a result of heightened public
concern, California passed initiatives to ban the use of MTBE as a gasoline
component in California by the end of 2002. The California Air Resources Board's
specifications for CARB Phase III gasoline are expected to become effective at
the end of 2002. Valero estimates that the cost for permitting and modification
of its California refineries to comply with CARB Phase III specifications and
eliminate MTBE as a gasoline component is approximately $50 million. Valero,
like other producers of MTBE, is subject to litigation or proceedings involving
the manufacture or use of MTBE. See "Item 3. Legal Proceedings - Environmental
Proceedings" below. In addition, other states and the EPA have either passed or
proposed or are considering proposals to restrict or ban the use of MTBE. If
MTBE were to be restricted or banned throughout the United States, Valero
believes that its major non-California MTBE-producing facilities could be
modified to produce iso-octane for a capital investment of approximately $35
million.
The Houston/Galveston State Implementation Plan (SIP) was approved by the EPA in
October 2001. The SIP requires the Houston/Galveston area to reduce NOx
emissions by 75 percent from both stationary and mobile sources. The SIP will
require the area to demonstrate compliance with the Clean Air Act's ozone
standard by 2007. Valero's Texas City and Houston refineries are included within
the region affected by the SIP. To achieve compliance, Valero is required to
install advanced emission control technology at its Texas City and Houston
refineries by 2007, at a cost estimated by Valero to be approximately $50
million.
In 2001, Valero's capital expenditures attributable to compliance with
environmental regulations were approximately $34 million, and are currently
estimated to be $165 million for 2002 and $450 million for 2003. These estimates
for 2002 and 2003 do not include expenditures for the installation of a flue gas
scrubber at the Texas City Refinery (funded through a structured lease
arrangement), or any amounts related to constructed facilities for which the
portion of expenditures relating to compliance with environmental regulations is
not determinable.
Governmental regulations are complex, are subject to different interpretations
and are becoming increasingly more stringent. Therefore, future action and
regulatory initiatives could result in changes to expected operating permits,
additional remedial actions or increased capital expenditures and operating
costs that cannot be assessed with certainty at this time. In addition, because
certain air emissions at Valero's refineries have been grandfathered under
particular environmental laws, any major upgrades at any of its refineries could
require potentially material additional expenditures to comply with
environmental laws and regulations.
17
EMPLOYEES
As of January 31, 2002, Valero had 22,452 employees, including salaried and
hourly employees, of which 19,012 were employed in the United States and 3,440
were employed in Canada.
PROPERTIES
Valero's principal properties are described above under the caption "Valero's
Operations." In addition, Valero owns feedstock and refined product storage
facilities in various locations. Valero believes that its properties and
facilities are generally adequate for its operations and that its facilities are
maintained in a good state of repair. Valero is the lessee under a number of
cancelable and non-cancelable leases for certain properties, including the
Corpus Christi Refinery East Plant and related product logistics business which
were acquired under capital lease agreements, the Benicia Refinery dock
facility, office facilities, retail facilities, transportation equipment and
various assets used to store, transport and produce refinery feedstocks and/or
refined products. See Note 23 of Notes to Consolidated Financial Statements.
Valero's patents relating to its refining operations are not material to Valero
as a whole. The trademarks and tradenames under which Valero conducts its retail
and branded wholesale business - specifically Diamond Shamrock(R), Ultramar(R),
Valero(R), Beacon(R), Total(R), Exxon(R), Corner Store(R), Ultramart(R), Stop N
Go(R) and ValPar(TM) - and other trademarks employed in the marketing of
petroleum products are important to Valero's operations.
Valero currently has about 220 company-operated convenience stores and supplies
about 600 distributor-owned sites under a brand license agreement with
TotalFinaElf for use of the Total(R) brand name. The Total-branded sites are
located in Arkansas, Colorado, Iowa, Kansas, Minnesota, Missouri, Nebraska, New
Mexico, Oklahoma, South Dakota and Texas. Per the license agreement with
TotalFinaElf, Valero's rights to use the Total(R) brand will expire in Colorado
in 2002, and in other states in subsequent years through 2007. Valero believes
that it can successfully convert, when necessary, from the Total(R) brand to
another of Valero's proprietary brands without adversely impacting Valero's
operations.
18
EXECUTIVE OFFICERS OF THE REGISTRANT
NAME AGE POSITIONS HELD WITH VALERO OFFICER SINCE
---- --- -------------------------- -------------
WILLIAM E. GREEHEY 65 Chairman of the Board, Chief Executive Officer and President 1979
KEITH D. BOOKE 43 Executive Vice President and Chief Administrative Officer 1997
JOHN D. GIBBONS 48 Executive Vice President and Chief Financial Officer 1997
GREGORY C. KING 41 Executive Vice President and General Counsel 1997
WILLIAM R. KLESSE 55 Executive Vice President - Refining and Commercial Operations 2002
MR. GREEHEY served as Chief Executive Officer and a director of Old Valero from
1979, and as Chairman of the Board of Old Valero from 1983. He retired from his
position as Chief Executive Officer in June 1996 but, upon request of the Board,
resumed this position in November 1996. Mr. Greehey has served as Valero's
Chairman of the Board and Chief Executive Officer since the Restructuring,
positions he also held with Valero prior to the Restructuring when Valero was a
wholly owned subsidiary of Old Valero, and was elected President of Valero upon
the retirement of Edward Benninger at the end of 1998.
MR. BOOKE was elected Executive Vice President and Chief Administrative Officer
in January 2001. He was first elected as Chief Administrative Officer in 1999.
Prior to that, he had served as Vice President-Administration and Human
Resources of Valero since 1998, Vice President-Administration of Valero since
1997 and Vice President-Investor Relations of Old Valero since 1994. He joined
Old Valero in 1983 and held various positions with Old Valero prior to the
Restructuring.
MR. GIBBONS was elected Executive Vice President and Chief Financial Officer of
Valero in January 2001. He was first elected as Chief Financial Officer in 1998.
Previously, he was elected Vice President - Finance and Treasurer of Valero in
1997 and was elected Treasurer of Old Valero in 1992. He joined Old Valero in
1981 and held various positions with Old Valero prior to the Restructuring.
MR. KING was elected Executive Vice President and General Counsel effective upon
the closing of the UDS Acquisition. Prior to that time he served as Executive
Vice President and Chief Operating Officer since January 2001. Mr. King was
Senior Vice President and Chief Operating Officer from 1999 to January 2001. He
was elected Vice President and General Counsel of Valero in 1997. He joined Old
Valero in 1993 as Associate General Counsel and prior to that was a partner in
the Houston law firm of Bracewell and Patterson.
MR. KLESSE was elected Executive Vice President - Refining and Commercial
Operations effective upon the closing of the UDS Acquisition. He served as
Executive Vice President, Operations of UDS from January 1999 through December
2001. Prior to that time he had served as an Executive Vice President for UDS
since February 1995, overseeing Operations, Refining, Product Supply and
Logistics.
19
ITEM 3. LEGAL PROCEEDINGS
Environmental Proceedings
EPA Region VI v. Diamond Shamrock Refining Company, L.P. (McKee Refinery and
Three Rivers Refinery). On September 15, 1998, UDS was notified by the
Department of Justice (DOJ), on behalf of the EPA, of alleged violations at the
McKee Refinery and Three Rivers Refinery of various record-keeping and reporting
requirements and certain other alleged operating and permitting violations of
the Clean Air Act, Clean Water Act and RCRA. A Consent Decree was entered by the
federal district court on September 20, 2001 to settle this matter. Pursuant to
the settlement, in November 2001, Diamond Shamrock Refining Company, L.P. paid a
penalty of $1.2 million and funded a supplemental environmental project in the
amount of $625,000.
EPA Region V v. Total Petroleum, Inc. (Alma Refinery). This enforcement action
began in September 1997. The allegations pertain to a refinery at Alma,
Michigan, owned by Total Petroleum, Inc. (TPI) and include alleged Clean Air Act
violations relating to emissions monitoring, reporting and inspection. Other
allegations included alleged RCRA violations relating to maintenance of
wastewater ponds, storage of hazardous waste, and disposal of wastes. UDS
acquired TPI in 1997, and in December 1999, UDS closed the Alma Refinery. In
April 2000, TPI settled the EPA enforcement action, which required the funding
of $9.9 million of specific environmental and economic development projects and
the payment of $4.0 million in penalties. A Consent Decree reflecting the
settlement was entered by the district court on March 27, 2001. These settlement
amounts were fully accrued as of March 31, 2001. Valero is still negotiating the
terms of a corrective-action agreement with the Michigan Department of
Environmental Quality as required by the Consent Decree.
EPA Region VI v. Diamond Shamrock Refining and Marketing Company (Albuquerque
products terminal). On December 30, 1998, the EPA issued a notice of violation
alleging noncompliance with certain Clean Air Act fuel loading procedures,
inspection and leak detection requirements, record-keeping provisions,
throughput limitations on certain tanks and VOC emissions limitations. In 2000,
the EPA referred the enforcement to DOJ. On March 7, 2001, the DOJ served notice
of claims for the alleged air permit violations at the UDS Albuquerque products
terminal. Valero is negotiating with the DOJ to resolve this matter.
EPA Region VIII vs. Ultramar Diamond Shamrock Corporation (certain underground
storage tank systems in Colorado and Wyoming). In 2000, the EPA and state
regulators inspected certain retail facilities with underground storage tanks
for compliance with federal and state rules and regulations at such facilities.
On April 3, 2001, UDS received an administrative complaint from the EPA seeking
penalties in connection with alleged violations and non-compliance issues
arising primarily prior to October 1999. This matter was settled in November
2001 upon payment of $126,764 in penalties.
California Environmental Protection Agency Department of Toxic Substances
Control. Valero received a Draft Enforcement Order on July 17, 2001 pertaining
to its Benicia Refinery. The Order alleged noncompliance with several state and
federal waste management requirements. Valero entered into discussions with the
agency to resolve the matter, and the agency modified its allegations and
reduced the stated penalties to an amount less than $100,000.
New Mexico v. General Electric, et al., United States District Court for the
District of New Mexico (served January 5, 2000). The South Valley of
Albuquerque, New Mexico has been designated as a federal Superfund site under
20
CERCLA. Under various state and federal administrative orders, EPA and the State
of New Mexico have been directing the cleanup of certain groundwater
contamination plumes that are alleged to impact the groundwater supply of
Albuquerque. In 1999, the State of New Mexico sued several companies, including
General Electric and UDS, seeking recovery of natural resource damage under
CERCLA and certain New Mexico environmental laws. General Electric, the single
largest potentially responsible party, filed cross claims against several other
parties, including UDS, seeking contribution. Trial is scheduled for the fall of
2002.
Texas Natural Resource Conservation Commission (TNRCC) (Corpus Christi West
Plant). Valero received notices of enforcement from the TNRCC on May 1, 2001;
June 22, 2001; August 30, 2001; and December 7, 2001, for alleged noncompliance
with certain TNRCC air upset, air emission and record-keeping requirements.
Valero has asked the TNRCC to consolidate all pending enforcement actions for
this refinery into one enforcement order. The TNRCC has not yet issued an
enforcement order related to these notices, and no penalties have been assessed.
TNRCC (Houston Refinery). On December 5, 2001, the TNRCC issued a notice of
enforcement action for alleged noncompliance with certain TNRCC air
upset/maintenance regulations and certain air emission and record-keeping
requirements. TNRCC seeks penalties in the amount of $276,499, but Valero is
negotiating with TNRCC and expects the penalties to be reduced.
TNRCC (McKee Refinery). UDS received notices of enforcement from the TNRCC on
May 4, 2001 and June 5, 2001, for alleged noncompliance with certain emissions
monitoring and record-keeping requirements. Valero also received a notice of
enforcement dated February 21, 2002 from the TNRCC for alleged noncompliance
with certain emissions and property line requirements. The TNRCC is developing
an enforcement action for these alleged violations, and no penalties have been
assessed to date. Valero is negotiating to resolve these issues.
TNRCC (Texas City Refinery). Valero received a notice of enforcement from the
TNRCC on July 7, 2001, for alleged noncompliance with certain TNRCC air
upset/maintenance regulations. Valero is contesting most of the TNRCC's
allegations in this notice. The TNRCC has not yet issued an enforcement order
related to this notice, and no penalties have been assessed. Valero also
received a notice of violation on January 2, 2002 regarding a sulfur recovery
unit upset that occurred on November 7, 2001. No penalties have been assessed.
Valero is contesting this notice.
TNRCC (Three Rivers Refinery). A notice of enforcement from the TNRCC was issued
on August 31, 2001 for alleged noncompliance with certain air upset/maintenance
regulations and record-keeping requirements. The TNRCC has not issued an
enforcement order related to this notice, and no penalties have been assessed.
Valero also received a notice of violation on February 11, 2002 for alleged
noncompliance with air upset/maintenance regulations, record-keeping
requirements and flaring regulations. The TNRCC has not issued an enforcement
order related to this notice, and no penalties have been assessed.
MTBE Litigation. Valero has been named as defendant in several cases alleging
MTBE contamination in groundwater in New York, Texas and California. Complaints
in the three New York cases - including those in Berisha and O'Brien v. Amerada
Hess Corporation, et al., Case No. MDL 1358, Master File C.A. No. 1:00-1898
[SAS], United States District Court for the Southern District of New York -
allege that the gasoline suppliers produced and/or distributed gasoline that is
alleged to be defective because it contained MTBE. The four Texas cases are
based on the alleged discharge of gasoline into East Caddo Creek in Hunt County,
Texas on March 9, 2000 when a pipeline belonging to Explorer Pipeline Company
ruptured. Valero was named in City of Dallas v. Explorer Pipeline Company, Inc.,
Valero
21
Energy Corporation, et al., 160th State District Court, Dallas County, Texas
(filed May 14, 2001) and related private landowner cases. The three California
cases are primarily based on a product liability/product defect theory. In the
New York, Texas and California cases, the plaintiffs generally seek individual,
unquantified compensatory and punitive damages and attorneys' fees. Valero
believes it is unlikely that the final outcome of any one of these claims or
proceedings would have a material adverse effect on its results of operations or
financial position, but that an adverse result in a majority of these cases
could have a material adverse effect on its results of operations and financial
position.
Other Litigation
Union Oil Company of California v. Valero Energy Corporation, United States
District Court, Central District of California (filed January 22, 2002). On
January 22, 2002, Union Oil Company of California (Unocal) filed a patent
infringement lawsuit against Valero in California federal court. The complaint
seeks a 5.75 cent per gallon royalty on all reformulated gasoline infringing on
Unocal's '393 and '126 patents. These patents cover certain compositions of
cleaner-burning gasoline. The complaint seeks treble damages for Valero's
alleged willful infringement of Unocal's patents. In a previous lawsuit, Unocal
prevailed against five other major refiners involving its '393 patent. In August
2001, the FTC announced that it would begin an antitrust investigation
concerning Unocal's conduct with a joint industry research group during the time
that Unocal was prosecuting its patents at the U.S. Patent and Trademark Office
(PTO). The FTC could potentially issue an injunction against Unocal's
enforcement of its patents as a result of the FTC investigation. In 2001, the
PTO began a reexamination of Unocal's '393 patent, and in January 2002, the PTO
issued a notice of rejection of all claims of the '393 patent. Unocal has the
opportunity to respond to the PTO's action. In January 2002, the PTO reversed an
earlier denial and began a reexamination of Unocal's '126 patent. Both
reexaminations could affect the scope and validity of the patents.
Notwithstanding the judgment against the other refiners in the previous
litigation, Valero believes that it has several strong defenses to Unocal's
lawsuit, including those arising from Unocal's misconduct, and Valero believes
it will prevail in the lawsuit. However, due to the inherent uncertainty of
litigation, there can be no assurance that Valero will prevail, and an adverse
result could have a material adverse effect on Valero's results of operations
and financial position.
Teco Pipeline Company v. Valero Energy Corporation, et al., 215th State District
Court, Harris County, Texas (filed April 24, 1996). Valero, together with Old
Valero and certain of its natural gas related subsidiaries, were sued by Teco
Pipeline Company regarding the operation of a 340-mile pipeline in West Texas in
which a subsidiary of Old Valero owned a 50% undivided interest and Teco owned
a 50% undivided interest. A subsidiary of Old Valero was the operator of the
pipeline. The plaintiff asserted that the defendants acted in bad faith and
negatively affected the economics of the pipeline in order to provide financial
advantages to facilities or entities owned by the defendants. Arbitration of the
matter began in February 2001 and concluded in the fourth quarter of 2001. In
December 2001, the arbitration panel ruled against the plaintiff, and this
matter was closed.
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 position, results of operations or
liquidity; however, due to the inherent uncertainty of litigation, the range of
any possible loss cannot be estimated with a reasonable degree of precision and
Valero cannot provide assurance that the resolution of any particular claim or
proceeding would not have an adverse effect on its results of operations,
financial position or liquidity.
22
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the
fourth quarter of 2001.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Common Stock. Valero's common stock has been trading on the New York Stock
Exchange since August 1, 1997 (the business day immediately following the
Restructuring) under the symbol "VLO." In connection with the UDS Acquisition on
December 31, 2001, approximately 45.9 million shares of Valero common stock were
issued to UDS shareholders in exchange for shares of UDS common stock under the
terms of the merger agreement (see Note 2 of Notes to Consolidated Financial
Statements). As of February 28, 2002, there were 7,265 holders of record and an
estimated 50,500 additional beneficial owners of Valero's common stock.
The following table sets forth for each quarter in the preceding two years the
range of the high and low sales prices of Valero's common stock as reported by
the NYSE and the amount of per share dividends.
SALES PRICES OF THE
COMMON STOCK DIVIDENDS
-------------------- PER
QUARTER ENDED HIGH LOW COMMON SHARE
------------- ---- --- ------------
2001:
March 31......................................... $ 39.97 $ 31.50 $ .08
June 30.......................................... 51.85 35.06 .08
September 30..................................... 44.06 32.12 .08
December 31...................................... 40.44 34.10 .10
2000:
March 31......................................... $ 32.00 $ 18.50 $ .08
June 30.......................................... 32.75 26.4375 .08
September 30..................................... 35.50 24.9375 .08
December 31...................................... 38.625 30.0625 .08
On January 17, 2002, Valero's Board of Directors declared a regular quarterly
cash dividend of $.10 per common share payable March 13, 2002, to holders of
record at the close of business on February 13, 2002. Dividends are considered
quarterly by the Board of Directors and may be paid only when approved by the
Board.
23
ITEM 6. SELECTED FINANCIAL DATA
The selected financial data set forth below for the year ended December 31, 2001
is derived from Valero's Consolidated Financial Statements contained in this
report. The selected financial data for the years ended prior to December 31,
2001 is derived from the selected financial data contained in Valero's Annual
Report on Form 10-K for the year ended December 31, 2000, except for
Stockholders' Equity which is derived from Valero's Consolidated Financial
Statements contained in its Annual Reports on Form 10-K for the years ended
December 31, 2000, 1999, 1998 and 1997.
The following summaries are in thousands of dollars except for per share
amounts:
Year Ended December 31,
--------------------------------------------------------------------
2001(a)(b) 2000(c) 1999 1998(d)(e) 1997(f)
---------- --------- --------- ----------- -----------
OPERATING REVENUES .................................... $14,988,339 $14,671,087 $ 7,961,168 $ 5,539,346 $ 5,756,220
OPERATING INCOME (LOSS) ............................... $ 1,001,343 $ 610,979 $ 72,029 $ (48,347) $ 213,885
INCOME (LOSS) FROM
CONTINUING OPERATIONS ............................... $ 563,553 $ 339,120 $ 14,287 $ (47,291) $ 111,768
LOSS FROM DISCONTINUED OPERATIONS, NET OF
INCOME TAX BENEFIT(g) ............................... $ -- $ -- $ -- $ -- $ (15,672)
NET INCOME (LOSS) ..................................... $ 563,553 $ 339,120 $ 14,287 $ (47,291) $ 96,096
Less: Preferred stock dividend requirements and
redemption premium ................................ -- -- -- -- 4,592
----------- ----------- ----------- ----------- -----------
NET INCOME (LOSS) APPLICABLE TO
COMMON STOCK ........................................ $ 563,553 $ 339,120 $ 14,287 $ (47,291) $ 91,504
=========== =========== =========== =========== ===========
EARNINGS (LOSS) PER SHARE OF
COMMON STOCK - ASSUMING DILUTION:
Continuing operations ............................. $ 8.83 $ 5.60 $ .25 $ (.84) $ 2.03
Discontinued operations ........................... -- -- -- -- (.29)
----------- ----------- ----------- ----------- -----------
Total ........................................... $ 8.83 $ 5.60 $ .25 $ (.84) $ 1.74
=========== =========== =========== =========== ===========
DIVIDENDS PER SHARE OF COMMON STOCK ................... $ .34 $ .32 $ .32 $ .32 $ .42
TOTAL ASSETS .......................................... $14,377,096 $ 4,307,704 $ 2,979,272 $ 2,725,664 $ 2,493,043
LONG-TERM DEBT (less current portion) AND
CAPITAL LEASE OBLIGATIONS ........................... $ 2,805,247 $ 1,042,417 $ 785,472 $ 822,335 $ 430,183
COMPANY-OBLIGATED PREFERRED SECURITIES
OF SUBSIDIARY TRUSTS ................................ $ 372,500 $ 172,500 $ -- $ -- $ --
STOCKHOLDERS' EQUITY .................................. $ 4,202,563 $ 1,527,055 $ 1,084,769 $ 1,085,287 $ 1,158,841
--------------------------------------------------------------------------------
(a) Operating revenues, operating income, income from continuing operations,
net income, earnings per share and dividends per share exclude amounts
related to UDS, while total assets, long-term debt (less current portion)
and capital lease obligations, company-obligated preferred securities of
subsidiary trusts, and stockholders' equity include amounts related to UDS,
which was acquired by Valero on December 31, 2001.
(b) Includes the operations of Huntway and the operations related to the El
Paso Corpus Christi refinery and related product logistics business
beginning June 1, 2001.
(c) Includes the operations related to the Benicia Refinery and the related
distribution assets (Distribution Assets) beginning May 16, 2000 and the
operations related to service stations included as part of the acquisition
from ExxonMobil (Service Stations) beginning June 16, 2000 (combined, the
Benicia Acquisition).
(d) Includes the operations of the Paulsboro Refinery beginning September 17,
1998.
(e) The 1998 operating loss includes a $170.9 million write-down of inventories
to market value, which resulted in a $111.1 million reduction in net
income, or $1.98 per share.
(f) Includes the operations of the Texas City, Houston and Krotz Springs
refineries beginning May 1, 1997.
(g) Reflects the results of Old Valero's natural gas related services business
for periods prior to the July 31, 1997 Restructuring.
24
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following review of the results of operations and financial condition of
Valero should be read in conjunction with Items 1 & 2. Business & Properties and
Item 8. Financial Statements included elsewhere in this report. In the
discussions that follow, all "per share" amounts assume dilution.
FORWARD-LOOKING STATEMENTS
This Form 10-K, including without limitation the discussion below under the
heading "Results of Operations - Outlook," contains certain estimates,
predictions, projections, assumptions 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 in this report. 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 the effect of Valero's recently completed acquisition of Ultramar Diamond
Shamrock Corporation (UDS) on Valero's business, results of operations and
financial condition;
o future refining margins, including gasoline and heating oil margins;
o future retail margins, including gasoline, diesel fuel, home heating oil
and convenience store merchandise 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 of and demand for crude oil feedstocks and
refined products in the United States, Canada and elsewhere;
o expectations regarding environmental and other regulatory initiatives; and
o the effect of general economic and other conditions on refining and retail
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 acts of terrorism aimed at either Valero's facilities or other facilities
that could impair Valero's ability to produce and ship refined products or
receive foreign feedstocks;
o political conditions in crude oil producing regions, including the Middle
East;
o the domestic and foreign supplies of refined products such as gasoline,
diesel fuel, heating oil and petrochemicals;
o the domestic and foreign supplies of crude oil and other feedstocks;
25
o the ability of the members of the Organization of Petroleum Exporting
Countries (OPEC) to agree on and to maintain crude 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 the level of foreign imports;
o accidents or other unscheduled shutdowns affecting Valero's refineries,
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 and
alternative-fuel vehicles;
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 or
regulatory matters, including unexpected environmental remediation costs in
excess of any reserves or insurance coverage;
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;
o changes in the value of the Canadian dollar relative to the U.S. dollar;
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.
ACQUISITION OF ULTRAMAR DIAMOND SHAMROCK CORPORATION
On December 31, 2001, Valero completed its acquisition of UDS (the UDS
Acquisition) after the Federal Trade Commission (FTC) approved a consent decree
on December 19 allowing the acquisition to be completed. In connection with the
UDS Acquisition, Valero issued approximately 45.9 million shares of common stock
and paid approximately $2.1 billion of cash to UDS shareholders. UDS was an
independent refiner and retailer of refined products and convenience store
merchandise in the central, southwest and northeast regions of the United States
and eastern Canada. UDS owned and operated seven refineries, including two in
Texas, two in California and one each in Oklahoma, Colorado, and Quebec, Canada,
with a combined throughput capacity of approximately 850,000 barrels
26
per day. UDS marketed refined products and a broad range of convenience store
merchandise through a network of approximately 4,500 convenience stores under
the Diamond Shamrock(R), Beacon(R), Ultramar(R), and Total(R) brand names in the
United States and eastern Canada. UDS's northeast retail operations also
included the marketing of refined products through 86 cardlocks, which are card-
or key-activated, self-service, unattended stations that allow commercial,
trucking and governmental fleets to buy gasoline and diesel fuel 24 hours a day,
and a retail home heating oil business that sells heating oil to approximately
250,000 households. As a condition for the regulatory approval of the
acquisition, the FTC's consent degree requires Valero to divest the 168,000
barrel-per-day Golden Eagle Refinery located in the San Francisco Bay Area, the
related wholesale marketing business, and 70 associated Beacon- and
Ultramar-branded retail sites located throughout Northern California. On
February 4, 2002, Valero entered into a definitive agreement with Tesoro
Refining and Marketing Company (Tesoro), which was subsequently amended on
February 20, 2002, under which Tesoro will purchase these assets, along with
related inventories, for $1.125 billion, subject to closing adjustments. The
transaction is expected to close in April 2002, subject to regulatory approval.
See Notes 2, 3 and 27 of Notes to Consolidated Financial Statements for
additional information about the acquisition and the assets required to be
divested and their expected sale to Tesoro.
27
RESULTS OF OPERATIONS
2001 COMPARED TO 2000
FINANCIAL HIGHLIGHTS (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Year Ended December 31,
---------------------------------------------------------------
Change
-------------------------------
2001(a)(b) 2000(c) Amount %
------------ ------------ ------------ -----------
Operating revenues .............................................. $ 14,988,339 $ 14,671,087 $ 317,252 2%
Cost of sales ................................................... (12,738,607) (13,076,849) 338,242 3
Operating costs:
Cash (fixed and variable) ................................... (852,155) (682,742) (169,413) (25)
Depreciation and amortization ............................... (222,411) (164,008) (58,403) (36)
Selling and administrative expenses (including related
depreciation expense) ....................................... (173,823) (136,509) (37,314) (27)
------------ ------------ ------------
Total operating income .................................. 1,001,343 610,979 390,364 64
Other income (expense), net ..................................... (4,613) 282 (4,895) --(d)
Interest and debt expense, net .................................. (88,508) (76,245) (12,263) (16)
Distributions on preferred securities of subsidiary trust........ (13,369) (6,796) (6,573) (97)
Income tax expense .............................................. (331,300) (189,100) (142,200) (75)
------------ ------------ ------------
Net income ...................................................... $ 563,553 $ 339,120 $ 224,433 66
============ ============ ============
Earnings per share of common stock - assuming
dilution .................................................... $ 8.83 $ 5.60 $ 3.23 58
Earnings before interest, taxes, depreciation
and amortization (EBITDA) (e) ............................... $ 1,235,005 $ 785,744 $ 449,261 57
Ratio of EBITDA to interest incurred (e) ........................ 11.0x 8.7x 2.3x 26
--------------------------------------------------------------------------------
(a) Excludes amounts related to UDS which was acquired by Valero on December
31, 2001.
(b) Includes the operations of Huntway and the operations related to the El
Paso Corpus Christi refinery and related product logistics business
beginning June 1, 2001.
(c) Includes the operations related to the Benicia Refinery and related
distribution assets (Distribution Assets) beginning May 16, 2000 and the
operations related to service stations included as part of the acquisition
from ExxonMobil (Service Stations) beginning June 16, 2000 (combined, the
Benicia Acquisition).
(d) Percentage variance is greater than 100%.
(e) For purposes of this calculation, distributions on preferred securities of
subsidiary trust are included in interest incurred.
28
OPERATING HIGHLIGHTS
Year Ended December 31,
-------------------------------------------------------
Change
---------------------------
2001(a)(b) 2000(c) Amount %
----------- ------------ ------------ -----------
Sales volumes (thousand barrels per day or MBPD) ................ 1,355 1,142 213 19%
Throughput volumes (MBPD) ....................................... 1,001 857 144 17
Average throughput margin per barrel ............................ $6.16 $5.08 $1.08 21
Operating costs per barrel:
Cash (fixed and variable) ................................... $2.31 $2.18 $ .13 6
Depreciation and amortization ............................... .61 .52 .09 17
----- ----- -----
Total operating costs per barrel ......................... $2.92 $2.70 $ .22 8
===== ===== =====
Charges:
Crude oils:
Sour .................................................... 62% 55% 7% 13
Heavy sweet ............................................. 4 8 (4) (50)
Light sweet ............................................. 7 8 (1) (13)
----- ----- -----
Total crude oils .................................... 73 71 2 3
High-sulfur residual fuel oil (resid) ....................... 4 4 -- --
Low-sulfur resid ............................................ 4 3 1 33
Other feedstocks and blendstocks ............................ 19 22 (3) (14)
----- ----- -----
Total charges ........................................... 100% 100% -- % --
===== ===== =====
Yields:
Gasolines and blendstocks ................................... 53% 53% -- % --
Distillates ................................................. 27 28 (1) (4)
Petrochemicals .............................................. 3 3 -- --
Lubes and asphalts .......................................... 4 3 1 33
Other products .............................................. 13 13 -- --
----- ----- -----
Total yields ............................................ 100% 100% -- % --
===== ===== =====
AVERAGE MARKET REFERENCE PRICES AND DIFFERENTIALS (DOLLARS PER BARREL)
Year Ended December 31,
----------------------------------------------------------------
Change
-----------------------------
2001 2000 Amount %
----------- ----------- ----------- -----------
Feedstocks (at U.S. Gulf Coast, except as noted):
West Texas Intermediate (WTI) crude oil.......... $25.93 $ 30.36 $(4.43) (15)%
WTI less sour crude oil (d) (f).................. $ 5.01 $ 3.52 $ 1.49 42
WTI less Alaska North Slope (ANS) crude oil
(U.S. West Coast) ........................... $ 2.69 $ 2.04 $ .65 32
WTI less sweet crude oil (e)..................... $ (.23) $ (.49) $ .26 53
Products:
U.S. Gulf Coast:
Conventional 87 gasoline less WTI............ $ 5.07 $ 4.66 $ .41 9
No. 2 fuel oil less WTI...................... $ 3.01 $ 3.60 $ (.59) (16)
Propylene less WTI........................... $ (.83) $ 4.88 $(5.71) --(g)
U.S. East Coast:
Conventional 87 gasoline less WTI............ $ 5.05 $ 5.62 $ (.57) (10)
No. 2 fuel oil less WTI...................... $ 3.83 $ 5.73 $(1.90) (33)
Lube oils less WTI (f)....................... $26.83 $ 17.31 $ 9.52 55
U.S. West Coast:
CARB 87 gasoline less ANS.................... $16.04 $ 14.74 $ 1.30 9
Low-sulfur diesel less ANS................... $ 9.05 $ 10.63 $(1.58) (15)
--------------------------------------------------------------------------------
(a) Excludes amounts related to UDS which was acquired by Valero on December
31, 2001.
(b) Includes the operations of Huntway and the operations related to the El
Paso Corpus Christi refinery and related product logistics business
beginning June 1, 2001.
(c) Includes the operations related to the Benicia Refinery and the
Distribution Assets beginning May 16, 2000 and the operations related to
the Service Stations beginning June 16, 2000.
(d) The market reference differential for sour crude oil is based on posted
prices for 50% Arab medium and 50% Arab light crude oils.
(e) The market reference differential for sweet crude oil is based on posted
prices for 50% light Louisiana sweet (LLS) and 50% Cusiana crude oils, with
LLS adjusted for backwardation.
(f) The market reference differential for the 2000 period has been restated
from the amount reported in Valero's Form 10-K for the year ended December
31, 2000 to conform to the components used in the 2001 period.
(g) Percentage variance is greater than 100%.
29
GENERAL
Valero reported net income of $563.6 million, or $8.83 per share, for the year
ended December 31, 2001 compared to net income of $339.1 million, or $5.60 per
share, for the year ended December 31, 2000. For the fourth quarter of 2001,
Valero reported net income of $51.6 million, or $.82 per share, compared to net
income of $93.3 million, or $1.47 per share, for the fourth quarter of 2000. The
increase in total year results was due in part to the full year contribution
from the Benicia Acquisition which was completed in the second quarter of 2000.
Excluding the effect of the Benicia Acquisition, total year results increased as
a result of a substantial increase in throughput margins due primarily to a
significant improvement in sour crude oil discounts, higher throughput volumes
resulting largely from the acquisitions of the El Paso and Huntway refineries in
June 2001 and upgrades to the crude units at the Texas City Refinery in February
2001, and an $8.8 million pre-tax, or $.09 per share after-tax, benefit
attributable to the acquisition of UDS inventories on December 31, 2001 as
discussed in Note 6 of Notes to Consolidated Financial Statements. Partially
offsetting the increase in throughput margins for Valero's operations excluding
Benicia were higher operating costs and selling and administrative expenses, and
an increase in income tax expense.
Results for the fourth quarter of 2001 declined from fourth quarter 2000 levels
due primarily to a decrease in distillate and gasoline margins attributable to
exceptionally high margins experienced in the 2000 period and higher
industry-wide inventories in the 2001 period, and increases in operating costs,
depreciation expense and interest expense. Partially offsetting the decrease in
income resulting from these factors were higher throughput volumes as described
above, the processing of a larger percentage of sour crude oil, the above-noted
benefit attributable to the December 31, 2001 acquisition of UDS inventories,
and decreases in selling and administrative expenses and income tax expense.
OPERATING REVENUES
Operating revenues increased $317.3 million, or 2%, to $15.0 billion during 2001
compared to 2000 due primarily to a 19% increase in average daily sales volumes,
offset to a large extent by a $4.81, or 14%, decrease in the average sales price
per barrel. The increase in average daily sales volumes was due primarily to (i)
the full year effect of volumes attributable to the Benicia Acquisition, (ii) an
increase in the sale of feedstocks and products purchased for resale, and (iii)
higher throughput volumes resulting from the contribution of the El Paso and
Huntway refineries acquired in the second quarter of 2001 and capacity
expansions at the Texas City and other refineries during 2001. The decrease in
average sales prices was due primarily to lower refined product prices resulting
from increased refined product inventories industry-wide and a decrease in crude
oil prices. The increase in refined product inventory levels was attributable
primarily to (i) increased production and higher imports of gasoline which more
than offset improved demand, (ii) unusually low distillate inventories in 2000
and (iii) a weakened economy following the terrorist attacks on September 11,
2001.
OPERATING INCOME
Operating income increased $390.4 million, or 64%, to $1.0 billion during 2001
compared to 2000 due in part to the above-noted full year contribution from the
Benicia Acquisition which resulted in an increase in operating income of
approximately $67 million. Excluding the effect of the Benicia Acquisition,
operating income increased due to an approximate $472 million increase in total
throughput margins (operating revenues less cost of sales), partially offset by
an approximate $122 million increase in operating costs (including an $80
million increase in cash operating costs
30
and a $42 million increase in depreciation and amortization expense), and an
approximate $27 million increase in selling and administrative expenses
(including related depreciation expense).
Total throughput margins, excluding the effect of the Benicia Acquisition,
increased due to (i) the effect of higher throughput volumes resulting from the
factors noted above in the discussion of operating revenues, including a
significant increase in the volume of Valero's sour crude oil charges during
2001 to take advantage of higher sour crude oil discounts discussed below, (ii)
higher per barrel feedstock discounts, particularly for sour crude oil resulting
primarily from an increase in supplies of heavier crude oil while demand for
sweeter crude oil increased to meet lower sulfur requirements for certain
refined products, (iii) higher lube oil margins resulting mainly from improved
market conditions, (iv) higher prices for No. 6 fuel oil and other heavy
products relative to crude oil prices, and (v) the pre-tax benefit attributable
to the December 31, 2001 acquisition of UDS inventories noted above under
"General." Partially offsetting the increases in total throughput margins
resulting from these factors were (i) lower distillate margins, when compared to
exceptionally high margins in 2000, due to strong demand and extremely low
industry inventory levels in 2000 resulting from cold weather and high natural
gas prices which caused power producers to switch to fuel oil to run their
plants, (ii) a significant decrease in margins for propylene and other
petrochemical feedstocks, to negative levels in 2001, due to slowing economic
activity throughout the world, and (iii) an increase in natural gas, hydrogen
and methanol feedstock costs relative to crude oil.
Cash operating costs were higher due primarily to the operations of the Corpus
Christi refinery and related product logistics business acquired from El Paso in
2001 and increases in employee salaries, benefits and variable compensation,
maintenance costs, and ad valorem taxes, partially offset by reduced refinery
energy costs. Depreciation and amortization expense was higher due primarily to
an increase in turnaround and catalyst amortization and increased depreciation
expense resulting from the 2001 acquisition of the El Paso facilities and
capital expansion projects. Selling and administrative expenses (including
related depreciation expense) increased primarily as a result of an increase in
employee salaries, benefits and variable compensation, and integration and early
retirement costs incurred in 2001 in connection with the UDS Acquisition.
Partially offsetting these increases in selling and administrative expenses was
the nonrecurrence in 2001 of costs recorded in 2000 associated with certain
litigation and other matters.
OTHER INCOME (EXPENSE), NET
Other income (expense), net, decreased $4.9 million, from income of $.3 million
during 2000 to expense of $4.6 million during 2001, due to reduced results from
Valero's 20% equity interest in the Javelina off-gas processing plant in Corpus
Christi attributable primarily to higher natural gas feedstock costs and lower
product prices resulting from a weak petrochemical market. Partially offsetting
the reduced results from the Javelina plant were lower costs related to the
agreement entered into by Valero in September 1999 to sell a portion of its
accounts receivable.
NET INTEREST AND DEBT EXPENSE
Net interest and debt expense increased $12.3 million, or 16%, to $88.5 million
in 2001 compared to 2000 due primarily to a full year of interest in 2001 on
borrowings incurred to fund the Benicia Acquisition, including interest on the
senior notes issued in June 2000, and interest recognized in connection with the
capital lease obligations associated with the June 1, 2001 El Paso acquisition,
partially offset by a decrease in bank borrowings resulting from Valero's strong
earnings and cash flow.
31
DISTRIBUTIONS ON PREFERRED SECURITIES OF SUBSIDIARY TRUST
Distributions on preferred securities of subsidiary trust increased from $6.8
million in 2000 to $13.4 million in 2001 due to a full year of distributions on
the PEPS Units issued in June 2000 in connection with funding the Benicia
Acquisition. See Notes 2 and 13 of Notes to Consolidated Financial Statements.
INCOME TAX EXPENSE
Income tax expense increased from $189.1 million in 2000 to $331.3 million in
2001 due primarily to the significant increase in pre-tax income. See Note 19 of
Notes to Consolidated Financial Statements.
32
2000 COMPARED TO 1999
FINANCIAL HIGHLIGHTS (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Year Ended December 31,
---------------------------------------------------------------
Change
----------------------------
2000(a) 1999 Amount %
------------ ------------ ------------ ----------
Operating revenues .......................................... $ 14,671,087 $ 7,961,168 $ 6,709,919 84%
Cost of sales ............................................... (13,076,849) (7,206,903) (5,869,946) (81)
Operating costs:
Cash (fixed and variable) ............................... (682,742) (473,787) (208,955) (44)
Depreciation and amortization ........................... (164,008) (135,764) (28,244) (21)
Selling and administrative expenses (including related
depreciation expense) ................................... (136,509) (72,685) (63,824) (88)
------------ ------------ ------------
Total operating income .............................. 610,979 72,029 538,950 --(b)
Other income, net ........................................... 282 3,587 (3,305) (92)
Interest and debt expense, net .............................. (76,245) (55,429) (20,816) (38)
Distributions on preferred securities of subsidiary trust.... (6,796) -- (6,796) --(b)
Income tax expense .......................................... (189,100) (5,900) (183,200) --(b)
------------ ------------ ------------
Net income .................................................. $ 339,120 $ 14,287 $ 324,833 --(b)
============ ============ ============
Earnings per share of common stock - assuming
dilution ................................................ $ 5.60 $ .25 $ 5.35 --(b)
Earnings before interest, taxes, depreciation
and amortization (EBITDA) ............................... $ 785,744 (c) $ 216,769 $ 568,975 --(b)
Ratio of EBITDA to interest incurred ........................ 8.7x(c) 3.5x 5.2x --(b)
--------------------------------------------------------------------------------
(a) Includes the operations related to the Benicia Refinery and the
Distribution Assets beginning May 16, 2000 and the operations related to
the Service Stations beginning June 16, 2000.
(b) Percentage variance is greater than 100%.
(c) For purposes of this calculation, distributions on preferred securities of
subsidiary trust are included in interest incurred.
33
OPERATING HIGHLIGHTS
Year Ended December 31,
----------------------------------------------
Change
---------------------
2000 (a) 1999 Amount %
--------- -------- ------- --------
Sales volumes (MBPD) .................................. 1,142 1,033 109 11%
Throughput volumes (MBPD) ............................. 857(b) 712 145 20
Average throughput margin per barrel .................. $ 5.08 $ 2.90 $2.18 75
Operating costs per barrel:
Cash (fixed and variable) ......................... $ 2.18 $ 1.83 $ .35 19
Depreciation and amortization ..................... .52 .52 -- --
------ ------ -----
Total operating costs per barrel ............... $ 2.70 $ 2.35 $ .35 15
====== ====== =====
Charges:
Crude oils:
Sour .......................................... 55% 48% 7% 15
Heavy sweet ................................... 8 12 (4) (33)
Light sweet ................................... 8 9 (1) (11)
------ ------ -----
Total crude oils .......................... 71 69 2 3
High-sulfur resid ................................. 4 3 1 33
Low-sulfur resid .................................. 3 6 (3) (50)
Other feedstocks and blendstocks .................. 22 22 -- --
------ ------ -----
Total charges ................................. 100% 100% -- % --
====== ====== =====
Yields:
Gasolines and blendstocks ......................... 53% 51% 2% 4
Distillates ....................................... 28 29 (1) (3)
Petrochemicals .................................... 3 5 (2) (40)
Lubes and asphalts ................................ 3 3 -- --
Other products .................................... 13 12 1 8
------ ------ -----
Total yields .................................. 100% 100% -- % --
====== ====== =====
AVERAGE MARKET REFERENCE PRICES AND DIFFERENTIALS (DOLLARS PER BARREL)
Year Ended December 31,
----------------------------------------------------------------
Change
-----------------------------
2000 1999 Amount %
----------- ----------- ----------- -----------
Feedstocks (at U.S. Gulf Coast, except as noted):
WTI crude oil.................................... $30.36 $ 19.28 $11.08 57%
WTI less sour crude oil (c) (f).................. $ 3.52 $ 2.40 $ 1.12 47
WTI less ANS (U.S. West Coast) (d)............... $ 2.04 $ 1.55 $ .49 32
WTI less sweet crude oil (e)..................... $ (.49) $ (.06) $ (.43) --(g)
Products:
U.S. Gulf Coast:
Conventional 87 gasoline less WTI............ $ 4.66 $ 2.53 $ 2.13 84
No. 2 fuel oil less WTI...................... $ 3.60 $ .33 $ 3.27 --(g)
Propylene less WTI........................... $ 4.88 $ .93 $ 3.95 --(g)
U.S. East Coast:
Conventional 87 gasoline less WTI............ $ 5.62 $ 3.47 $ 2.15 62
No. 2 fuel oil less WTI...................... $ 5.73 $ 1.16 $ 4.57 --(g)
Lube oils less WTI (f)....................... $17.31 $ 12.51 $ 4.80 38
U.S. West Coast (d):
CARB less ANS................................ $14.74 $ 12.13 $ 2.61 22
Low-sulfur diesel less ANS................... $10.63 $ 6.86 $ 3.77 55
--------------------------------------------------------------------------------
(a) Includes the operations related to the Benicia Refinery and the
Distribution Assets beginning May 16, 2000 and the operations related to
the Service Stations beginning June 16, 2000.
(b) Includes 106 MBPD for 2000 related to the Benicia Refinery.
(c) The market reference differential for sour crude oil is based on posted
prices for 50% Arab Medium and 50% Arab light crude oils.
(d) The market reference differentials for the U.S. West Coast are total year
differentials presented for informational purposes only. The comparison is
not relevant to Valero since the Benicia Acquisition did not occur until
the second quarter of 2000.
(e) The market reference differential for sweet crude oil is based on posted
prices for 50% LLS and 50% Cusiana crude oils, with LLS adjusted for
backwardation.
(f) The market reference differentials for the 2000 and 1999 periods have been
restated from the amounts reported in Valero's Form 10-K for the year ended
December 31, 2000 to conform to the components used in the 2001 period.
(g) Percentage variance is greater than 100%.
34
GENERAL
Valero reported net income of $339.1 million, or $5.60 per share, for the year
ended December 31, 2000 compared to net income of $14.3 million, or $.25 per
share, for the year ended December 31, 1999. For the fourth quarter of 2000,
Valero reported net income of $93.3 million, or $1.47 per share, compared to net
income of $16.5 million, or $.29 per share, for the fourth quarter of 1999. The
substantial increase in full year results was due primarily to dramatically
improved refining industry fundamentals which resulted in a significant increase
in throughput margins, and the contribution from the Benicia Acquisition ($1.80
per share) completed in the second quarter of 2000. Also contributing to higher
full year results was the effect in the first quarter of 1999 of a major
maintenance turnaround of the heavy oil cracker and related units at the Corpus
Christi Refinery, as well as certain unit expansions implemented during that
downtime, which both reduced results for 1999 and increased results for 2000.
Partially offsetting the increases in net income resulting from these factors
for Valero's operations excluding Benicia were higher cash operating costs and
selling and administrative expenses, an increase in income tax expense, the
effect of certain scheduled and unscheduled refinery downtime experienced
primarily during the 2000 second quarter, and the nonrecurrence in 2000 of
benefits to income in 1999 related to reductions in LIFO inventories.
Results for the fourth quarter of 2000 increased from fourth quarter 1999 levels
due primarily to the significant contribution from the Benicia Acquisition ($.71
per share) and substantially higher throughput margins for Valero's operations
excluding Benicia resulting from exceptionally strong refining industry
fundamentals and higher throughput volumes in the 2000 quarter. Partially
offsetting the increase in throughput margins for Valero's operations excluding
Benicia were increases in cash operating costs, including substantially higher
natural gas costs, selling and administrative expenses, and income tax expense.
OPERATING REVENUES
Operating revenues increased $6.7 billion, or 84%, to $14.7 billion during 2000
compared to 1999 due to a $13.88, or 66%, increase in the average sales price
per barrel and an 11% increase in average daily sales volumes. The increase in
average sales prices was due primarily to significantly higher refined product
prices resulting from reduced refined product inventories industry-wide and an
increase in crude oil prices. 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 crude
oil 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, and (iv)
improved demand for distillates. Average daily sales volumes increased due
primarily to additional volumes attributable to the Benicia Acquisition.
OPERATING INCOME
Operating income increased $539 million, from $72 million in 1999 to $611
million in 2000, due in part to the contribution from the Benicia Acquisition
noted above. Excluding the effect of the Benicia Acquisition, operating income
increased due to an approximate $471 million increase in total throughput
margins, partially
35
offset by an approximate $99 million increase in cash operating costs and an
approximate $49 million increase in selling and administrative expenses
(including related depreciation expense).
Total throughput margins, excluding the effect of the Benicia Acquisition,
increased due to (i) significantly higher distillate margins resulting primarily
from strong demand and extremely low industry inventory levels, (ii) higher
gasoline margins resulting primarily from supply constraints and low industry
inventories, (iii) improved feedstock discounts for sour crude oil resulting
primarily from increases in sour crude oil production by OPEC and a shift in
demand from sour crude oil to sweet crude oil due to lower sulfur requirements
for certain refined products, (iv) higher RFG premiums and oxygenate margins due
to improved demand and the tightening of fuel specifications in the U.S. and
Europe noted above, (v) significantly higher lube oil margins resulting mainly
from improved market conditions, (vi) higher petrochemical margins resulting
from improved worldwide demand, particularly in Asia, and (vii) higher
throughput volumes. The strong demand for distillate noted above was
attributable mainly to cold weather and high natural gas prices. These high
natural gas prices caused various power producers to switch to fuel oil to run
their plants, which also served to further reduce distillate inventories.
Partially offsetting the increases in total throughput margins resulting from
the above factors were (i) lower prices for No. 6 fuel oil and other heavy
products relative to crude oil prices, (ii) an increase in sweet crude oil costs
to amounts in excess of WTI, (iii) the effect of scheduled and unscheduled
refinery downtime experienced primarily during the 2000 second quarter, (iv) a
decrease in gains from trading activities and (v) the nonrecurrence in 2000 of
benefits resulting from the liquidation of LIFO inventories in the first and
fourth quarters of 1999 of $10.5 million and $9.3 million, respectively.
Cash operating costs were higher due primarily to higher fuel and electricity
costs attributable mainly to an increase in natural gas prices, an increase in
employee salaries, benefits and variable compensation, and higher maintenance
costs related primarily to certain unscheduled refinery downtime, tank cleanings
and lower than normal maintenance activities in 1999. Selling and administrative
expenses (including related depreciation expense) increased primarily as a
result of an increase in employee salaries, benefits, variable compensation and
other employee-related costs, and costs associated with litigation and other
matters.
OTHER INCOME, NET
Other income, net, decreased $3.3 million to $.3 million during 2000 compared to
1999 due primarily to increased costs in 2000 related to the agreement entered
into by Valero in September 1999 to sell a portion of its accounts receivable,
partially offset by improved results of $2.6 million from Valero's 20% equity
interest in the Javelina off-gas processing plant in Corpus Christi. The
increase in Javelina's results was attributable primarily to significantly
higher prices for natural gas liquids and increases in prices for ethylene and
other products, partially offset by significantly higher natural gas feedstock
costs.
NET INTEREST AND DEBT EXPENSE
Net interest and debt expense increased $20.8 million, or 38%, to $76.2 million
during 2000 compared to 1999 due primarily to increased borrowings to fund the
Benicia Acquisition, including the issuance of the senior
36
notes in June 2000 and borrowings under Valero's bank credit facilities (the
effects of which are included in the $1.80 per share contribution from the
Benicia Acquisition noted above), partially offset by a paydown of bank
borrowings during 2000 resulting from Valero's strong earnings and cash flow.
INCOME TAX EXPENSE
Income tax expense increased from $5.9 million in 1999 to $189.1 million in 2000
due primarily to the significant increase in pre-tax income. See Note 19 of
Notes to Consolidated Financial Statements.
OUTLOOK
OVERVIEW
The economy continued to weaken throughout 2001 and the decline was accelerated
by the terrorist attacks on the U.S. on September 11, 2001. Following September
11th, refined product demand declined, particularly for jet fuel, and distillate
and gasoline inventories started building. An unusually mild winter, coupled
with the weak economy, contributed to further weakening of refined product
demand, which resulted in a further build-up of refined product inventories. To
compensate for the decreasing demand for crude oil, OPEC cut crude oil
production, primarily sour crudes, which has resulted in a significant narrowing
of the sour crude discount to WTI.
FIRST QUARTER 2002
Through February 2002, refining margins are 40 to 50 percent below refining
margins in the first quarter of 2001. Average gasoline margins remain well below
the exceptionally high levels seen during the first quarter of 2001, due
primarily to above-average inventory levels, which resulted from high production
levels, increased imports and the blending of various petrochemicals into the
gasoline pool. For example, through February 2002, average Gulf Coast gasoline
margins relative to WTI were approximately $2.45 per barrel, compared to average
first quarter 2001 margins of $5.76 per barrel. Through February 2002, average
West Coast gasoline margins relative to ANS were also weak due to high inventory
levels resulting from West Coast refineries maintaining relatively high
production rates. The West Coast gasoline margin has averaged $9.70 per barrel
through February 2002, well below average first quarter 2001 margins of $19.47
per barrel. Average distillate margins through February 2002 are much lower than
those seen in the first quarter of 2001 as a result of the mild winter and weak
economy as discussed above, and reduced demand for jet fuel (which is causing an
increase in distillate inventories). For example, average Gulf Coast distillate
margins relative to WTI have declined to $1.36 per barrel thus far in 2002
compared to average first quarter 2001 margins of $3.47 per barrel. Average
margins for other products, including lube oil and propylene, have also declined
thus far in 2002, primarily due to lower demand caused by the weak economy.
37
Retail fuel margins have also been under pressure in the first quarter of 2002
due to various factors, including significant discounting by major retailers in
an effort to capture market share and increased competition from large discount
marketers of gasoline.
With respect to feedstocks, the lower OPEC production of sour crude oils
discussed above has resulted in average discounts for sour crude oil narrowing
substantially in the first quarter of 2002 from the very strong first quarter
2001 levels. Sour crude oil discounts to WTI (defined as an average of Arab
Light and Arab Medium delivered to the U.S. Gulf Coast) averaged $2.28 per
barrel through February 2002 compared to $5.33 per barrel in the first quarter
2001.
Valero's refinery utilization rates for the first quarter of 2002 are expected
to be below historical levels due to heavy turnaround activity, various
unscheduled downtimes, and economic-based run cuts as a result of poor margins.
Based on current plans, Valero's crude oil run cuts are expected to amount to
approximately 23% of total crude capacity for the first quarter, inclusive of
turnarounds. During the first quarter of 2002, Valero will have six of its 12
refineries involved in major turnaround activities at various times and for
varying durations. Most of the refinery units scheduled to be down during these
turnarounds are conversion units, which are the primary gasoline making units in
a refinery. The six refineries in turnaround include the Corpus Christi,
Benicia, Three Rivers, McKee, Ardmore and Krotz Springs refineries. In addition,
the Texas City Refinery will undergo a major turnaround in April 2002.
As a result of the poor product margins experienced thus far in 2002, the
substantial narrowing of sour crude discounts due to OPEC production cuts, and
significantly lower refinery utilization rates, Valero currently expects to
incur a slight loss in the first quarter of 2002.
REMAINDER OF 2002 AND BEYOND
Industry Fundamentals
For the remainder of 2002, Valero anticipates, based on projected supply and
demand fundamentals, that refining margins should strengthen. Refinery
utilization rates have remained low throughout the first quarter of 2002. In
addition to Valero's heavy turnaround activity and announced run cuts described
above, industry consultants have indicated that first quarter refinery
turnarounds will be heavy throughout the industry, and other refiners have also
announced significant levels of economic-based run cuts this quarter, especially
of crude units. Considering these lower refinery utilization rates coupled with
lower OPEC crude oil production, inventories should decline from first quarter
2002 levels. In addition, the economy is showing signs of recovery, with
commodity prices rising, manufacturing activity increasing, and consumer
confidence improving. As the economy continues its recovery, the supply and
demand balance should tighten leading to lower refined product inventories,
improved margins and positive earnings going forward.
38
In the four weeks ending March 1, 2002, gasoline demand was 490,000 BPD or
approximately 6% higher than the same period last year, due primarily to
relatively low pump prices and more consumers opting to drive rather than fly.
Gasoline demand is expected to further strengthen as the summer driving season
approaches, given the effect of low pump prices on demand, many consumers opting
to drive rather than fly this summer and the impact of the recovering economy on
consumer sentiment. It is also encouraging to note that, despite the high
inventory levels, days supply of gasoline is currently the same as last year.
However, gasoline margins will likely continue under pressure until excess
inventories are reduced.
Distillate demand is down 4.7% through February 2002 compared to the first two
months of 2001 due to the mild winter and weak economy as described above. As a
result, distillate inventories are approximately 20 million barrels above
normal. Distillate margins will remain weak until inventories are reduced to
more normal levels. Reduced distillate production due to economic-based run cuts
by the industry, and an improving economy, should help reduce excess
inventories.
Valero believes that beyond 2002, refined product margins will improve due to
continued tightening fuel specifications and improving economic conditions
throughout the world. Refined product supply and demand balances are expected to
tighten in the U.S., Europe and Asia from the combined effect of increasing
demand, more stringent gasoline specifications, and refinery closures (resulting
from increased capital requirements to meet the increasingly stringent fuel
specifications). In fact, the impact of these fundamental changes to the
industry is already being seen in the U.S. by the closure last year of the
85,000 barrel-per-day Blue Island Refinery in the Midwest and the recent
announcement of the closure later this year of another Midwest refinery that
produces 70,000 barrels per day of refined products. The impact of refinery
closures and the volumetric impact caused by tighter fuel specifications should
more than offset refinery capacity additions and the limited amount of new
refinery construction that is underway around the world.
New product pipeline projects, including the Centennial pipeline that connects
the Gulf Coast to the Midwest and the Longhorn pipeline that connects the Gulf
Coast to El Paso, Texas, will change the dynamics of regional refined product
pricing in the U.S. The increased refined product supply capability will tend to
mitigate the upside volatility of refined product margins in the Midwest and in
the West Texas/New Mexico markets, and should also improve the Gulf Coast
margins as more refined products are delivered away from the Gulf Coast region.
Certain higher-cost, inefficient refiners in the Midwest and in the West
Texas/New Mexico markets may be forced to shut down if they cannot reduce their
costs to remain competitive.
Over the next several years, Valero expects the production of heavy sour crude
will exceed that of light sweet crude by an increasing amount, which should
result in widening discounts for Valero's purchases of sour crude oils. As the
world economy strengthens, demand for crude oil is expected to increase. As OPEC
increases its crude oil production levels to meet this demand, the incremental
sour crude barrels that were taken off the market will be the first barrels
brought back to the market to meet increasing demand. Additionally, new
discoveries of sour and heavy reserves are rapidly coming to the market from
areas such as deepwater Gulf of Mexico, the former Soviet Union and Canada. In
some major regions such as the North Sea, light sweet crude production is
already declining. With demand for sweet and light crude oils continuing to be
strong due to the implementation in 2000 of lower sulfur requirements in
products and the increasing availability of sour crude
39
oil versus sweet crude oil, the price differential between sweet crude oil and
sour crude oil should increase. Beginning in 2004, the further tightening of
fuel specifications will also increase the demand for light, sweet crude,
further contributing to wider light sweet/heavy sour price differentials. Valero
expects to recognize significant benefits from its ability to meet current fuel
specifications using predominantly sour crude oil feedstocks as the supply of
sour crude and the demand for sweet crude continue to increase in the future. In
addition, Valero expects that an improving world economy would cause crude oil
demand to improve which would widen the sour crude discount, thereby
significantly benefiting Valero.
Capital Investments
During 2001, Valero added more than 900,000 barrels per day of throughput
capacity to its refining operations, acquired an extensive logistics business
to enhance its business operations and became one of the nation's largest
retailers, primarily through the UDS Acquisition on December 31, 2001.
Currently, Valero's primary focus is to capture the synergy opportunities that
the UDS Acquisition creates. Beyond 2002, Valero plans to implement projects to
increase the amount of heavy sour crude processed at the UDS refineries.
Valero has major turnarounds planned for the remainder of 2002 at the Corpus
Christi, Texas City and Paulsboro refineries, which are expected to enhance the
profitability of these refineries going forward. As refining margins merit,
Valero expects to continue making capital investments at its refineries to
enhance feedstock flexibility, meet low sulfur gasoline and distillate
requirements, meet other environmental requirements of both the EPA and various
state agencies, make improvements in throughput capacity, and enhance the
operational efficiency and mechanical reliability of its operations. Typically,
these capital improvements would be implemented during scheduled maintenance
turnarounds.
Valero also plans to continue its program of modernizing and upgrading its
convenience store network through its re-imaging program. Over the past several
years, UDS has re-imaged 130 sites. Valero plans to continue this program and is
currently evaluating the entire network of UDS convenience stores to determine
the appropriate branding, the number of sites and the timetable for upgrading
the network.
Industry Consolidation
Significant industry consolidation through mergers and acquisitions has occurred
in the past and is continuing. Valero expects that industry consolidations will
continue, providing Valero with possible additional opportunities to expand its
operations. Geographically, that growth will most likely come in the Northeast,
Mid-Continent and Gulf Coast regions. Valero is well positioned to capitalize on
further industry consolidation opportunities and to benefit from these long-term
industry trends.
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operating activities increased $304.2 million to $905.5
million during 2001 compared to 2000, due primarily to the significant increase
in net income discussed above under "Results of Operations," partially offset by
an increase in the amount of cash used to fund working capital. During 2001,
approximately
40
$1.1 billion of cash was generated from earnings, approximately $181.1 million
of which was used for other operating activities, primarily working capital
requirements. During 2001, there were significant changes in individual
components of working capital, as detailed in "Statements of Cash Flows" in Note
16 of Notes to Consolidated Financial Statements. Accounts payable decreased
$237.6 million and accounts receivable decreased $122.1 million primarily due to
a decline in various commodity prices from December 2000 to December 2001,
partially offset by an increase in volumes purchased and sold. Accounts payable
also declined due to Valero's redelivery to the U.S. Strategic Petroleum Reserve
in 2001 of approximately one million barrels of crude oil in settlement of a
time exchange of crude oil entered into in 2000. During 2001, cash provided by
operating activities, issuances of common stock in connection with Valero's
benefit plans, and proceeds from the disposition of property, plant and
equipment were utilized to (i) fund capital expenditures, deferred turnaround
and catalyst costs and the earn-out contingency payments to Salomon Inc and
ExxonMobil discussed below, (ii) fund the acquisition of Huntway and inventories
related to the acquisition of El Paso's Corpus Christi refinery and related
product logistics business, (iii) repurchase shares of Valero common stock, and
(iv) pay common stock dividends.
Valero's cash flows from operations are primarily affected by the relationship,
or margins, between refined product prices and the prices for crude oil and
other feedstocks. Historically, refining margins have been volatile, and they
are likely to continue to be volatile in the future. Based on results thus far
in 2002 and margin estimates for the remainder of the year, operating cash flows
for 2002 are expected to be significantly below 2001 levels.
As discussed in Note 2 of Notes to Consolidated Financial Statements, the $2.1
billion cash portion of the UDS Acquisition was financed with proceeds from a
$1.5 billion bridge loan facility and borrowings under two new $750 million
revolving bank credit facilities. The bridge loan facility, which is a
single-draw facility, has a one-year maturity. Proceeds from the required
disposition of the Golden Eagle Refinery and associated retail assets must be
used to pay down any amounts then outstanding under the bridge facility and
reduce commitments thereunder. The two revolving bank credit facilities provide
for commitments of $750 million for a five-year term and $750 million for a
364-day term, respectively, and replace Valero's previous $835 million revolving
bank credit and letter of credit facility. Borrowings under these facilities
bear interest at either the London interbank offered rate (LIBOR) plus a margin,
a base rate or a money market rate. The interest rate and fees under these
credit facilities are subject to adjustment based upon the credit ratings
assigned to Valero's long-term debt. The credit facilities include certain
restrictive covenants including a coverage ratio and a debt-to-capitalization
ratio. As of December 31, 2001, borrowings under the two revolving credit
facilities were $525 million, while letters of credit outstanding were
approximately $145 million. Valero also currently has an uncommitted short-term
bank credit facility, along with various uncommitted bank letter of credit
facilities. As of December 31, 2001, $200 million was outstanding under the
short-term bank credit facility, and letters of credit totaling approximately
$92 million were outstanding under the uncommitted letter of credit facilities.
As of December 31, 2001, Valero's committed revolving credit facilities also
consisted of a Canadian facility under which a Canadian subsidiary may borrow,
issue bankers' acceptances and obtain letters of credit in an aggregate amount
of Cdn. $200 million, and a U.S. facility under which Valero L.P. may borrow up
to
41
$120 million, both of which were assumed in the UDS Acquisition. Valero must pay
annual fees on the total used and unused portion of these revolving credit
facilities. The interest rate under these facilities floats based upon the prime
rate, LIBOR or other floating interest rates, at Valero's option. As of December
31, 2001, there were no amounts outstanding under the Canadian facility and $16
million was outstanding under the Valero L.P. facility.
As of December 31, 2001, Valero had outstanding $150 million principal amount of
6 3/4% notes, under which a third party has an option to purchase the notes
under certain circumstances at par on December 15, 2002. If the third party does
not exercise its purchase option, Valero would be required to repurchase the
notes at par on December 15, 2002. Valero currently expects that the third party
will exercise its purchase option, in which case the term of the notes would be
extended to December 15, 2032.
As discussed in Note 2 of Notes to Consolidated Financial Statements, effective
June 1, 2001, Valero completed the acquisition of Huntway Refining Company for a
total cost, net of cash acquired, of approximately $76 million. Also effective
June 1, 2001, Valero purchased for approximately $109 million, inventories
related to the acquisition of El Paso Corporation's Corpus Christi, Texas
refinery and related product logistics business. These expenditures were funded
with cash from operations.
During 2001, Valero reduced its exposure to increases in interest rates by
refinancing its $18.5 million of taxable, variable-rate industrial revenue bonds
with tax-exempt fixed-rate bonds that bear interest at 6.65%. See Note 10 of
Notes to Consolidated Financial Statements.
Valero's registration statement on Form S-4 was declared effective on August 24,
2001 to register the shares of Valero common stock that were issued to UDS
shareholders in connection with the UDS Acquisition. Valero issued 45,887,826
shares of Valero common stock and vested 5,836,933 employee stock options in
connection with the UDS Acquisition, which increased stockholders' equity by
approximately $2.2 billion. See Note 14 of Notes to Consolidated Financial
Statements.
As of December 31, 2001, Valero's debt-to-capitalization ratio (net of cash) was
54.5%, which includes the effect of completing the UDS, Huntway and El Paso
acquisitions. For purposes of this computation, "debt" includes amounts stated
as "Payable to UDS shareholders" on the Consolidated Balance Sheet, the $200
million of company-obligated preferred securities of subsidiary trust assumed in
the UDS Acquisition, and 20%, or $34.5 million, of the aggregate liquidation
amount of trust preferred securities issued as part of the PEPS Units in 2000.
As described in Note 2 of Notes to Consolidated Financial Statements, if certain
average refining margins exceed a specified level in any of the ten years
following Valero's May 1997 acquisition of Basis Petroleum, Inc. from Salomon
Inc, Salomon is entitled to receive certain "earn-out" payments from Valero.
Also, Mobil Oil Corporation (now ExxonMobil) is entitled to receive certain
"earn-out" payments in any of the five years following Valero's September 1998
acquisition of the Paulsboro Refinery, if certain average refining margins
during any of these years exceed a specified level. Based on refining margins
during the years ended May 2001 and September 2001, earn-out payments paid to
Salomon and ExxonMobil during 2001 were
42
$35 million and $20 million, respectively. Based on actual margins since May and
September of 2001, and estimated margin levels through May and September of
2002, an earn-out payment of approximately $12 million would be due to Salomon
in May 2002, while no earn-out payment would be due to ExxonMobil.
During 2001, excluding amounts pertaining to (i) the earn-out contingency
payments to Salomon and ExxonMobil described above, (ii) the acquisition cost of
Huntway, (iii) the acquisition cost of El Paso's Corpus Christi refinery and
related product logistics business, and (iv) the acquisition cost of UDS, Valero
expended approximately $536 million for capital investments, including capital
expenditures of $394 million and deferred turnaround and catalyst costs of $142
million. The capital expenditure amount included approximately $34 million for
environmental projects. These environmental projects included new equipment and
improvements to existing equipment that reduce emissions from future operations.
For 2002, Valero currently expects to incur approximately $1 billion for capital
investments, including approximately $840 million for capital expenditures
(approximately $165 million of which is for environmental projects) and
approximately $160 million for deferred turnaround and catalyst costs. The
capital expenditure estimate excludes approximately $100 million and $35
million, respectively, related to a delayed coker facility at the Texas City
Refinery and the planned expansion of the UDS headquarters facility for future
use as Valero's new corporate headquarters, which are being funded through
structured lease arrangements (see the discussion below and Notes 23 and 27 of
Notes to Consolidated Financial Statements). The capital expenditure estimate
also excludes anticipated expenditures related to the earn-out contingency
agreements discussed above. Valero continuously evaluates its capital budget and
makes changes as economic conditions warrant.
Valero is subject to extensive federal, state and local environmental laws and
regulations, including those relating to the discharge of materials into the
environment, waste management, pollution prevention measures and characteristics
and composition of gasoline and diesel fuels. If Valero violates or fails to
comply with these laws and regulations, it could be fined or otherwise
sanctioned. In February 2000, the EPA finalized its Tier II gasoline standard
under the Clean Air Act. The standard requires the sulfur content in gasoline to
be reduced from approximately 300 parts per million to 30 parts per million. The
regulation will be phased in between 2004 and 2006. In addition, the EPA
finalized its Tier II distillate standard to reduce the sulfur content of diesel
fuel sold to highway consumers from 500 parts per million to 15 parts per
million, beginning in 2006. Valero has determined that modifications will be
required at each of its refineries as a result of the Tier II standards. Based
on its latest estimates, Valero believes that capital expenditures of
approximately $550 million will be required for its refineries to meet the Tier
II standards (exclusive of any costs for hydrogen facilities). 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. In addition, any
major upgrades in any of Valero's refineries could require material additional
expenditures to comply with environmental laws and regulations. Although
environmental costs may have a significant impact on results of operations for a
single period, Valero believes that these costs will not have a material adverse
effect on its financial position or liquidity.
43
The following table presents long-term contractual obligations of Valero and the
related payments due, in total and by period as of December 31, 2001 (in
thousands). Excluded from this table is the $2.1 billion in cash paid to UDS
shareholders in January 2002, as discussed above and in Note 2 of Notes to
Consolidated Financial Statements, and debt related to bank facilities which is
included in the commercial bank commitments table below. Valero had no
unconditional purchase obligations as of December 31, 2001.
Payments Due by Period
--------------------------------------------------------
Less than
Contractual Obligations Total 1 Year 1-3 Years 4-5 Years Over 5 Years
----------------------- ----- ----------- --------- --------- ------------
Long-term debt (stated maturities)....... $2,259,297 $276,535 $ 29,358 $ 697,248 $1,256,156
Capital lease obligations................ 294,000 -- 294,000 -- --
Operating leases......................... 744,017 152,199 241,828 160,784 189,206
The operating lease amounts in the above table exclude minimum rentals to be
received under subleases. Included in the operating lease amounts above are
long-term operating lease commitments that have been funded through structured
lease arrangements with non-consolidated third-party entities. These leases are
for land, office facilities and equipment, retail facilities and equipment, dock
facilities, transportation equipment, and various facilities and equipment used
in the production of refined products. These entities constructed or purchased
the related assets and then leased them to Valero. The assets held by these
entities were originally recorded at the cost of the assets constructed or
purchased, with such cost being funded through borrowings by these entities and
equity contributions equal to at least 3% of the asset cost. Each entity
maintains at all times a minimum equity equal to 3% of the related assets. No
interest in these entities is held by Valero, its affiliates or any related
parties. All agreements provided for initial commitment terms of either 5 or 7
years, expiring at various times between August 2002 and September 2006. For
each lease, Valero has the option to purchase the leased assets at any time
during the lease term for a price that approximates fair value. After the
initial lease term, the leases may be extended by agreement of the parties.
Alternatively, Valero may arrange for the sale of the leased properties to one
or more third parties, in which case the leases provide for a maximum residual
value guarantee ranging from 82% to 85% of the appraised value of the leased
properties at the end of the lease term, as determined at the inception of the
lease. As of December 31, 2001, the value of these leased assets held by these
entities was approximately $513 million.
In addition to the above-noted structured lease arrangements, in August 2001,
Valero entered into a $300 million structured lease arrangement to fund the
construction of a new 45,000 barrel-per-day delayed coker facility at its Texas
City Refinery. Also, in February 2002, Valero entered into a $170 million
structured lease arrangement to combine a portion of an existing structured
lease assumed in the UDS Acquisition (and included in the above discussion)
related to the UDS headquarters facility with the funding of planned
construction to expand this facility for future use as Valero's new corporate
headquarters. These structured lease arrangements have lease terms that expire
in August 2006 and February 2007, respectively, and provide for certain renewal
options. The terms of these arrangements are similar to the lease arrangements
described above, except that if Valero elects to renew the headquarters facility
lease, Valero is required to provide cash collateral in an amount equal to the
residual value guarantee, which is currently estimated to be approximately $146
million.
44
Valero makes use of these structured lease arrangements to provide additional
liquidity to fund its ongoing operations. Valero believes that it is not
reasonably likely that it will opt to purchase these leased assets at any time
during the lease term and would likely opt to renew the leases for such assets
under similar arrangements. However, there can be no assurance regarding the
availability of future structured lease arrangements or whether such
arrangements can be made available on terms acceptable to Valero.
The following table presents Valero's commercial bank commitments and the amount
of commitment expiration per period as of December 31, 2001 (in thousands).
Valero had no guarantees or standby repurchase obligations as of December 31,
2001.
Amount of Commitment Expiration per Period
Total -------------------------------------------------------
Amounts Less than
Commercial Bank Commitments Committed 1 Year 1-3 Years 4-5 Years Over 5 Years
--------------------------- --------- --------- --------- --------- ------------
Lines of credit....................... $3,449,845 $2,579,845 $ -- $870,000 $ --
Standby letters of credit............. 144,735 110,032 34,687 -- 16
As discussed in Note 5 of Notes to Consolidated Financial Statements, Valero,
through a wholly owned subsidiary, has an agreement, which matures in September
2002, with a third party financial institution to sell, on a revolving basis, up
to $100 million of eligible trade accounts receivable. Also, in connection with
the UDS Acquisition, Valero assumed a $360 million revolving accounts receivable
sales facility, maturing in December 2002, whereby Valero can sell, on an
ongoing basis, eligible credit card and trade accounts receivable through a
wholly owned subsidiary to a third party financial institution. Under these
agreements, the subsidiaries sell an undivided percentage ownership interest in
the eligible receivables, without recourse, to the third party financial
institutions which maintain at all times a 3% equity interest in their undivided
interest in the receivables. Valero's retained interest in these receivables is
included in "Receivables, net" on the Consolidated Balance Sheets and is
recorded at fair value. Valero remains responsible for servicing the transferred
receivables and pays certain fees related to its sale of receivables under these
programs. During 2001, 2000 and 1999, the costs incurred by Valero related to
its pre-existing program, which are included in "Other income (expense), net" in
the Consolidated Statements of Income and exclude costs related to the program
assumed in the UDS Acquisition, were $2.3 million, $6.8 million and $1.6
million, respectively. As of December 31, 2001, the amount of eligible
receivables sold to the third party financial institutions under these programs
was $373 million.
In September 1997, Valero sold approximately 7.5 million barrels of feedstock
and refined product inventories to a non-consolidated special purpose entity
(SPE) for $150 million under a petroleum products purchase agreement that
matures in August 2002. Under this agreement, Valero has an option to purchase
petroleum product volumes equivalent to those sold on or before the stated
maturity date at then current market prices. In connection with the UDS
Acquisition, Valero assumed a similar arrangement maturing in June 2002 under
which UDS originally sold approximately 6.4 million barrels of feedstock and
refined product inventories to a non-consolidated SPE for $140 million. Valero
also has an option under this arrangement to purchase petroleum product volumes
equivalent to those sold at then current market prices. Had Valero exercised
both of these options as of December 31, 2001, the fair value of the feedstock
and refined product volumes under these purchase options would have been
approximately $282 million.
45
Valero has no rating agency triggers in any of its agreements that would require
it to post additional collateral or to perform other duties that would impact
its liquidity. In the event of a downgrade by the rating agencies, the only
changes that would occur would be in the pricing under some of its bank credit
facilities, structured leases and other arrangements.
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 2001, Valero repurchased shares of its common stock under these programs
at a cost of $156.7 million. Through February 2002, Valero has repurchased
additional common shares under these programs at a cost of approximately $6.4
million.
Dividends on Valero's common stock are considered quarterly by Valero's Board of
Directors, are determined by the Board on the basis of earnings and cash flows,
and may be paid only when approved by the Board. Through the third quarter of
2001, Valero declared a dividend of $.08 per common share for each quarter since
the July 1997 Restructuring. On October 18, 2001, Valero's Board of Directors
approved an increase in Valero's regular quarterly cash dividend on common stock
from $.08 per common share to $.10 per common share.
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. During the first quarter of 2002, Valero
expects to file a $3.5 billion universal shelf registration statement with the
SEC, and during the second quarter of 2002, Valero expects to issue
approximately $1.5 billion of notes with varying maturities. The proceeds are
expected to be used to reduce borrowings under various bank credit facilities.
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.
Valero's refining and marketing operations have a concentration of customers in
the petroleum refining industry and petroleum products markets. These
concentrations of customers may impact Valero's overall exposure to credit risk,
either positively or negatively, in that these customers may be similarly
affected by changes in economic or other conditions. However, Valero believes
that its portfolio of accounts receivable is sufficiently diversified to the
extent necessary to minimize potential credit risk. Historically, Valero has not
had any significant problems collecting its accounts receivable.
NEW ACCOUNTING PRONOUNCEMENTS
As discussed in Note 1 of Notes to Consolidated Financial Statements, certain
new financial accounting pronouncements have been issued by the FASB, EITF and
SEC which either have already been reflected in the accompanying consolidated
financial statements, or will become effective for Valero's financial statements
at various dates in the future. The adoption of these pronouncements has not
had, or is not expected to have, a material effect on Valero's consolidated
financial statements.
46
CRITICAL ACCOUNTING POLICIES
Valero's discussion and analysis of its financial condition and results of
operations are based on Valero's consolidated financial statements, which have
been prepared in accordance with United States generally accepted accounting
principles. The preparation of these consolidated financial statements requires
Valero to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. There can be no assurance
that actual results will not differ from those estimates. Valero believes the
following accounting policies, which are described in Note 1 of Notes to
Consolidated Financial Statements, affect its more significant judgments and
estimates used in the preparation of its consolidated financial statements.
INVENTORIES
As discussed in Note 1 of Notes to Consolidated Financial Statements,
inventories are stated at the lower of cost or market, with the cost of refinery
feedstocks purchased for processing and produced products determined primarily
under the last-in, first-out (LIFO) method of inventory pricing, while the cost
of feedstocks and products purchased for resale, and the cost of materials,
supplies and convenience store merchandise is determined under the weighted
average cost method. Under the LIFO method of inventory pricing, Valero utilizes
the dollar-value LIFO method and uses average purchase prices during the year to
value any increments to its LIFO inventory. Inherent in the dollar-value LIFO
method are certain significant management judgments and estimates including,
among others, the number of LIFO pools, the number of items within each pool,
inventory levels, and the purchase prices used to determine the value of
increments, all of which can significantly impact the inventory valuation.
GOODWILL AND OTHER INTANGIBLE ASSETS
In connection with the UDS Acquisition, Valero's purchase price (cost) was in
excess of the estimated fair value of UDS's net assets acquired, resulting in
goodwill. In addition, Valero acquired certain intangible assets, including
customer lists, trade names, and air emission credits. As stated in Note 1 of
Notes to Consolidated Financial Statements under New Accounting Pronouncements,
FASB Statement No. 142 provides that goodwill and other intangible assets that
have indefinite useful lives will not be amortized, but instead must be tested
at least annually for impairment, and intangible assets that have finite useful
lives should continue to be amortized over their useful lives. Statement No. 142
also provides specific guidance for testing goodwill and other nonamortized
intangible assets for impairment. The Statement requires management to make
certain estimates and assumptions in order to allocate goodwill to reporting
units and to determine the fair value of reporting unit net assets and
liabilities, including, among other things, an assessment of market conditions,
projected cash flows, investment rates, interest/equity rates and growth rates,
which could significantly impact the reported value of goodwill and other
intangible assets. Statement No. 142 requires, in lieu of amortization, an
initial impairment review of goodwill in 2002 and an annual impairment test
thereafter. Valero currently does not expect to record an impairment charge upon
completion of the initial impairment review as the UDS Acquisition which
resulted in goodwill and other intangible assets was completed on December 31,
2001 and
47
was recorded at estimated fair value on that date. However, there can be no
assurance that at the time the review is completed an impairment charge will not
be recorded. In addition, Valero is exposed to the possibility that changes in
market conditions could result in significant impairment charges in the future,
thus resulting in a potential increase in earnings volatility.
REFINERY TURNAROUND COSTS
As discussed in Note 1 of Notes to Consolidated Financial Statements, costs
incurred in connection with planned major maintenance activities at Valero's
refineries (refinery turnaround costs) are deferred when incurred and amortized
on a straight-line basis over that period of time estimated to lapse until the
next turnaround occurs. The frequency of refinery turnarounds varies with each
operating unit; the weighted average amortization period for the balance of
deferred turnaround costs as of December 31, 2001 is 3.4 years. Diversity in
accounting for those kinds of costs has been widely observed in the refining
industry; however, Valero believes the method it has selected results in the
best matching of expenses against the related revenues.
In June 2001, the American Institute of Certified Public Accountants (AICPA)
issued an exposure draft of a Statement of Position (SOP) entitled "Accounting
for Certain Costs and Activities Related To Property, Plant, and Equipment," in
which the issue of accounting for the costs of planned major maintenance
activities was addressed. Such activities include refinery turnaround costs. The
exposure draft concluded that the total cost of planned major maintenance
activities cannot be deferred, but that instead the individual costs of such
planned major maintenance activities need to be evaluated. Under the provisions
of the exposure draft, the majority of turnaround costs would be required to be
expensed. If Valero had been required to expense refinery turnaround costs in
the past, operating results would have been materially different. If the
provisions of the exposure draft are enacted and turnaround costs are ultimately
required to be expensed as incurred, Valero's reported income would become more
volatile since most turnarounds are scheduled in the first quarter of each year.
INCOME TAXES
As part of the process of preparing consolidated financial statements, Valero
must assess the likelihood that its deferred income tax assets will be recovered
through future taxable income. To the extent Valero believes that recovery is
not likely, a valuation allowance must be established. Significant management
judgment is required in determining any valuation allowance recorded against net
deferred income tax assets. Valero has recorded a valuation allowance as of
December 31, 2001, due to uncertainties related to its ability to utilize some
of its deferred income tax assets, primarily consisting of certain state net
operating losses carried forward and foreign tax credits carried forward, before
they expire. The valuation allowance is based on Valero's estimates of taxable
income in the various jurisdictions in which it operates and the period over
which deferred
48
income tax assets will be recoverable. In the event that actual results differ
from these estimates or Valero adjusts these estimates in future periods, Valero
may need to establish an additional valuation allowance. The net deferred income
tax asset as of December 31, 2001 was $393.3 million, net of a valuation
allowance of $24.0 million.
ENVIRONMENTAL LIABILITIES
As discussed in Item 1 under Environmental Matters, Valero's operations are
subject to environmental regulation by federal, state and local authorities, and
compliance requirements relate primarily to discharge of materials into the
environment, waste management and pollution prevention measures. Future action
and regulatory initiatives could result in changes to required operating
permits, additional remedial actions or increased capital expenditures and
operating costs that cannot be assessed with certainty at this time. Accruals
for environmental liabilities are based on best estimates of probable
undiscounted future costs using currently available technology and applying
current regulations, as well as Valero's own internal environmental policies.
Valero believes that it has adequately provided for its environmental exposures
with the accruals referred to above, after consideration of indemnifications
from various third parties. However, environmental liabilities are difficult to
assess and estimate due to unknown factors, including the magnitude of possible
contamination, the timing and extent of remediation, the determination of
Valero's liability in proportion to other parties, improvements in cleanup
technologies, and the extent to which environmental laws and regulations may
change in the future.
PRICE RISK MANAGEMENT ACTIVITIES
As discussed in Notes 1 and 17 of Notes to Consolidated Financial Statements,
Valero has adopted FASB Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes accounting and reporting
standards requiring that all derivative instruments be recorded in the balance
sheet as either assets or liabilities measured at their fair value. The
Statement also requires that changes in a derivative's fair value be recognized
currently in earnings unless specific hedge accounting criteria are met. In
order to qualify for hedge accounting, among other things, Valero must
demonstrate that the hedge is effective in achieving offsetting changes in fair
value or offsetting cash flows attributable to the risk being hedged. For
Valero's derivatives designated and documented as either fair value or cash flow
hedges, the hedges have historically been effective in achieving offsetting
changes in fair value or offsetting cash flows attributable to the risk being
hedged. If these hedges were to become ineffective in a future period, all
deferred gains or losses would be recorded to earnings in the period the hedges
were to become ineffective and all prospective changes in fair value would be
recognized in earnings.
49
ITEM 7A. 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 its refining operations. In order to reduce the risks of these price
fluctuations, Valero uses derivative commodity instruments to hedge a portion of
its refinery feedstock and refined product inventories and a portion of its
unrecognized firm commitments to purchase these inventories (fair value hedges).
Valero also uses derivative commodity instruments to hedge the price risk of
forecasted transactions such as forecasted feedstock and natural gas purchases
and product sales (cash flow hedges). In addition, Valero uses derivative
commodity instruments to manage its exposure to price volatility on a portion of
its refined product inventories and on certain forecasted feedstock and refined
product purchases that do not receive hedge accounting treatment under FASB 133.
These derivative instruments are considered economic hedges for which changes in
their fair value are reported currently in earnings. Finally, Valero uses
derivative commodity instruments for trading purposes using its fundamental and
technical analysis of market conditions to earn additional income. See Note 1 of
Notes to Consolidated Financial Statements for a discussion of Valero's
accounting policies related to its derivative commodity instrument transactions,
including Valero's adoption of FASB Statement No. 133 effective January 1, 2001.
The types of instruments used in Valero's hedging and trading activities
described above include swaps, futures and options. 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.
The following table provides information about Valero's derivative commodity
instruments as of December 31, 2001 (dollars in thousands, except for the
weighted average pay and receive prices as described below), including:
o fair value hedges - held to hedge refining inventories and unrecognized
firm commitments,
o cash flow hedges - held to hedge forecasted feedstock purchases and product
sales,
o economic hedges - (i) held to manage price volatility in refined product
inventories, and (ii) held to manage price volatility in forecasted
feedstock, natural gas and refined product purchases, and
o trading activity - held or issued for trading purposes.
Contract volumes are presented in thousands of barrels (for crude oil and
refined products) or in billions of British thermal units (for natural gas). The
weighted average pay and receive prices represent amounts per barrel (for crude
oil and refined products) or amounts per million British thermal units (for
natural gas). Volumes shown for swaps represent notional volumes which are used
to calculate amounts due under the agreements. The gain or (loss) on swaps is
equal to the fair value amount and represents the excess of the receive price
over the pay price times the notional contract volumes. For futures and options,
the gain or (loss) represents (i) the excess of the fair value amount over the
contract amount for long positions, and (ii) the excess of the contract amount
over the fair value amount for short positions. Additionally, for futures, the
weighted-average pay price represents the contract price for both long and short
positions. All derivative commodity instruments assumed in connection with the
UDS Acquisition were
50
recorded at fair value on December 31, 2001; thus no gain or (loss) is shown in
the tables below. Accordingly, swaps assumed in the UDS Acquisition have zero
fair value as of December 31, 2001 as the weighted average pay price is equal to
the weighted average receive price. Additionally, for futures and options
assumed in the UDS Acquisition, the contract amount is equal to the fair value
of the assumed contracts as of December 31, 2001.
51
DECEMBER 31, 2001
------------------------------------------------------------------------
WTD AVG WTD AVG
CONTRACT PAY RECEIVE CONTRACT FAIR GAIN
VOLUMES PRICE PRICE VALUE VALUE (LOSS)
-------- ------- ------- -------- -------- ---------
FAIR VALUE HEDGES:
SWAPS - LONG:
2002 (crude oil and refined products) 75 $ 1.20 $ 1.37 N/A $ 12 $ 12
FUTURES - LONG:
2002 (crude oil and refined products) 1,428 24.73 N/A $ 35,317 33,600 (1,717)
FUTURES - SHORT:
2002 (crude oil and refined products) 7,177 24.31 N/A 174,492 170,824 3,668
CASH FLOW HEDGES:
SWAPS - SHORT:
2002 (crude oil and refined products) 5,040 3.07 3.93 N/A 4,332 4,332
FUTURES - LONG:
2002 (crude oil and refined products) 13,845 21.35 N/A 295,537 291,780 (3,757)
FUTURES - SHORT:
2002 (crude oil and refined products) 10,706 21.04 N/A 225,264 222,865 2,399
OPTIONS - SHORT:
2002 (crude oil and refined products) 2,100 3.29 N/A 1,418 2,721 (1,303)
ECONOMIC HEDGES:
SWAPS - LONG:
2002 (crude oil and refined products) 724 7.36 7.36 N/A -- --
2002 (natural gas) 13,663 2.84 2.84 N/A -- --
SWAPS - SHORT:
2002 (natural gas) 11,403 3.90 3.90 N/A -- --
FUTURES - LONG:
2002 (crude oil and refined products) 2,469 21.02 N/A 51,908 51,259 (649)
2003 (crude oil and refined products) 13 24.62 N/A 320 320 --
FUTURES - SHORT:
2002 (crude oil and refined products) 11,523 21.30 N/A 245,459 244,171 1,288
2002 (natural gas) 300 2.98 N/A 893 770 123
OPTIONS - LONG:
2002 (crude oil and refined products) 250 0.29 N/A 73 73 --
TRADING ACTIVITIES:
SWAPS - LONG:
2002 (crude oil and refined products) 4,575 5.37 5.24 N/A (579) (579)
SWAPS - SHORT:
2002 (crude oil and refined products) 5,150 3.86 4.15 N/A 1,500 1,500
FUTURES - LONG:
2002 (crude oil and refined products) 2,597 23.41 N/A 60,796 56,418 (4,378)
2002 (natural gas) 250 2.97 N/A 744 641 (103)
FUTURES - SHORT:
2002 (crude oil and refined products) 2,597 23.66 N/A 61,438 57,307 4,131
2002 (natural gas) 900 2.88 N/A 2,596 2,310 286
OPTIONS - SHORT:
2002 (crude oil and refined products) 600 4.47 N/A 485 940 (455)
2002 (natural gas) 600 3.29 N/A 192 59 133
52
The following table provides information about Valero's derivative commodity
instruments as of December 31, 2000 (dollars in thousands, except for the
weighted average pay and receive prices as described below), including:
o hedges of refining inventory,
o hedges of anticipatory transactions - held to hedge anticipated feedstock
and product purchases, product sales and refining margins, and
o trading activity - held or issued for trading purposes.
Contract volumes are presented in thousands of barrels (for crude oil and
refined products) or in billions of British thermal units (for natural gas). The
weighted average pay and receive prices represent amounts per barrel (for crude
oil and refined products) or amounts per million British thermal units (for
natural gas). Volumes shown for swaps represent notional volumes which are used
to calculate amounts due under the agreements. The gain or (loss) on swaps is
equal to the fair value amount, and represents the excess of the receive price
over the pay price times the notional contract volumes. The gain or (loss) on
futures and options is equal to (i) the excess of the fair value amount over the
contract amount for long positions, and (ii) the excess of the contract amount
over the fair value amount for short positions. Additionally, for futures, the
weighted-average pay price represents the contract price for both long and short
positions.
DECEMBER 31, 2000
-----------------------------------------------------------
WTD AVG WTD AVG
CONTRACT PAY RECEIVE CONTRACT FAIR
VOLUMES PRICE PRICE VALUE VALUE
-------- ------- ------- -------- --------
HEDGES OF REFINING INVENTORY:
SWAPS - LONG:
2001 (crude oil and refined products) 150 $ 1.62 $ 4.27 N/A $ 398
SWAPS - SHORT:
2001 (crude oil and refined products) 1,800 7.14 4.18 N/A (5,326)
FUTURES - LONG:
2001 (crude oil and refined products) 10,898 31.58 N/A 344,201 345,732
2001 (natural gas) 1,200 4.56 N/A 5,471 11,730
FUTURES - SHORT:
2001 (crude oil and refined products) 12,263 32.42 N/A 397,625 398,612
2001 (natural gas) 1,200 4.71 N/A 5,652 11,730
HEDGES OF ANTICIPATORY TRANSACTIONS:
SWAPS - LONG:
2001 (crude oil and refined products) 750 1.62 2.35 N/A 547
SWAPS - SHORT:
2001 (crude oil and refined products) 9,000 3.39 3.60 N/A 1,845
FUTURES - LONG:
2001 (crude oil and refined products) 1,012 26.53 N/A 26,844 25,955
FUTURES - SHORT:
2001 (crude oil and refined products) 1,066 30.67 N/A 32,689 32,485
TRADING ACTIVITIES:
SWAPS - LONG:
2001 (crude oil and refined products) 6,450 4.08 5.09 N/A 6,512
2001 (natural gas) 56,070 4.82 7.85 N/A 169,488
SWAPS - SHORT:
2001 (crude oil and refined products) 7,400 4.44 3.55 N/A (6,571)
2001 (natural gas) 56,060 7.85 4.81 N/A (170,812)
FUTURES - LONG:
2001 (crude oil and refined products) 7,720 24.54 N/A 189,430 200,701
2002 (crude oil and refined products) 8 26.10 N/A 209 189
2001 (natural gas) 14,410 5.28 N/A 76,050 130,356
FUTURES - SHORT:
2001 (crude oil and refined products) 6,670 24.19 N/A 161,334 179,454
2001 (natural gas) 15,920 5.18 N/A 82,472 139,205
53
In addition to the above, as of December 31, 2001 and 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 August 2002, have
notional volumes totaling approximately 7.5 million barrels, and have a
weighted average pay price of $20.11 per barrel. As of December 31, 2001, these
swaps had a weighted average receive price of $20.53 per barrel and a net
after-tax gain recorded in other comprehensive income of approximately $17.0
million. As of December 31, 2000, these swaps had a weighted average receive
price of $22.75 per barrel and a net unrecognized fair value of approximately
$42.9 million. Further, in connection with the UDS Acquisition, Valero assumed
certain swap contracts under which it is the fixed price payor under contracts
held to hedge anticipated purchases of refinery feedstocks and refined products
that mature in June 2002, have notional volumes totaling approximately 6.4
million barrels, and have a weighted average pay price of $22.20 per barrel. As
the contracts were acquired on December 31, 2001, no amount is recorded in other
comprehensive income.
Swaps and futures contracts held to hedge refining inventories at the end of
2000 had remaining terms of less than one year. As of December 31, 2000, 14.9%
of Valero's refining inventory position was hedged. As of December 31, 2000,
$3.1 million of deferred hedge losses were included as an increase in refining
inventories. The majority of contracts hedging anticipated transactions mature
in 2001 with certain contracts extending through 2002. There were no significant
explicit deferrals of hedging gains or losses related to these anticipated
transactions as of the end of 2000.
The following table discloses the net gains (losses) from trading activities and
average fair values of contracts held or issued for trading purposes for the
year ended December 31, 2000 (dollars in thousands):
AVERAGE FAIR VALUE OF
NET GAINS (LOSSES) ASSETS (LIABILITIES)
------------------ ---------------------
Swaps.................................. $ (1,524) $1,547
Options................................ 45 (31)
Futures................................ (3,854) 375
--------
Total................................ $ (5,333)
========
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 (see Note 10 of Notes to Consolidated Financial Statements). As discussed
in Note 17 under "Interest Rate Risk," in connection with the UDS Acquisition,
Valero assumed certain interest rate swap agreements entered into in order to
manage exposure to changing interest rates on certain fixed-rate debt
obligations.
The following table provides information about the assumed long-term debt and
interest rate swaps, both of which are sensitive to changes in interest rates.
For long-term debt, principal cash flows and related weighted
54
average interest rates by expected maturity dates, are presented. For interest
rate swaps, the table presents notional amounts and weighted average interest
rates by expected (contractual) maturity dates. Notional amounts are used to
calculate the contractual payments to be exchanged under the contract. Weighted
average floating rates are based on implied forward rates in the yield curve at
the reporting date.
DECEMBER 31, 2001
------------------------------------------------------------------------------
EXPECTED MATURITY DATES
------------------------------------------------------
THERE- FAIR
2002 2003 2004 2005 2006 AFTER TOTAL VALUE
------ ------ ------ ------ ------ --------- --------- ---------
(in millions, except interest rates)
LONG-TERM DEBT:
Fixed rate................... $276.5 $ 28.8 $ 0.6 $396.6 $300.6 $ 1,256.2 $ 2,259.3 $ 2,310.7
Average interest rate...... 8.6% 8.2% 7.7% 8.1% 7.4% 7.3% 7.6%
Floating rate................ 21.5 -- -- -- 541.0 -- 562.5 562.5
Average interest rate...... 4.0% -- -- -- 2.7% -- 2.7%
INTEREST RATE SWAPS
FIXED TO FLOATING:
Notional amount.............. $200.0 $ -- $ -- $150.0 $ -- $ 100.0 $ 450.0 $ 17.8
Average pay rate........... 1.8% 3.9% 5.2% 5.6% 6.1% 6.5% 5.4%
Average receive rate....... 6.4% 6.6% 6.6% 6.6% 6.9% 6.9% 6.7%
FOREIGN CURRENCY RISK
In connection with the UDS Acquisition, Valero may enter into short-term foreign
exchange and purchase contracts to manage its exposure to exchange rate
fluctuations on the trade payables of its Canadian operations that are
denominated in U.S. dollars. As of December 31, 2001, Valero did not have any
outstanding short-term foreign exchange or purchase contracts.
55
ITEM 8. FINANCIAL STATEMENTS
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders
of Valero Energy Corporation:
We have audited the accompanying consolidated balance sheets of Valero Energy
Corporation (a Delaware corporation) and subsidiaries as of December 31, 2001
and 2000, and the related consolidated statements of income, stockholders'
equity, cash flows and comprehensive income for each of the three years in the
period ended December 31, 2001. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Valero Energy Corporation and
subsidiaries as of December 31, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2001, in conformity with accounting principles generally accepted
in the United States.
/s/ ARTHUR ANDERSEN LLP
San Antonio, Texas
March 5, 2002
56
VALERO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(THOUSANDS OF DOLLARS, EXCEPT PAR VALUE)
DECEMBER 31,
----------------------------
2001 2000
------------ ------------
ASSETS
Current assets:
Cash and temporary cash investments ........................................ $ 269,437 $ 14,596
Restricted cash ............................................................ 76,623 --
Receivables, net ........................................................... 785,605 585,892
Inventories ................................................................ 1,453,106 539,882
Current deferred income tax assets ......................................... -- 105,817
Income taxes receivable .................................................... 132,226 --
Prepaid expenses and other current assets .................................. 92,510 38,880
Assets held for sale ....................................................... 1,303,637 --
------------ ------------
Total current assets ..................................................... 4,113,144 1,285,067
------------ ------------
Property, plant and equipment, at cost ........................................ 8,197,841 3,481,117
Less accumulated depreciation ................................................. (937,386) (804,437)
------------ ------------
Property, plant and equipment, net ......................................... 7,260,455 2,676,680
------------ ------------
Goodwill ...................................................................... 2,210,473 --
Intangible assets, net......................................................... 366,702 59,141
Deferred charges and other assets ............................................. 426,322 286,816
------------ ------------
Total assets ............................................................. $ 14,377,096 $ 4,307,704
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Short-term debt and current portion of long-term debt ...................... $ 505,661 $ 27,000
Payable to UDS shareholders ................................................ 2,055,250 --
Accounts payable ........................................................... 1,374,501 806,697
Accrued expenses ........................................................... 413,902 104,473
Taxes other than income taxes .............................................. 320,208 72,589
Current deferred income tax liabilities .................................... 60,724 --
Income taxes payable ....................................................... -- 28,233
------------ ------------
Total current liabilities ................................................ 4,730,246 1,038,992
------------ ------------
Long-term debt, less current portion .......................................... 2,517,398 1,042,417
------------ ------------
Capital lease obligations ..................................................... 287,849 --
------------ ------------
Deferred income tax liabilities ............................................... 1,388,123 406,634
------------ ------------
Other long-term liabilities ................................................... 762,809 120,106
------------ ------------
Commitments and contingencies
Company-obligated preferred securities of subsidiary trusts ................... 372,500 172,500
------------ ------------
Minority interest in consolidated partnership ................................. 115,608 --
------------ ------------
Stockholders' equity:
Common stock, $0.01 par value; 300,000,000 and 150,000,000 shares
authorized at 2001 and 2000, respectively; issued 108,198,992
and 62,311,166 shares at 2001 and 2000, respectively ..................... 1,082 623
Additional paid-in capital ................................................. 3,468,550 1,249,127
Treasury stock, at cost; 4,001,683 and 1,472,698 shares
at 2001 and 2000, respectively ........................................... (149,616) (44,261)
Retained earnings .......................................................... 864,421 321,566
Accumulated other comprehensive income ..................................... 18,126 --
------------ ------------
Total stockholders' equity ............................................... 4,202,563 1,527,055
------------ ------------
Total liabilities and stockholders' equity ............................... $ 14,377,096 $ 4,307,704
============ ============
See Notes to Consolidated Financial Statements.
57
VALERO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)
YEAR ENDED DECEMBER 31,
--------------------------------------------
2001 2000 1999
------------ ------------ ------------
Operating revenues ......................................... $ 14,988,339 $ 14,671,087 $ 7,961,168
------------ ------------ ------------
Costs and expenses:
Cost of sales and operating expenses .................... 13,684,041 13,817,524 7,731,151
Selling and administrative expenses ..................... 165,215 130,506 68,463
Depreciation expense .................................... 137,740 112,078 89,525
------------ ------------ ------------
Total costs and expenses .............................. 13,986,996 14,060,108 7,889,139
------------ ------------ ------------
Operating income ........................................... 1,001,343 610,979 72,029
Other income (expense), net ................................ (4,613) 282 3,587
Interest and debt expense:
Incurred ................................................ (99,142) (83,678) (61,182)
Capitalized ............................................. 10,634 7,433 5,753
Distributions on preferred securities of subsidiary trust .. (13,369) (6,796) --
------------ ------------ ------------
Income before income tax expense ........................... 894,853 528,220 20,187
Income tax expense ......................................... 331,300 189,100 5,900
------------ ------------ ------------
Net income ................................................. $ 563,553 $ 339,120 $ 14,287
============ ============ ============
Earnings per share of common stock ......................... $ 9.28 $ 5.79 $ 0.25
Weighted average common shares outstanding
(in thousands) ........................................ 60,749 58,532 56,086
Earnings per share of common stock -
assuming dilution ....................................... $ 8.83 $ 5.60 $ 0.25
Weighted average common equivalent shares outstanding
(in thousands) ........................................ 63,803 60,525 56,758
Dividends per share of common stock ........................ $ 0.34 $ 0.32 $ 0.32
See Notes to Consolidated Financial Statements.
58
VALERO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(THOUSANDS OF DOLLARS)
RETAINED ACCUMULATED
NUMBER OF ADDITIONAL EARNINGS OTHER
COMMON COMMON PAID-IN (ACCUMULATED TREASURY COMPREHENSIVE
SHARES STOCK CAPITAL DEFICIT) STOCK INCOME
----------- ----------- ----------- ------------ ----------- -------------
BALANCE AS OF DECEMBER 31, 1998 ...... 56,314,798 $ 563 $ 1,112,726 $ (17,618) $ (10,384) $ --
Net income ........................ -- -- -- 14,287 -- --
Dividends on common stock ......... -- -- (17,931) -- -- --
Shares repurchased and shares
issued in connection with
employee stock plans and other .. 16,368 -- (2,447) -- 5,573 --
----------- ----------- ----------- ------------ ----------- -------------
BALANCE AS OF DECEMBER 31, 1999 ...... 56,331,166 563 1,092,348 (3,331) (4,811) --
Net income ........................ -- -- -- 339,120 -- --
Dividends on common stock ......... -- -- (4,469) (14,223) -- --
Proceeds from common stock
offering, net ................... 5,980,000 60 166,693 -- -- --
Shares repurchased and shares
issued in connection with
employee stock plans and other .. -- -- 339 -- (39,450) --
Issuance costs of PEPS Units ...... -- -- (5,784) -- -- --
----------- ----------- ----------- ------------ ----------- -------------
BALANCE AS OF DECEMBER 31, 2000 ...... 62,311,166 623 1,249,127 321,566 (44,261) --
Net income ........................ -- -- -- 563,553 -- --
Dividends on common stock ......... -- -- -- (20,698) -- --
Issuance of common stock in
connection with UDS
Acquisition ..................... 45,887,826 459 2,064,034 -- -- --
Fair value of replacement stock
options issued in connection
with UDS Acquisition ............ -- -- 120,075 -- -- --
Shares repurchased and shares
issued in connection with
employee stock plans and other .. -- -- 35,314 -- (105,355) --
Net gains on cash flow hedges ..... -- -- -- -- -- 18,126
----------- ----------- ----------- ------------ ----------- -------------
BALANCE AS OF DECEMBER 31, 2001 ...... 108,198,992 $ 1,082 $ 3,468,550 $ 864,421 $ (149,616) $ 18,126
=========== =========== =========== ============ =========== =============
See Notes to Consolidated Financial Statements.
59
VALERO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(THOUSANDS OF DOLLARS)
YEAR ENDED DECEMBER 31,
--------------------------------------------
2001 2000 1999
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ........................................................... $ 563,553 $ 339,120 $ 14,287
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation expense ............................................ 137,740 112,078 89,525
Amortization of deferred charges and other, net ................. 114,614 60,978 49,498
Changes in current assets and current liabilities ............... (152,842) 3,492 293,822
Deferred income tax expense (benefit) ........................... 270,700 103,100 (9,400)
Changes in deferred charges and credits and other, net .......... (28,251) (17,466) (2,621)
------------ ------------ ------------
Net cash provided by operating activities ..................... 905,514 601,302 435,111
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures .............................................. (393,561) (194,889) (100,594)
Deferred turnaround and catalyst costs ............................ (142,423) (107,495) (72,681)
UDS Acquisition, net of cash acquired ............................. (1,829,584) -- --
Advance to UDS in connection with UDS Acquisition ................. (703,057) -- --
Purchase of inventories in connection with El Paso Acquisition .... (108,779) -- --
Huntway Acquisition, net of cash acquired ......................... (75,782) -- --
Benicia Acquisition ............................................... -- (889,730) --
Earn-out payments in connection with acquisitions ................. (55,000) -- --
Proceeds from disposition of property, plant and equipment ........ 7,699 7 1,255
Investment in joint ventures and other, net ....................... (1,393) (1,880) (148)
------------ ------------ ------------
Net cash used in investing activities ......................... (3,301,880) (1,193,987) (172,168)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Financing required to fund cash portion of UDS Acquisition,
net of issuance costs ........................................... 2,052,553 -- --
Increase (decrease) in short-term debt, net ....................... 173,000 27,000 (160,000)
Long-term debt borrowings, net of issuance costs .................. 543,095 1,899,344 922,794
Long-term debt repayments ......................................... (18,500) (1,647,000) (961,000)
Proceeds from common stock offering, net .......................... -- 166,753 --
Issuance of common stock in connection
with employee benefit plans ..................................... 78,434 17,365 15,620
Proceeds from offering of preferred securities
of subsidiary trust, net ........................................ -- 166,716 --
Common stock dividends ............................................ (20,698) (18,692) (17,931)
Purchase of treasury stock ........................................ (156,677) (64,292) (13,538)
------------ ------------ ------------
Net cash provided by (used in) financing activities ........... 2,651,207 547,194 (214,055)
------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH AND
TEMPORARY CASH INVESTMENTS ........................................ 254,841 (45,491) 48,888
CASH AND TEMPORARY CASH INVESTMENTS AT BEGINNING OF YEAR ............. 14,596 60,087 11,199
------------ ------------ ------------
CASH AND TEMPORARY CASH INVESTMENTS AT END OF YEAR ................... $ 269,437 $ 14,596 $ 60,087
============ ============ ============
See Notes to Consolidated Financial Statements.
60
VALERO ENERGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(THOUSANDS OF DOLLARS)
YEAR ENDED DECEMBER 31,
-------------------------------------
2001 2000 1999
---------- ---------- ----------
Net income ................................................. $ 563,553 $ 339,120 $ 14,287
Other comprehensive income, net of
income tax expense (benefit):
Net gain on derivative instruments designated and
qualifying as cash flow hedges:
Statement No. 133 transition adjustment,
net of income tax expense of $15,240 ............. 28,304 -- --
Net loss arising during the period,
net of income tax benefit of $19,363 ............. (35,960) -- --
Net loss reclassified into income,
net of income tax benefit of $13,883 (including
$679 related to the Statement No. 133 transition
adjustment, net of tax of $441) .................. 25,782 -- --
---------- ---------- ----------
Net gains on cash flow hedges ........................... 18,126 -- --
---------- ---------- ----------
Comprehensive income ....................................... $ 581,679 $ 339,120 $ 14,287
========== ========== ==========
See Notes to Consolidated Financial Statements.
61
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION AND PRINCIPLES OF CONSOLIDATION
Valero Energy Corporation (Valero) is an independent refining and marketing
company. Prior to the acquisition of Ultramar Diamond Shamrock Corporation (UDS)
on December 31, 2001, discussed further below, Valero owned and operated six
refineries in Texas, California, Louisiana and New Jersey with a combined
throughput capacity of over one million barrels per day. Valero produces
premium, environmentally clean products such as reformulated gasoline, gasoline
meeting specifications of the California Air Resources Board (CARB), low-sulfur
diesel and oxygenates. Valero also produces distillates, jet fuel and
petrochemicals. Valero markets its products through an extensive wholesale bulk
and rack marketing network, and through branded retail and other distributor
retail locations.
During 2001, Valero completed the following acquisitions:
o June 1 - Huntway Refining Company, which owned and operated two California
asphalt refineries (Huntway Acquisition);
o June 1 - El Paso Corporation's Corpus Christi, Texas refinery and related
product logistics business (El Paso Acquisition);
o December 31 - UDS, an independent refining and marketing company, which
owned and operated seven refineries and marketed its products through
approximately 4,500 company-operated and dealer-operated convenience stores
(UDS Acquisition).
These acquisitions, as described in Note 2, were accounted for using the
purchase method.
These consolidated financial statements include the accounts of Valero and
subsidiaries in which Valero has a controlling interest. Investments in 50% or
less owned entities are accounted for using the equity method of accounting.
Intercompany balances and transactions have been eliminated in consolidation.
As used in this report, the term Valero may refer to Valero Energy Corporation,
one or more of its consolidated subsidiaries, or all of them taken as a whole.
USE OF ESTIMATES
The preparation of financial statements in conformity with United States
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from those
estimates. On an ongoing basis, management reviews their estimates based on
currently available information. Changes in facts and circumstances may result
in revised estimates.
62
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
CASH AND TEMPORARY CASH INVESTMENTS
Valero's temporary cash investments are highly liquid, low-risk debt instruments
which have a maturity of three months or less when acquired. Cash and temporary
cash investments exclude cash that is not available to Valero due to
restrictions related to its use. Such amounts are segregated in the Consolidated
Balance Sheets in "Restricted cash."
INVENTORIES
Inventories are carried at the lower of cost or market. The cost of refinery
feedstocks purchased for processing and produced products are determined under
the last-in, first-out (LIFO) method. Valero uses the dollar-value LIFO method
with any increments valued based on average purchase prices during the year. The
cost of feedstocks and products purchased for resale and the cost of materials,
supplies and convenience store merchandise are determined principally under the
weighted-average cost method.
PROPERTY, PLANT AND EQUIPMENT
Additions to property, plant and equipment, including capitalized interest and
certain costs allocable to construction and property purchases, are recorded at
cost.
The costs of minor property units (or components of property units), net of
salvage value, retired or abandoned are charged or credited to accumulated
depreciation under the composite method of depreciation. Gains or losses on
sales or other dispositions of major units of property are recorded in income.
Depreciation of property, plant and equipment, including amortization of assets
acquired under capital leases, is recorded primarily on a straight-line basis
over the estimated useful lives of the related facilities.
GOODWILL AND INTANGIBLE ASSETS
Goodwill represents the excess of cost (purchase price) over the fair value of
the net assets of businesses acquired. In accordance with Statement No. 142
issued by the Financial Accounting Standards Board (FASB), "Goodwill and Other
Intangible Assets," which will be effective for Valero's consolidated financial
statements commencing January 1, 2002, goodwill resulting from business
combinations completed after June 30, 2001 will not be amortized but instead
will be tested at least annually for impairment.
Intangible assets, which consist primarily of trade names, customer lists, air
emission credits, retail branding rights, royalties and licenses, and franchise
agreements, are recorded at cost and are amortized over their estimated useful
lives.
63
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DEFERRED CHARGES AND OTHER ASSETS
Refinery Turnaround Costs
Refinery turnaround costs which are incurred in connection with planned major
maintenance activities at Valero's refineries are deferred when incurred and
amortized on a straight-line basis over that period of time estimated to lapse
until the next turnaround occurs. The frequency of refinery turnarounds varies
with each operating unit; the weighted average amortization period for the
$134.6 million balance of deferred turnaround costs as of December 31, 2001 is
3.4 years. Refinery turnaround costs include, among other things, the cost to
repair, restore, refurbish or replace refinery equipment such as vessels, tanks,
reactors, piping, rotating equipment, instrumentation, electrical equipment,
heat exchangers and fired heaters.
Fixed-Bed Catalyst Costs
Fixed-bed catalyst costs represent the cost of catalyst that is not continually
regenerated, but is instead changed out at periodic intervals when the quality
of the catalyst has deteriorated to such an extent that the effectiveness of
that catalyst in performing its prescribed function has deteriorated. Fixed-bed
catalyst costs are deferred when incurred and amortized on a straight-line basis
over the estimated useful life of the specific catalyst, normally one to three
years depending on the catalyst and the operating unit in which it is utilized.
Equity Investments
Valero accounts for its interest in investments in 50% or less owned entities
using the equity method of accounting. Valero's equity investments include:
o a 20% interest in the Javelina off-gas processing plant in Corpus Christi,
Texas,
o a 50% interest in the Clear Lake, Texas methanol plant, and
o a 50% interest in the Skelly-Belvieu natural gas liquids pipeline, an equity
interest that was acquired as part of the UDS Acquisition.
Other Noncurrent Assets
Other noncurrent assets include prefunded benefit costs, debt issuance costs and
various other costs.
TAXES OTHER THAN INCOME TAXES
Taxes other than income taxes includes liabilities for ad valorem taxes, excise
taxes and payroll taxes.
INCOME TAXES
Income taxes are accounted for under the asset and liability method. Under this
method, deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred amounts are measured using enacted tax rates expected to apply
to taxable income in the year those temporary differences are expected to be
recovered or settled.
64
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
FOREIGN CURRENCY TRANSACTIONS
The functional currency of Valero's Canadian operations is the Canadian dollar.
The translation into U.S. dollars is performed for balance sheet accounts using
exchange rates in effect as of the balance sheet date and for revenue and
expense accounts using the weighted-average exchange rate during the year.
Adjustments resulting from this translation will be reported in other
comprehensive income.
REVENUE RECOGNITION
Revenues are recorded when title to products sold has been transferred or when
services have been provided.
PRODUCT SHIPPING AND HANDLING COSTS
Costs incurred for shipping and handling of products are included in "Cost of
sales and operating expenses" in the Consolidated Statements of Income.
IMPAIRMENT
Long-lived assets, including goodwill and intangible assets, are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount may not be recoverable. The evaluation of recoverability is
performed using undiscounted estimated net cash flows generated by the related
assets. If an asset is deemed to be impaired, the amount of impairment is
determined as the amount by which the carrying value exceeds discounted
estimated net cash flows. Effective January 1, 2002, Valero adopted Statement
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," as
described below in New Accounting Pronouncements.
ENVIRONMENTAL MATTERS
Liabilities for future remediation costs are recorded when environmental
assessments and/or remedial efforts are probable and the costs can be reasonably
estimated. Other than for assessments, the timing and magnitude of these
accruals are generally based on the completion of investigations or other
studies or a commitment to a formal plan of action. Environmental liabilities
are based on best estimates of probable undiscounted future costs using
currently available technology and applying current regulations, as well as
Valero's own internal environmental policies. The environmental liabilities have
not been reduced by possible recoveries from third parties.
PRICE RISK MANAGEMENT ACTIVITIES
Effective January 1, 2001, Valero adopted Statement of Financial Accounting
Standard No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended. Statement No. 133 establishes accounting and reporting
standards for derivative instruments and for hedging activities. It requires
that all derivative instruments be recorded in the balance sheet as either
assets or liabilities measured at their fair value. The Statement also requires
that changes in a derivative's fair value be recognized currently in income
unless specific hedge accounting criteria are met. Statement No. 133 allows
special hedge accounting for derivative
65
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
instruments designated and qualifying as a fair value hedge or a cash flow
hedge. Statement No. 133 provides that the gain or loss on a derivative
instrument designated and qualifying as a fair value hedge, as well as the
offsetting loss or gain on the hedged item attributable to the hedged risk, be
recognized currently in income in the same period. Statement No. 133 also
provides that the effective portion of the gain or loss on a derivative
instrument designated and qualifying as a cash flow hedge be reported outside
income as a component of other comprehensive income and be reclassified into
income in the same period or periods during which the hedged forecasted
transaction affects income. The remaining ineffective portion of the gain or
loss on the derivative instrument, if any, is recognized currently in income.
Statement No. 133 requires that a company formally document, designate, and
assess the effectiveness of transactions that receive hedge accounting.
Statement No. 133 is not to be applied retroactively to financial statements of
prior periods. The adoption of this Statement has not resulted in any
significant changes in Valero's business practices, including its hedging and
trading activities as described below; however, various systems modifications
have been required.
When Valero enters into a derivative instrument, the derivative is designated as
a fair value hedge, a cash flow hedge, an economic hedge or a trading
instrument. For those derivatives designated as fair value or cash flow hedges,
Valero formally documents the hedging relationship and its risk management
objective and strategy for undertaking the hedge.
Valero accounts for its hedging relationships designated and qualifying as fair
value hedges or cash flow hedges in accordance with the requirements of
Statement No. 133. For Valero's economic hedging relationships (hedges not
designated as fair value or cash flow hedges) and for derivative commodity
instruments entered into by Valero for trading purposes, the derivative
instrument is recorded at fair value and the gain or loss on the derivative
instrument is recognized currently in income.
Valero discontinues hedge accounting prospectively if (i) it is determined that
the derivative is no longer highly effective in offsetting changes in fair value
or cash flows attributable to the hedged risk, (ii) the derivative expires or is
sold, terminated, or exercised, or (iii) the derivative is no longer designated
as a hedging instrument. In any of these circumstances, Valero may designate
prospectively a new hedging relationship with a new hedging instrument or, in
the case of (i) or (iii), a different hedged item or hedged transaction.
When a cash flow hedge is discontinued, Valero continues to report the related
net derivative gain or loss in accumulated other comprehensive income until the
hedged forecasted transaction affects income, at which time the net derivative
gain or loss is reclassified into income. However, if it is probable that the
forecasted transaction will not occur either by the end of the originally
specified time period or within two months thereafter, Valero reclassifies the
related derivative gain or loss from accumulated other comprehensive income into
income immediately.
66
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of Valero's financial instruments approximate fair value,
except for certain long-term debt. See Note 10.
LEGAL FEES
Legal fees are expensed as incurred.
STOCK-BASED COMPENSATION
Valero accounts for its employee stock compensation plans using the intrinsic
value method of accounting set forth in Accounting Principles Board (APB)
Opinion No. 25, "Accounting for Stock Issued to Employees," and related
interpretations. Accordingly, compensation cost for stock options is measured as
the excess, if any, of the quoted market price of Valero's common stock at the
date of the grant over the amount an employee must pay to acquire the stock.
EARNINGS PER SHARE
Earnings per share of common stock is computed by dividing net income by the
weighted-average number of common shares outstanding for the year. Earnings per
share of common stock - assuming dilution reflects the potential dilution of
Valero's outstanding stock options and performance awards granted to employees
in connection with Valero's stock compensation plans.
FRANCHISE AGREEMENTS
In connection with the Benicia Acquisition described in Note 2, as a result of
ExxonMobil's requirement to withdraw the "Exxon" brand name from the San
Francisco Bay area and terminate the franchise right of dealers in this market
area to market Exxon-branded products, Valero introduced its own brand of retail
petroleum products in the San Francisco Bay area and entered into franchise
agreements with these dealers providing them the right to market products under
the new Valero brand. The activities under these franchise agreements consist of
petroleum product sales to these dealers through supply agreements that require
them to purchase petroleum products exclusively from Valero. Revenue from these
petroleum product sales is recorded when title transfers in accordance with
Valero's revenue recognition policy described above. Under the dealer supply
agreements, no initial franchise fees or continuing franchise fees are charged
and petroleum product sales are made at market prices. Recurring general,
selling and administrative costs related to these activities that are incurred
irrespective of the level of sales are expensed as incurred, while direct,
incremental costs incurred that are dependent on the level of sales are deferred
and recognized when the related revenue is recognized.
COMPREHENSIVE INCOME
Comprehensive income consists of net income and other gains and losses affecting
stockholders' equity that, under United States generally accepted accounting
principles, are excluded from net income, such as foreign
67
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
currency translation adjustments, minimum pension liability adjustments,
unrealized gains and losses on certain investments in debt and equity
securities, and gains and losses related to certain derivative instruments.
BUSINESS COMBINATIONS
Effective July 1, 2001, Valero adopted Statement No. 141, "Business
Combinations." All business combinations in the scope of Statement No. 141 are
to be accounted for using the purchase method. The provisions of Statement No.
141 apply to all business combinations initiated after June 30, 2001 and apply
to all business combinations accounted for using the purchase method for which
the date of acquisition is July 1, 2001 or later. As described in Note 2, the
UDS Acquisition was accounted for using the purchase method.
RECLASSIFICATIONS
Certain previously reported amounts have been reclassified to conform to the
2001 presentation.
NEW ACCOUNTING PRONOUNCEMENTS
FASB STATEMENT NO. 144
In August 2001, the FASB issued Statement No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." Statement No. 144, which
supersedes Statement No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of" and the accounting and
reporting provisions of APB Opinion No. 30, "Reporting the Results of
Operations--Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions,"
establishes accounting standards for the impairment and disposal of long-lived
assets and criteria for determining when a long-lived asset is held for sale.
Statement No. 144 removes the requirement to allocate goodwill to long-lived
assets to be tested for impairment, requires that the depreciable life of a
long-lived asset to be abandoned be revised in accordance with APB Opinion No.
20, "Accounting Changes," provides that one accounting model be used for
long-lived assets to be disposed of by sale, whether previously held and used or
newly acquired, and broadens the presentation of discontinued operations to
include more disposal transactions. Statement No. 144 will be effective for
financial statements beginning January 1, 2002, with earlier application
encouraged. Valero does not expect the adoption of this statement to have a
material impact on its consolidated financial statements.
FASB STATEMENT NO. 143
In June 2001, the FASB issued Statement No. 143, "Accounting for Asset
Retirement Obligations." Statement No. 143 requires entities to record the fair
value of a liability for an asset retirement obligation when an existing law or
contract requires that the obligation be settled. The statement requires that
the amount recorded as a liability be capitalized by increasing the carrying
amount of the related long-lived asset. Subsequent to initial measurement, the
liability is accreted to the ultimate amount anticipated to be paid, and is also
adjusted for revisions to the timing or amount of estimated cash flows. The
capitalized cost is depreciated over the useful life of the related asset. Upon
settlement of the liability, an entity either settles the obligation for its
68
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
recorded amount or incurs a gain or loss upon settlement. Statement No. 143 will
be effective for financial statements beginning January 1, 2003, with earlier
application encouraged. Valero is currently evaluating the impact on its
consolidated financial statements of adopting this statement.
FASB STATEMENT NO. 142
In June 2001, the FASB issued Statement No. 142, "Goodwill and Other Intangible
Assets." This statement, which supersedes APB Opinion No. 17, "Intangible
Assets," provides that goodwill and other intangible assets that have indefinite
useful lives will not be amortized but instead will be tested at least annually
for impairment. Intangible assets that have finite useful lives will continue to
be amortized over their useful lives, but such lives will not be limited to 40
years. Statement No. 142 provides specific guidance for testing goodwill and
other nonamortized intangible assets for impairment. Additionally, the statement
requires certain disclosures about goodwill and other intangible assets
subsequent to their acquisition, including changes in the carrying amount of
goodwill from period to period, the carrying amount of intangible assets by
major intangible asset class for those assets subject to amortization and for
those not subject to amortization, and the estimated intangible asset
amortization expense for the next five years. The provisions of this statement
must be applied in Valero's consolidated financial statements beginning January
1, 2002, except that any goodwill and other intangible assets acquired after
June 30, 2001 will be subject immediately to the amortization provisions of this
statement. Valero did not have goodwill prior to July 1, 2001 but did have
finite-lived intangible assets that will continue to be amortized and are
subject to this statement beginning January 1, 2002. Goodwill and other
intangible assets acquired in connection with the UDS Acquisition will be
accounted for in accordance with the provisions of this statement.
2. ACQUISITIONS
ULTRAMAR DIAMOND SHAMROCK CORPORATION
On December 31, 2001, Valero completed its acquisition of UDS. Under the terms
of the merger agreement, each outstanding share of UDS common stock, with
limited exceptions, was converted into the right to receive cash, Valero common
stock, or a combination of cash and Valero common stock at the shareholder's
election but subject to proration. Based on the exchange election results,
shareholders electing Valero common stock received, for each share of UDS common
stock, approximately 0.9265 shares of Valero common stock and $16.32 in cash.
Shareholders electing cash and non-electing shareholders received $49.47 in cash
for each UDS share. The average closing price of Valero common stock for the
10-day measurement period specified in the merger agreement was $35.78. As a
result, Valero issued 45,887,826 shares of Valero common stock and paid $2.1
billion of cash to UDS shareholders.
UDS was an independent refiner and retailer of refined products and convenience
store merchandise in the central, southwest and northeast regions of the United
States and eastern Canada. UDS owned and operated seven refineries in Texas (2),
California (2), Oklahoma, Colorado, and Quebec, Canada, with a combined
69
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
throughput capacity of approximately 850,000 barrels per day. UDS marketed
refined products and a broad range of convenience store merchandise through a
network of approximately 4,500 convenience stores under the Diamond Shamrock(R),
Ultramar(R), Beacon(R) and Total(R) brand names. UDS's operations, primarily in
Canada, also included the marketing of refined products through 86 cardlocks,
which are card- or key-activated, self-service, unattended stations that allow
commercial, trucking and governmental fleets to buy gasoline and diesel fuel 24
hours a day, and a retail home heating oil business that sells heating oil to
approximately 250,000 households. As a condition for the regulatory approval of
the acquisition, the Federal Trade Commission's (FTC) consent degree requires
Valero to divest the 168,000 barrel-per-day Golden Eagle Refinery located in the
San Francisco Bay Area, the related wholesale marketing business, and 70
associated Beacon- and Ultramar-branded convenience stores located throughout
Northern California. See Note 3.
Reasons for UDS Acquisition
Valero's management believes that the UDS Acquisition provides a favorable
balance between refining and retail assets and provides to Valero the scale and
financial flexibility to pursue opportunities for continued profitable growth.
Valero's management believes the acquisition will result in Valero becoming a
stronger competitor in the domestic refining and marketing business, and expects
that Valero's financial performance will benefit from potential synergies,
subject to its ability to integrate the two companies successfully. However, the
financial results of the combined company will still remain influenced by
refining and retail margins which are volatile.
Financing of UDS Acquisition
Valero financed the $2.1 billion cash portion of the UDS Acquisition with
proceeds from a $1.5 billion bridge loan facility and borrowings under two new
$750 million revolving bank credit facilities. Valero finalized both the bridge
loan facility and the two revolving bank credit facilities prior to completing
the acquisition, with borrowings under these facilities made on January 7, 2002.
As of December 31, 2001, the cash consideration was recorded as a "Payable to
UDS shareholders" in the Consolidated Balance Sheet.
The bridge loan facility has a one-year maturity at variable interest rates.
Valero expects to repay the bridge loan facility with a combination of proceeds
from the disposition of certain assets, as described in Notes 3 and 27, proceeds
from capital market issuances of debt securities and cash flows from operations.
The two revolving bank credit facilities provide for commitments of $750 million
for a five-year term and $750 million for a 364-day term and, subject to the
commitment amounts and terms, provide for borrowings thereunder to be made at
various amounts, maturities and interest rates, at the option of Valero. See
Note 10 for additional details.
On December 31, 2001, prior to the closing of the UDS Acquisition, UDS ceased
borrowing under its commercial paper program that had previously been used to
fund certain of its ongoing operations. As a result, Valero borrowed $703
million under its revolving bank credit facilities and uncommitted short-term
bank lines
70
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
and loaned that amount to UDS for its use in repaying all amounts outstanding
under the commercial paper program. Since the transaction occurred prior to the
closing of the UDS Acquisition, the funds borrowed are included in financing
activities and the loan to UDS is reflected as "Advance to UDS in connection
with UDS Acquisition" in the Consolidated Statement of Cash Flows.
HUNTWAY REFINING COMPANY
Effective June 1, 2001, Valero completed the acquisition of Huntway Refining
Company, a leading supplier of asphalt in California. Huntway owned and operated
two California refineries at Benicia and Wilmington, which primarily process
California crude oil to produce liquid asphalt for use in road construction and
repair, primarily in California and Nevada, as well as smaller amounts of gas
oil, naphtha, kerosene, distillate and bunker fuels. The purchase price, net of
Huntway's cash balance on the date of acquisition, was approximately $76 million
and included payment to Huntway's common stockholders of $1.90 per share, as
well as amounts required to retire Huntway's outstanding debt and satisfy
payment obligations under outstanding stock options.
EL PASO REFINERY AND RELATED PRODUCT LOGISTICS BUSINESS
Effective June 1, 2001, Valero completed the acquisition of El Paso
Corporation's Corpus Christi, Texas refinery and related product logistics
business through lease agreements entered into with certain wholly owned
subsidiaries of El Paso. The lease agreements, which are accounted for as
capital leases, are for a term of 20 years and require Valero to make annual
lease payments of $18.5 million for each of the first two years and increased
amounts thereafter. Valero has an option to purchase the facilities for
approximately $294 million at the end of the second year of the lease, and for
increasing amounts in each succeeding year through the end of the lease term.
The El Paso Corpus Christi refinery, which is located near Valero's existing
Corpus Christi refinery, is a highly complex refinery capable of processing
approximately 110,000 barrels per day of heavy, high-sulfur crude oil.
Approximately 70% of the refinery's production is light products, including
conventional gasoline, diesel fuel, jet fuel, petrochemicals, propane, butane
and light naphthas. In addition, the refinery produces multiple grades of
asphalt and petroleum coke. The product logistics facilities consist of three
intrastate common carrier refined product pipelines and related terminal
facilities that enable refined products to be shipped from Corpus Christi to
markets in Houston, San Antonio, Victoria, and the Rio Grande Valley.
As part of the acquisition, Valero also purchased inventories for approximately
$109 million and assumed certain environmental liabilities, which are included
in "Other long-term liabilities" in the Consolidated Balance Sheet. The
inventories were purchased with available cash and the property, plant and
equipment, net of assumed liabilities, were acquired through capital lease
obligations of approximately $286 million. As of December 31, 2001, the capital
lease assets were $318.7 million, net of accumulated amortization of $6.0
million.
71
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
PURCHASE PRICE ALLOCATIONS FOR ACQUISITIONS IN 2001
The UDS, Huntway and El Paso Acquisitions were accounted for using the purchase
method. The purchase price for each acquisition was allocated based on the
estimated fair values of the individual assets and liabilities at the date of
acquisition pending the completion of independent appraisals and other
evaluations. The excess of purchase price over the fair values of the net assets
acquired is recorded as goodwill. The operating results of the Huntway and El
Paso Acquisitions were included in the Consolidated Statement of Income
beginning June 1, 2001. The operating results of UDS will be included in the
Consolidated Statement of Income beginning January 1, 2002.
As of December 31, 2001, the preliminary purchase price allocations, including
transaction costs incurred for the acquisitions, were as follows (in thousands):
UDS HUNTWAY EL PASO
----------- ----------- -----------
Current assets, excluding assets held for sale ... $ 1,553,417 $ 34,102 $ 108,779
Assets held for sale ............................. 1,303,637 -- --
Property, plant and equipment .................... 3,873,605 57,776 324,665
Goodwill ......................................... 2,210,473 -- --
Intangible assets ................................ 257,059 -- --
Deferred charges and other assets ................ 100,010 263 --
Current liabilities, less current portion
of long-term debt and advance from Valero ..... (1,360,902) (12,021) (1,234)
Advance from Valero .............................. (703,057) -- --
Long-term debt assumed, including current
portion ....................................... (1,256,817) -- --
Capital lease obligations ........................ -- -- (285,500)
Deferred income tax liabilities .................. (805,610) (1,088) --
Other long-term liabilities ...................... (578,536) (1,090) (37,931)
Minority interest in consolidated
partnership .................................... (115,608) -- --
Company-obligated preferred stock
of subsidiary trust ........................... (200,000) -- --
----------- ----------- -----------
Total purchase price .......................... 4,277,671 77,942 108,779
Less unrestricted cash acquired .................. (262,154) (2,160) --
----------- ----------- -----------
Purchase price, excluding unrestricted
cash acquired ............................... $ 4,015,517 $ 75,782 $ 108,779
=========== =========== ===========
BENICIA ACQUISITION
During the second quarter of 2000, Valero completed the acquisition of certain
assets from ExxonMobil in the State of California. The assets and related
operations acquired by Valero are referred to as the Benicia Acquisition and
included:
o the 165,000 barrel-per-day Benicia refinery located in the San Francisco
Bay area and all tangible assets used in the operations of the refinery
(Benicia Refinery);
o 80 Exxon-branded California retail service stations (Service Stations); and
o branded supplier relationships with over 260 Exxon-branded service stations
(Distribution Assets).
72
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The purchase price for the Benicia Acquisition was $895 million, plus
approximately $150 million for refinery inventories acquired in the transaction
(based on market prices at the time of closing) and certain costs incurred in
connection with the acquisition. The Benicia Acquisition was funded through a
$400 million senior notes offering, a $172.5 million offering of premium equity
participating security units (PEPS Units), a common stock offering totaling
approximately $174.2 million and borrowings under Valero's existing bank credit
facilities. See Notes 10, 13 and 14 for details regarding the senior notes, PEPS
Units, and common stock offerings, respectively. In addition, Valero entered
into a $155 million structured lease arrangement for the Service Stations and
the Benicia Refinery's dock facility. See Note 23.
The Service Stations included 10 company-operated service stations and
approximately 70 dealer-operated service stations subleased from Valero, all of
which are located in the San Francisco Bay area and have been rebranded to the
Valero brand. In July 2000, the dealers were offered an option to purchase at
fair value the service stations that they were leasing and enter into a new
fuels purchase agreement with Valero for a term of 15 years. In connection with
this option, these dealers purchased 49 service stations during 2001; there were
no service stations purchased during 2000. As a result, the value attributable
to the Service Stations was reduced by $72 million.
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, and agreed to indemnify Valero for:
o penalties assessed for violations relating to the Benicia Refinery which were
pending at the closing of the Benicia Acquisition,
o lawsuits pending at closing,
o personal injury or exposure, including asbestos exposure, suffered by
ExxonMobil employees, contractors or subcontractors prior to closing,
o all costs associated with compliance with a variance issued in connection
with control of nitrogen oxides,
o claims in 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,
o the capital costs incurred within five years of closing for specified
corrective action of groundwater and soil contamination,
o all covered contamination at the Service Stations caused by ExxonMobil or its
lessees that is reflected in baseline reports prepared prior to closing
(provided that the indemnity for covered contamination is for five years),
o the repair or replacement of any underground storage tanks at the Service
Stations found to be leaking prior to closing, and
o fines and penalties imposed within five years of closing arising out of a
request for information from the EPA 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.
73
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Benicia Acquisition was accounted for using the purchase method. The
Consolidated Statements of Income include 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 Stations beginning June 16, 2000.
During the year following the Benicia Acquisition, independent appraisals and
other evaluations were completed and the final purchase price allocation was as
follows (in thousands):
Current assets....................................... $ 186,471
Property, plant and equipment........................ 688,605
Intangible assets.................................... 35,000
Deferred charges and other assets.................... 3,705
Current liabilities.................................. (7,876)
Other long-term liabilities.......................... (16,175)
---------
Final purchase price.............................. $ 889,730
=========
PRO FORMA FINANCIAL INFORMATION
The following unaudited pro forma financial information assumes that the UDS,
Huntway and El Paso Acquisitions occurred at the beginning of 2001 and 2000, and
that the Benicia Acquisition and the senior notes, PEPS Units and common stock
offerings occurred at the beginning of 2000 and 1999. The effect of the UDS
Acquisition included in this pro forma financial information assumes the Golden
Eagle Business, as described and defined in Note 3, was sold as of the beginning
of 2001 and 2000, approximately $625 million of proceeds were used to pay down
debt and approximately $500 million of proceeds were used to repurchase 11.1
million shares of common stock at $44.99 per share. This pro forma information
is not necessarily indicative of the results of future operations (dollars in
thousands, except per share amounts).
YEAR ENDED DECEMBER 31,
------------------------------------------
2001 2000 1999
------------ ------------ -----------
Operating revenues....................... $ 27,186,064 $ 29,816,574 $ 9,312,743
Operating income......................... 1,868,707 1,408,768 221,519
Net income............................... 961,483 668,656 70,963
Earnings per share of common stock....... 10.07 6.94 1.14
Earnings per share of common stock
- assuming dilution................... 9.61 6.78 1.13
CONTINGENT EARN-OUT AGREEMENTS
In connection with Valero's acquisition of the Paulsboro Refinery in September
1998, Mobil (now ExxonMobil) is entitled to receive payments in any of the five
years following the acquisition if certain average refining margins during any
of these years exceed a specified level. Any payments due under this earn-out
arrangement, which are determined in September of each year beginning in 1999,
are limited to $20 million
74
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
in any year and $50 million in the aggregate. No earn-out payments were due for
the years ended September 16, 1999 and 2000, and an earn-out amount of $20
million was paid for the year ended September 16, 2001.
Also, in connection with Valero's acquisition of Basis Petroleum, Inc. from
Salomon Inc in May 1997, Salomon is entitled to receive payments in any of the
ten years following the acquisition if certain average refining margins during
the ten-year period exceed a specified level. Any payments due under this
earn-out arrangement, which are determined as of May 1 of each year, are limited
to $35 million in any year and $200 million in the aggregate. No earn-out
amounts were due for the years ended May 1, 1999 and 2000, and the earn-out
amount for the year ended May 1, 2001 was $35 million. Aggregate earn-out
payments through December 31, 2001 totaled $45.3 million.
Valero accounts for any payments under these arrangements as an additional cost
of the respective acquisition, which has been attributed to property, plant and
equipment and is being depreciated over the remaining lives of the assets to
which the additional cost is allocated.
3. ASSETS HELD FOR SALE
Assets held for sale include the amounts expected to be realized from the
dispositions of:
o the Golden Eagle Business, based on the sale to Tesoro Refining and
Marketing Company (Tesoro) discussed in Note 27 and expected cash flows
from operations of the Golden Eagle Business from January 1, 2002 through
the anticipated date of sale. Results of operations for the Golden Eagle
Business beginning January 1, 2002 will be excluded from Valero's results
of operations.
o the operating assets of Diamond-Koch, L.P., also discussed in Note 27.
Income (loss) from Valero's equity investment in Diamond-Koch beginning
January 1, 2002 will be excluded from Valero's results of operations.
Assets held for sale is comprised of the following (dollars in thousands):
Golden Eagle Business................................ $ 1,021,887
Diamond-Koch......................................... 281,750
-----------
Assets held for sale.............................. $ 1,303,637
===========
GOLDEN EAGLE BUSINESS
In conjunction with the UDS Acquisition, the FTC approved a consent decree
requiring divestiture of certain UDS assets. Similar decrees were finalized with
the state of Oregon and California. Pursuant to the consent decrees, the assets
to be divested were required to be held separate from other Valero operations,
with the
75
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
future operations of those assets overseen by an independent trustee approved by
the FTC. These assets and their related operations are referred to as the Golden
Eagle Business and include:
o the 168,000 barrel-per-day Golden Eagle Refinery located in the San Francisco
Bay area and all tangible assets used in the operation of the refinery
including docks, tanks and pipelines;
o the wholesale marketing business generally associated with the Golden Eagle
Refinery production, which includes primarily sales to unbranded customers
located in the northern half of California and Reno, Nevada; and
o 70 Beacon- and Ultramar-branded convenience stores located in Northern
California, including land, buildings, pump equipment, underground storage
tanks and various store equipment.
DIAMOND-KOCH
In the latter part of 2001, Koch Industries, Inc. and UDS, both 50% partners in
the Diamond-Koch, L.P. joint venture, decided to sell the four operating assets
of Diamond-Koch and began soliciting bids from interested parties. The four
operating assets include the following:
o propane / propylene splitter facility and related distribution pipeline and
terminal;
o hydrocarbon storage facilities;
o natural gas liquids fractionator facility; and
o natural gas liquids gathering and pipeline system.
See Note 27 for a discussion of the sale of certain of these Diamond-Koch assets
in 2002.
4. RESTRICTED CASH
Restricted cash includes cash held in trust related to change-in-control
payments to be made to UDS officers and key employees in connection with the UDS
Acquisition, and cash restricted for use for environmental remediation costs
related to the Alma Refinery that was shut down by UDS in 1999.
5. RECEIVABLES
Receivables consisted of the following (in thousands):
DECEMBER 31,
--------------------------
2001 2000
--------- ---------
Accounts receivable..................... $ 720,812 $ 579,600
Notes receivable........................ 66,862 --
Other................................... 9,270 11,904
--------- ---------
796,944 591,504
Allowance for doubtful accounts......... (11,339) (5,612)
--------- ---------
Receivables, net..................... $ 785,605 $ 585,892
========= =========
76
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The changes in allowance for doubtful accounts consisted of the following (in
thousands):
YEAR ENDED DECEMBER 31,
--------------------------------
2001 2000 1999
-------- -------- --------
Balance at beginning of year ................. $ 5,612 $ 3,038 $ 1,150
Provision charged to expense ............... 2,040 2,920 2,000
Huntway Acquisition ........................ 615 -- --
UDS Acquisition ............................ 3,399 -- --
Accounts written off, net of recoveries .... (327) (346) (112)
-------- -------- --------
Balance at end of year ....................... $ 11,339 $ 5,612 $ 3,038
======== ======== ========
In September 1999, Valero entered into a revolving accounts receivable sales
facility with a third party financial institution (Transferee) to sell, on a
revolving basis, up to $100 million of an undivided percentage ownership
interest in a designated pool of trade accounts receivable. At the inception of
the facility in 1999, proceeds of $100 million were received under this program
which were used to reduce indebtedness under Valero's bank credit facilities.
Under the facility, which matures in September of 2002, Valero retains the
residual interest in the designated pool of receivables. This retained interest,
which is included in "Receivables, net" in the Consolidated Balance Sheets, is
recorded at fair value. Due to (i) a short average collection cycle for such
receivables of less than one month, (ii) Valero's collection experience history,
and (iii) the composition of the designated pool of trade accounts receivable
that are part of this program, the fair value of Valero's retained interest
approximates the total amount of the designated pool of accounts receivable
reduced by the amount of accounts receivable sold to the Transferee under the
program.
Under this revolving accounts receivable sales facility, the Transferee has no
recourse to any other assets of Valero. Valero remains responsible for servicing
the transferred accounts receivable and pays certain fees to the Transferee
related to its sale of accounts receivable under this program. The costs
incurred by Valero related to this program, which are included in "Other income
(expense), net" in the Consolidated Statements of Income, were $2.3 million,
$6.8 million and $1.6 million for the years ended December 31, 2001, 2000 and
1999, respectively. Proceeds from collections under this revolving accounts
receivable sales facility of $1.8 billion and $2.9 billion were reinvested in
the program by the Transferee for the years ended December 31, 2001 and 2000,
respectively. However, the Transferee's interest in Valero's accounts receivable
was never in excess of $100 million at any time under this program. No accounts
receivable included in this program were written off during 2001, 2000 or 1999.
As of December 31, 2001 and 2000, $178 million and $238 million, respectively,
of Valero's accounts receivable comprised the designated pool of trade accounts
receivable included in this program. Of these amounts, $100 million had been
sold to the Transferee and the remaining amount was retained by Valero.
77
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In connection with the UDS Acquisition, Valero assumed a $360 million revolving
accounts receivable sales facility, whereby Valero can sell, on an ongoing
basis, eligible credit card and trade accounts receivable through a wholly owned
subsidiary to a third party financial institution. Valero's retained interest in
accounts receivable sold to the third party financial institution is included in
"Receivables, net" in the Consolidated Balance Sheet as of December 31, 2001 and
is recorded at fair value. Due to (i) a short average collection cycle for such
accounts receivable of less than three months, (ii) collection experience
history, and (iii) the composition of the designated pool of credit card and
trade accounts receivable that are part of this program, the fair value of
Valero's retained interest in these accounts receivable approximates the
eligible accounts receivable sold to the wholly owned subsidiary less the amount
of accounts receivable sold to the third party financial institution. As of
December 31, 2001, the amount of eligible accounts receivable sold to the
financial institution under this program was $273 million, against which a
reserve for bad debts of $12.0 million was recorded in "Accrued expenses" in the
Consolidated Balance Sheets. This facility matures in December 2002.
6. INVENTORIES
Inventories consisted of the following (in thousands):
DECEMBER 31,
----------------------------
2001 2000
----------- ----------
Refinery feedstocks.................................. $ 513,370 $ 142,522
Refined products and blendstocks..................... 727,836 332,441
Convenience store merchandise........................ 87,873 212
Materials and supplies............................... 124,027 64,707
----------- ----------
Inventories....................................... $ 1,453,106 $ 539,882
=========== ==========
Refinery feedstock and refined product and blendstock inventory volumes totaled
57.0 million barrels and 21.7 million barrels as of December 31, 2001 and 2000,
respectively. The increase was primarily attributable to inventories acquired in
connection with the UDS Acquisition.
In determining the carrying value of Valero's inventories as of December 31,
2001, Valero recognized a net reduction in "Cost of sales and operating
expenses" of $8.8 million resulting from the effect of the valuation of
inventories acquired in the UDS Acquisition. This reduction in "Cost of sales
and operating expenses" was attributable to:
o a $101.4 million reduction in cost of sales due to the valuation of the
2001 LIFO inventory increment, resulting primarily from the December 31,
2001 UDS Acquisition, under Valero's pricing methodology of average
purchase prices during the year (which were significantly in excess of the
December 31, 2001 prices at which the UDS inventories were acquired), and
o a $92.6 million increase in cost of sales resulting from the write-down of
LIFO inventories to market value as of December 31, 2001.
78
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
As a result of the inventory write-down, the replacement cost of LIFO
inventories approximates its carrying value as of December 31, 2001.
7. PROPERTY, PLANT AND EQUIPMENT
Major classes of property, plant and equipment, which includes capital lease
assets, consisted of the following (in thousands):
DECEMBER 31,
-----------------------
2001 2000
---------- ----------
Land ................................ $ 453,516 $ 39,460
Crude oil processing facilities ..... 5,469,942 2,926,263
Butane processing facilities ........ 243,686 243,686
Pipeline and terminal facilities .... 605,065 1,500
Retail facilities ................... 573,942 5,312
Other ............................... 325,226 106,451
Construction in progress ............ 526,464 158,445
---------- ----------
Property, plant and equipment .... $8,197,841 $3,481,117
========== ==========
A summary of the principal rates used in computing the annual provision for
depreciation and amortization, primarily utilizing the composite method and
including estimated salvage values, is as follows:
WEIGHTED
RANGE AVERAGE
----------- --------
Crude oil processing facilities...................... 3.2% - 5.1% 3.5%
Butane processing facilities......................... 3.3% 3.3%
Pipeline and terminal facilities..................... 2.7% - 3.6% 2.7%
Retail facilities.................................... 6.0% - 30.0% 8.8%
Other................................................ 2.3% - 50.0% 17.7%
79
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
8. INTANGIBLE ASSETS AND GOODWILL
Intangible assets consisted of the following (in thousands):
WEIGHTED
AVERAGE
REMAINING
AMORTIZATION
(YEARS) DECEMBER 31,
----- -----------------------
2001 2000
--------- --------
Intangible assets subject to amortization:
Customer lists.................................... 15 $ 90,000 $ --
Air emission credits.............................. 11 50,000 --
Retail branding rights............................ 8.3 35,000 35,000
Pension benefits.................................. 13 32,784 --
Royalties and licenses............................ 16.4 32,310 31,740
Franchise agreements.............................. 14.4 23,672 --
Trade names -- U.S. retail operations............. 7 17,820 --
Non-compete agreements............................ 3.8 394 --
Franchise licenses................................ 8.0 355 --
--------- --------
Intangibles subject to amortization............. 282,335 66,740
Intangible assets not subject to amortization:
Trade name -- Canadian retail operations.......... 97,920 --
--------- --------
Total intangible assets.............................. 380,255 66,740
Accumulated amortization............................. (13,553) (7,599)
--------- --------
Intangible assets, net........................ $ 366,702 $ 59,141
========= ========
In connection with the Benicia Acquisition, Valero 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. The value assigned to this right was
$35 million and is being amortized over the ten-year term of the rights
agreement.
The trade names, customer lists, air emission credits, non-compete agreements,
and franchise licenses, were acquired on December 31, 2001 in the UDS
Acquisition; therefore, no amortization expense was incurred for these
intangible assets in the Consolidated Statement of Income for the year ended
December 31, 2001.
80
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Amortization expense on intangible assets held prior to the UDS Acquisition was
as follows (in thousands):
YEAR ENDED DECEMBER 31,
-----------------------
2001 2000
------ ------
Retail branding rights............................... $3,530 $2,056
Royalties and licenses............................... 1,523 1,482
Franchise agreements................................. 901 --
As of December 31, 2001, goodwill consisted of $2.2 billion resulting from the
UDS Acquisition, based on the preliminary purchase price allocation, none of
which will be deductible for tax purposes. No goodwill was recorded as of
December 31, 2000. Since the UDS Acquisition occurred on December 31, 2001 and
the independent appraisals have not been completed, goodwill by reportable
segments is not currently available.
9. ACCRUED EXPENSES
Accrued expenses consisted of the following (in thousands):
DECEMBER 31,
-------------------
2001 2000
-------- --------
Accrued employee benefit costs .... $147,607 $ 47,044
Change-in-control benefits ........ 60,793 --
Accrued interest expense .......... 42,364 11,204
Accrued environmental costs ....... 33,563 1,409
Accrued acquisition costs ......... 26,164 --
Derivative liabilities ............ 20,580 --
Other ............................. 82,831 44,816
-------- --------
Accrued expenses ............. $413,902 $104,473
======== ========
81
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. DEBT
Long-term debt balances, at stated values, consisted of the following (in
thousands):
DECEMBER 31,
-------------------------
MATURITY 2001 2000
-------- ----------- -----------
Industrial revenue bonds:
Tax-exempt Revenue Refunding Bonds:
Series 1997A, 5.45% ...................... 2027 $ 24,400 $ 24,400
Series 1997B, 5.40% ...................... 2018 32,800 32,800
Series 1997C, 5.40% ...................... 2018 32,800 32,800
Series 1997D, 5.13% ...................... 2009 8,500 8,500
Tax-exempt Waste Disposal Revenue Bonds:
Series 1997, 5.6% ........................ 2031 25,000 25,000
Series 1998, 5.6% ........................ 2032 25,000 25,000
Series 1999, 5.7% ........................ 2032 25,000 25,000
Series 2001, 6.65% ....................... 2032 18,500 --
Taxable Waste Disposal Revenue Bonds,
Series 1998, 6.75% at December 31, 2000 .. -- -- 18,500
6 3/4% notes (callable or putable
December 15, 2002) ......................... 2032 150,000 150,000
7 3/8% notes .................................. 2006 300,000 300,000
8 3/8% notes .................................. 2005 200,000 200,000
8 3/4% notes ................................. 2030 200,000 200,000
8.625% Guaranteed Notes ....................... 2002 275,000 --
Medium-term Notes:
7.4% (average rate) ........................ 2005 46,000 --
8.0% ....................................... 2005 150,000 --
8.5% (average rate) ........................ 2003 24,000 --
Debentures:
7.25% (non-callable) ....................... 2010 25,000 --
7.65% (putable July 1, 2006) ............... 2026 100,000 --
8.00% (callable April 1, 2003) ............. 2023 100,000 --
8.75% (non-callable) ....................... 2015 75,000 --
Senior Notes:
6.75% (putable October 15, 2009; ........... 2037 100,000 --
callable thereafter)
7.20% (callable) ........................... 2017 200,000 --
7.45% (callable) ........................... 2097 100,000 --
$750 million revolving bank credit and
letter of credit facility .................. 2006 525,000 --
Other ......................................... Various 59,803 --
Net unamortized premium
(including fair market value adjustments)... 1,256 417
----------- -----------
Total debt ............................... 2,823,059 1,042,417
Less current portion, including
unamortized premium of $7,621 .............. (305,661) --
----------- -----------
Long-term debt, less current portion ..... $ 2,517,398 $ 1,042,417
=========== ===========
82
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Valero also has various uncommitted short-term bank credit facilities and
uncommitted bank letter of credit facilities. As of December 31, 2001, $200.0
million was outstanding under the short-term bank credit facilities with a
weighted-average interest rate of 3.5%. There was $92.2 million outstanding
under the letter of credit facilities as of December 31, 2001. These credit
facilities have no commitment or other fees, no compensating balance
requirements and are unsecured and unrestricted as to use.
As discussed in Note 2, the cash portion of the UDS Acquisition was financed
with the proceeds from a $1.5 billion bridge loan facility and borrowings under
two new $750 million revolving bank credit facilities. Because borrowings under
these facilities were not made until January 7, 2002, as of December 31, 2001,
the cash obligation was recorded as "Payable to UDS shareholders" on the
Consolidated Balance Sheet. The bridge loan facility, which is a single-draw
facility, has a one-year maturity. The two revolving bank credit facilities
provide for commitments of $750 million for a five-year term and $750 million
for a 364-day term, respectively, and replaced an $835 million revolving bank
credit and letter of credit facility. Borrowings under these facilities bear
interest at LIBOR plus a margin, a base rate or a money market rate. Valero will
also be charged various fees and expenses in connection with these facilities,
including facility fees and various letter of credit fees. The interest rates
and fees under these facilities are subject to adjustment based upon the credit
ratings assigned to Valero's long-term debt. These facilities include certain
restrictive covenants including a coverage ratio and a debt-to-capitalization
ratio. As of December 31, 2001, borrowings under these committed facilities were
$525.0 million, while letters of credit outstanding were approximately $145
million.
Proceeds from the sale of the Golden Eagle Business, estimated to be $1.125
billion, must be used to pay down any amounts then outstanding under the bridge
facility. Thereafter, commitments under the bridge facility will be reduced by
that same amount.
On June 29, 2000, Valero issued to the public $200 million aggregate principal
amount of 8 3/8% notes which are due on June 15, 2005, and $200 million
aggregate principal amount of 8 3/4% notes which are due on June 15, 2030. These
notes were issued under Valero's $1.3 billion universal shelf registration
statement. The net proceeds received by Valero from this offering, which were
used in connection with funding the Benicia Acquisition, were approximately $394
million, including an aggregate discount of approximately $1.8 million related
to the two issuances. Interest payments on the notes are made semi-annually on
June 15 and December 15 of each year. These notes are unsecured and
unsubordinated, rank equally with all of Valero's other unsecured and
unsubordinated debt, have no sinking fund requirements, and are redeemable at
any time, in whole or in part, at Valero's option.
In March 2001, the Gulf Coast Waste Disposal Authority issued and sold for the
benefit of Valero $18.5 million of new tax-exempt Waste Disposal Revenue Bonds
which have a fixed interest rate of 6.65% and mature on April 1, 2032. The
proceeds from the sale of these tax-exempt fixed-rate bonds were used to redeem
$18.5 million of Taxable Waste Disposal Revenue Bonds.
83
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In December 1997, Valero issued $150 million principal amount of 6 3/4% notes
for net proceeds of approximately $156.0 million. These notes are unsecured and
unsubordinated and rank equally with all of Valero's other unsecured and
unsubordinated debt. The notes were issued to the Valero Pass-Through Asset
Trust 1997-1 which funded the acquisition of the notes through a private
placement of $150 million principal amount of 6 3/4% Pass-Through Asset Trust
Securities, or PATS. The PATS represent a fractional undivided beneficial
interest in the trust. In exchange for certain consideration paid to the trust,
a third party has an option to purchase the notes under certain circumstances at
par on December 15, 2002, at which time the term of the notes would be extended
30 years to December 15, 2032. If the third party does not exercise its purchase
option, then under the terms of the notes, Valero would be required to
repurchase the notes at par on December 15, 2002.
In connection with the UDS Acquisition, Valero assumed the following debt
obligations, which were recorded at fair value:
o 8.625% Guaranteed Notes;
o Medium-term Notes;
o Debentures;
o Senior Notes
o The 2017 Notes and the 2097 Notes may be redeemed at any time at Valero's
option, in whole or in part, at a redemption price equal to the greater
of: (a) 100% of the principal amount, or (b) the sum of the present value
of outstanding principal and interest thereon, discounted at the U.S.
Treasury Yield plus 20 basis points, together with accrued interest, if
any, to the date of redemption.
o The 2037 Notes may be redeemed, in whole or in part, by the holders on
October 15, 2009, at a redemption price equal to 100% of the principal
plus accrued interest. After October 15, 2009, the 2037 Notes are
redeemable at Valero's option in the same manner as the 2017 Notes and
2097 Notes.
o Other debt obligations comprised of various notes payable.
Generally, the UDS debt obligations are unsecured with interest payable
semi-annually.
Valero also assumed from UDS the following committed revolving credit
facilities:
o a Canadian facility under which a Canadian subsidiary, Canadian Ultramar
Company, may borrow, issue bankers' acceptances and obtain letters of credit
in an aggregate amount of Cdn. $200 million, and
o a U.S. facility under which Valero L.P. (see Note 12) may borrow up to $120
million.
Valero must pay annual fees on the total used and unused portions of these
revolving credit facilities. The interest rates under these facilities float
based upon the prime rate, LIBOR or other floating interest rates, at Valero's
option. As of December 31, 2001, there were no amounts outstanding under the
Canadian Facility, which expires in July 2002, and $16 million was outstanding
under the Valero L.P. Facility which expires in 2006.
84
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Valero also assumed UDS's uncommitted money market lines of credit which provide
additional uncommitted capacity of $35.0 million and Cdn. $195.0 million. As of
December 31, 2001, there was Cdn. $6 million of letters of credit outstanding on
the Canadian line of credit.
As of December 31, 2001, Valero's debt-to-capitalization ratio (net of cash) was
54.5%, an increase from 39.9% as of December 31, 2000 due to the UDS
Acquisition, partially offset by strong cash flows and net income in 2001. For
purposes of this computation, the "Payable to UDS shareholders" in the
Consolidated Balance Sheet as of December 31, 2001, the $200 million
company-obligated preferred securities of subsidiary trust assumed in the UDS
Acquisition, and 20% of the aggregate liquidation amount of trust preferred
securities issued as part of the PEPS Units were included as debt.
The aggregate stated maturities of long-term debt as of December 31, 2001 were
as follows (in thousands):
2002................................................ $ 298,041
2003................................................ 28,801
2004................................................ 557
2005................................................ 396,601
2006................................................ 841,647
Thereafter.......................................... 1,256,156
Unamortized premium................................. 1,256
-----------
Total......................................... $ 2,823,059
===========
As of December 31, 2001, debt assumed in the UDS Acquisition of $1.3 billion is
recorded at fair value since the acquisition was completed on December 31, 2001.
Excluding debt assumed in the UDS Acquisition, the estimated fair value of
Valero's tax-exempt bonds and fixed-rate notes as of December 31, 2001 and 2000,
was approximately $1,091.3 million and $1,051.1 million, respectively, compared
to a carrying amount of $1,041.2 million and $1,023.9 million, respectively. The
fair values of these instruments were estimated based on borrowing rates
available to Valero for long-term debt with similar terms and maturities. As of
December 31, 2001, the carrying amount of Valero's revolving bank credit
facility approximated fair value due to its variable interest rate.
85
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
11. OTHER LONG-TERM LIABILITIES
Other long-term liabilities consisted of the following (in thousands):
DECEMBER 31,
-------------------
2001 2000
-------- --------
Employee benefit plan liabilities ................... $387,416 $ 65,616
Environmental liabilities ........................... 125,887 17,574
Unfavorable lease obligations ....................... 136,700 --
Captive insurance reserves .......................... 47,148 --
Other ............................................... 65,658 36,916
-------- --------
Other long-term liabilities ................... $762,809 $120,106
======== ========
12. MINORITY INTEREST IN CONSOLIDATED PARTNERSHIP
On April 16, 2001, Shamrock Logistics, L.P. (now Valero L.P.), a previously
wholly owned subsidiary of UDS, issued 5,175,000 limited partnership units in an
initial public offering at a price of $24.50 per unit. Proceeds from the
offering totaled $111.9 million, net of offering expenses of $14.9 million, and
were used to pay down debt of UDS. As a result of the UDS Acquisition, Valero
now owns approximately 73% of Valero L.P.
Valero L.P. is consolidated in Valero's Consolidated Balance Sheet. The minority
interest in consolidated partnership in the Consolidated Balance Sheet
represents the public unitholders' interest in Valero L.P.
13. COMPANY-OBLIGATED PREFERRED SECURITIES OF SUBSIDIARY TRUSTS
Company-obligated preferred securities of subsidiary trusts include:
o $172.5 million of Premium Equity Participating Security Units (PEPS Units)
which are mandatorily redeemable, and
o $200 million of Trust Originated Preferred Securities (TOPrS) which are
redeemable at Valero's option.
PREMIUM EQUITY PARTICIPATING SECURITY UNITS
On June 28, 2000, Valero issued $172.5 million of 7 3/4% PEPS Units in a public
offering (6,900,000 units at $25.00 per unit). The PEPS Units were issued under
Valero's $1.3 billion universal shelf registration. The net proceeds received by
Valero from this offering, which were used in connection with funding the
Benicia Acquisition, were approximately $167 million. Each PEPS Unit consists of
a purchase contract for shares of Valero common stock and a trust preferred
security.
86
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Each purchase contract obligates the holder to purchase from Valero on August
18, 2003, for a price of $25.00 per contract, 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 $25.00 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
$25.00 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 $25.00 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 pays a cash
distribution on each trust preferred security at the annual rate of 7.75% of the
$25.00 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 are made quarterly on
February 18, May 18, August 18 and November 18 of each year, and began 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. Distributions on the trust preferred securities, whether paid or
accumulated, are reflected in "Distributions on preferred securities of
subsidiary trust" in the Consolidated Statements of Income.
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
of common stock assuming dilution calculations using the treasury stock method.
Consequently, the PEPS Units will have a dilutive effect on earnings per share
for reporting periods during which the average market price per share of Valero
common stock exceeds $34.95. For reporting periods during which the average
market price per share of Valero common stock is $34.95 or less, the PEPS Units
will have a dilutive effect on earnings per share only when that average market
price per share is above the average closing price for the 20-day trading period
ending on the third trading day prior to the end of the reporting period.
87
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
TRUST ORIGINATED PREFERRED SECURITIES
On June 25, 1997, UDS Capital I (the Trust) issued $200 million of 8.32% Trust
Originated Preferred Securities (TOPrS) in an underwritten public offering
(8,000,000 units at $25.00 per unit). The TOPrS are redeemable on or after June
30, 2002 at the option of the Trust, in whole or in part, at a redemption price
of $25.00 per security. Distributions on the TOPrS are cumulative and payable
quarterly in arrears, on March 31, June 30, September 30 and December 31, if and
when the Trust has funds available for distribution, at the annual rate of 8.32%
of the liquidation amount of $25.00 per TOPrS.
As a result of the UDS Acquisition, the Trust is a wholly owned subsidiary of
Valero. Valero has guaranteed, on a subordinated basis, the dividend payments
due on the TOPrS if and when declared.
14. STOCKHOLDERS' EQUITY
AUTHORIZED SHARES
On September 27, 2001, Valero's stockholders approved an increase in the number
of authorized shares of common stock from 150 million shares to 300 million
shares. Effective December 31, 2001, Valero's Restated Certificate of
Incorporation was amended to reflect the increase in the number of authorized
shares of Valero common stock.
Valero also has 20 million shares of Preferred Stock authorized with a par value
of $0.01 per share. As of December 31, 2001 and 2000, there were no outstanding
shares of Preferred Stock.
EXCHANGE OF UDS SHARES
In connection with the UDS Acquisition, Valero issued 45,887,826 shares of
Valero common stock and vested 5,836,933 employee stock options in the exchange,
which increased stockholders' equity by a total of approximately $2.2 billion.
COMMON STOCK OFFERING
On June 28, 2000, Valero issued to the public 5,980,000 shares of its common
stock at $29.125 per share. These shares were issued under Valero's $1.3 billion
universal shelf registration statement. Valero received net proceeds of
approximately $167 million from this offering, which were used to fund the
Benicia Acquisition.
88
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
COMMON STOCK BUYBACK PROGRAMS
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 years ended December 31, 2001 and 2000, Valero repurchased shares of
its common stock under these programs at a cost of $156.7 million and $64.3
million, respectively.
15. EARNINGS PER SHARE
The computation of earnings per share amounts is as follows (dollars and shares
in thousands, except per share amounts):
YEAR ENDED DECEMBER 31,
------------------------------------
2001 2000 1999
-------- -------- --------
Earnings Per Share of Common Stock:
Net income applicable to common shares .................. $563,553 $339,120 $ 14,287
======== ======== ========
Weighted-average common shares outstanding .............. 60,749 58,532 56,086
======== ======== ========
Earnings per share of common stock ...................... $ 9.28 $ 5.79 $ 0.25
======== ======== ========
Earnings Per Share of Common Stock
- Assuming Dilution:
Net income available to
common equivalent shares ............................ $563,553 $339,120 $ 14,287
======== ======== ========
Weighted-average common shares outstanding .............. 60,749 58,532 56,086
Effect of dilutive securities:
Stock options ...................................... 1,849 1,304 292
Performance awards and other benefit plans ......... 986 689 380
PEPS Units ......................................... 219 -- --
-------- -------- --------
Weighted-average common equivalent
shares outstanding ................................... 63,803 60,525 56,758
======== ======== ========
Earnings per share of common stock
- assuming dilution .................................. $ 8.83 $ 5.60 $ 0.25
======== ======== ========
89
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
16. STATEMENTS OF CASH FLOWS
In order to determine net cash provided by operating activities, net income is
adjusted by, among other things, changes in current assets and current
liabilities as follows (in thousands):
YEAR ENDED DECEMBER 31,
-----------------------------------------
2001 2000 1999
--------- --------- ---------
Decrease (increase) in current assets:
Receivables, net ..................................... $ 122,132 $(213,350) $ (89,086)
Inventories .......................................... (66,532) (70,364) 8,747
Prepaid expenses and other current assets ............ 5,943 (10,346) 10,265
Increase (decrease) in current liabilities:
Accounts payable ..................................... (237,587) 189,954 326,355
Accrued expenses ..................................... 33,127 49,758 14,649
Taxes other than income taxes ........................ 6,915 21,570 22,464
Income taxes payable ................................. (16,840) 36,270 428
--------- --------- ---------
Changes in current assets and
current liabilities ............................. $(152,842) $ 3,492 $ 293,822
========= ========= =========
The amounts shown above exclude changes in cash and temporary cash investments,
restricted cash, current deferred income tax assets and liabilities, and
short-term debt and current portion of long-term debt. Also excluded from the
table above are the current assets and current liabilities acquired in
connection with the Huntway, El Paso and UDS Acquisitions in 2001 and the
Benicia Acquisition in 2000, which are reflected separately in the Consolidated
Statements of Cash Flows.
Cash flows related to interest paid and income taxes paid and received were as
follows (in thousands):
YEAR ENDED DECEMBER 31,
-------------------------------------------
2001 2000 1999
--------- --------- ---------
Interest paid (net of amount capitalized)........... $ 78,822 $ 71,789 $ 49,023
Income taxes paid................................... 124,779 49,578 13,582
Income tax refunds received......................... 2,508 565 7,530
Noncash investing and financing activities for 2001 include:
o the issuance of $2.1 billion of common stock and $120 million of vested
employee stock options as partial consideration for the UDS Acquisition,
o the recognition of capital lease obligations of approximately $286 million
related to the El Paso Acquisition, and
90
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
o various adjustments to property, plant and equipment and certain current
assets and current and noncurrent liabilities resulting from the final
purchase price allocation related to the Benicia Acquisition.
Noncash investing and financing activities for the years ended December 31, 2000
and 1999 included various adjustments to property, plant and equipment and
certain current assets and current liabilities resulting from the preliminary
purchase price allocation related to the Benicia Acquisition and the final
purchase price allocation related to the acquisition of the Paulsboro Refinery,
respectively.
17. PRICE RISK MANAGEMENT ACTIVITIES
As discussed in Note 1, effective January 1, 2001, Valero adopted Statement No.
133, "Accounting for Derivative Instruments and Hedging Activities," as amended.
Valero follows Statement No. 133 in accounting for derivative instruments used
in its price risk management activities.
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 its refining operations. To reduce the impact of this price volatility,
Valero uses derivative commodity instruments (swaps, futures and options) to
manage its exposure to:
o changes in the fair value of a portion of its refinery feedstock and
refined product inventories and a portion of its unrecognized firm
commitments to purchase these inventories (fair value hedges);
o changes in cash flows of certain forecasted transactions such as forecasted
feedstock and natural gas purchases, product sales and refining operating
margins (cash flow hedges); and,
o price volatility on a portion of its refined product inventories and on
certain forecasted feedstock and refined product purchases that are not
designated as either fair value or cash flow hedges (economic hedges).
In addition, Valero uses derivative commodity instruments for trading purposes
using its fundamental and technical analysis of market conditions to earn
additional income.
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.
INTEREST RATE RISK
Valero is exposed to market risk for changes in interest rates related to
certain of its long-term debt obligations. Interest rate swap agreements are
used to manage a portion of the exposure to changing interest rates by
converting certain fixed-rate debt to floating rate. The gain or loss on the
interest rate swap agreements, which have been designated and have qualified as
fair value hedging instruments, and changes in the fair value of the related
hedged debt are recorded in interest expense.
91
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
FOREIGN CURRENCY RISK
Periodically, Valero may enter into short-term foreign exchange and purchase
contracts to manage its exposure to exchange rate fluctuations on the trade
payables of its Canadian operations that are denominated in U.S. dollars. Under
Statement No. 133, these contracts are not designated as hedging instruments.
IMPACT OF ADOPTION
The impact of adopting Statement No. 133 as of January 1, 2001 was as follows
(debit (credit) in thousands):
Inventories............................................. $ 3,215
Deferred charges, deferred credits and other ........... 42,865
Accounts payable........................................ (2,536)
Deferred income tax liabilities......................... (15,240)
Other comprehensive income,
net of income tax expense........................... (28,304)
CURRENT PERIOD DISCLOSURES
For the year ended December 31, 2001, the net loss recognized in income
representing the amount of hedge ineffectiveness was $3.4 million for fair value
hedges and $20.8 million for cash flow hedges. These amounts are included in
"Cost of sales and operating expenses" in the Consolidated Statements of Income.
Valero did not exclude any component of the derivative instruments' gain or loss
from the assessment of hedge effectiveness. No amounts were recognized in income
for hedged firm commitments no longer qualifying as fair value hedges.
For cash flow hedges, gains and losses currently reported in "Accumulated other
comprehensive income" in the Consolidated Statement of Comprehensive Income will
be reclassified into income when the forecasted feedstock or natural gas
purchase, product sale or refining operating margin affects income. The
estimated amount of existing net gain included in "Accumulated other
comprehensive income" as of December 31, 2001 that is expected to be
reclassified into income within the next 12 months is $18.1 million. As of
December 31, 2001, the maximum length of time over which Valero was hedging its
exposure to the variability in future cash flows for forecasted transactions was
15 months. For the year ended December 31, 2001, no amounts were reclassified
from "Accumulated other comprehensive income" into income as a result of the
discontinuance of cash flow hedge accounting.
MARKET AND CREDIT RISK
Valero's price risk management activities involve the receipt or payment of
fixed price commitments into the future. These transactions give rise to market
risk, the risk that future changes in market conditions may make an instrument
less valuable. Valero closely monitors and manages its exposure to market risk
on a daily basis in accordance with policies approved by its Board of Directors.
Market risks are monitored by a risk control
92
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
group to ensure compliance with Valero's stated risk management policy.
Concentrations of customers in the refining industry may impact Valero's overall
exposure to credit risk, in that these customers may be similarly affected by
changes in economic or other conditions. Valero believes that its counterparties
will be able to satisfy their obligations under contracts.
18. PREFERRED SHARE PURCHASE RIGHTS
Each outstanding share of Valero's common stock is accompanied by one Preferred
Share Purchase Right (Right). With certain exceptions, each Right entitles the
registered holder to purchase from Valero one one-hundredth of a share of
Valero's Junior Participating Preferred Stock, Series I at a price of $100 per
one one-hundredth of a share, subject to adjustment for certain recapitalization
events.
The Rights are transferable only with the common stock until the earlier of:
(i) 10 days following a public announcement that a person or group of
affiliated or associated persons (Acquiring Person) has acquired beneficial
ownership of 15% or more of the outstanding shares of Valero's common
stock,
(ii) 10 business days (or later date as may be determined by action of Valero's
Board of Directors) following the initiation of a tender offer or exchange
offer which would result in an Acquiring Person having beneficial ownership
of 15% or more of Valero's outstanding common stock (the earlier of the
date of the occurrence of (i) or (ii) being called the Rights Separation
Date), or
(iii) the earlier redemption or expiration of the Rights.
The Rights are not exercisable until the Rights Separation Date. At any time
prior to the acquisition by an Acquiring Person of beneficial ownership of 15%
or more of the outstanding common stock, Valero's Board of Directors may redeem
the Rights at a price of $0.01 per Right. The Rights will expire on June 30,
2007, unless extended or the Rights are earlier redeemed or exchanged by Valero.
If after the Rights Separation Date, Valero is acquired in a merger or other
business combination transaction, or if 50% or more of its consolidated assets
or earning power are sold, each holder of a Right will have the right to
receive, upon the exercise of the Right at its then current exercise price, that
number of shares of common stock of the acquiring company which at the time of
the transaction will have a market value of two times the exercise price of the
Right. In the event that any Acquiring Person becomes the beneficial owner of
15% or more of the outstanding common stock, each holder of a Right, other than
Rights beneficially owned by the Acquiring Person (which will thereafter be
void), will thereafter have the right to receive upon exercise that number of
shares of common stock having a market value of two times the exercise price of
the Right.
At any time after an Acquiring Person acquires beneficial ownership of 15% or
more of the outstanding common stock and prior to the acquisition by the
Acquiring Person of 50% or more of the outstanding common
93
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
stock, Valero's Board of Directors may exchange the Right (other than Rights
owned by the Acquiring Person which have become void), at an exchange ratio of
one share of common stock, or one one-hundredth of a share of Junior Preferred
Stock, per Right (subject to adjustment).
Until a Right is exercised, the holder will have no rights as a stockholder of
Valero including, without limitation, the right to vote or to receive dividends.
The Rights may have certain anti-takeover effects. The Rights will cause
substantial dilution to any Acquiring Person that attempts to acquire Valero on
terms not approved by Valero's Board of Directors, except pursuant to an offer
conditioned on a substantial number of Rights being acquired. The Rights should
not interfere with any merger or other business combination approved by Valero's
Board of Directors since the Rights may be redeemed by Valero prior to the time
that an Acquiring Person has acquired beneficial ownership of 15% or more of the
common stock.
19. INCOME TAXES
Components of income tax expense were as follows (in thousands):
YEAR ENDED DECEMBER 31,
-------------------------------------------
2001 2000 1999
-------- --------- --------
Current:
Federal........................................... $ 56,221 $ 80,021 $ 14,896
State............................................. 4,379 5,979 404
-------- --------- --------
Total current................................... 60,600 86,000 15,300
-------- --------- --------
Deferred:
Federal........................................... 246,579 102,076 (9,400)
State............................................. 24,121 1,024 -
-------- --------- -------
Total deferred.................................. 270,700 103,100 (9,400)
-------- --------- -------
Income tax expense............................ $331,300 $ 189,100 $ 5,900
======== ========= =======
94
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following is a reconciliation of total income tax expense to income taxes
computed by applying the statutory federal income tax rate (35% for all years
presented) to income before income taxes (in thousands):
YEAR ENDED DECEMBER 31,
-----------------------------------------
2001 2000 1999
--------- --------- -------
Federal income tax expense
at the statutory rate............................. $ 313,199 $ 184,877 $ 7,065
State income taxes,
net of federal income tax effect.................. 18,525 4,553 263
Research and experimentation tax credit.............. (1,000) (3,022) --
Basis difference on disposition of investment........ -- -- (1,894)
Other, net........................................... 576 2,692 466
--------- --------- -------
Income tax expense.............................. $ 331,300 $ 189,100 $ 5,900
========= ========= =======
95
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The tax effects of significant temporary differences representing deferred
income tax assets and liabilities are as follows (in thousands):
DECEMBER 31,
--------------------------
2001 2000
----------- -----------
Deferred income tax assets:
Tax credit carryforwards ........................ $ 92,633 $ 47,468
Net operating losses ............................ 21,760 --
Compensation and employee
benefit liabilities .......................... 107,529 35,953
Inventories ..................................... -- 54,870
Accrued liabilities ............................. 110,931 20,890
Other assets .................................... 84,480 --
----------- -----------
Total deferred income tax assets .............. 417,333 159,181
Less: Valuation allowance ....................... (23,988) --
----------- -----------
Net deferred income tax assets ................ 393,345 159,181
----------- -----------
Deferred income tax liabilities:
Turnarounds ..................................... (96,986) (30,978)
Depreciation .................................... (1,477,351) (413,689)
Equity investment in Diamond-Koch, L.P. ......... (75,530) --
Inventories ..................................... (55,106) --
Other ........................................... (137,219) (15,331)
----------- -----------
Total deferred income tax liabilities ......... (1,842,192) (459,998)
----------- -----------
Net deferred income tax liabilities ................ $(1,448,847) $ (300,817)
=========== ===========
As of December 31, 2001, Valero had the following U.S. federal and state income
tax credit and loss carryforwards (in thousands):
AMOUNT EXPIRATION
------ ----------
Alternative minimum tax (AMT) credit......................... $ 64,085 Indefinite
U.S. federal and state income tax credits.................... 12,284 2002 through 2014
Foreign tax credit........................................... 16,264 2006
U.S. federal net operating losses (NOL)...................... 20,331 2011 through 2013
Canadian net operating losses (NOL).......................... 868 2007
96
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Approximately $56 million of the AMT credit and all of the U.S. federal income
tax credits, foreign tax credit and U.S. federal NOL carryforwards are subject
to annual U.S. federal income tax limitations.
The realization of net deferred income tax assets recorded as of December 31,
2001 is dependent upon Valero's ability to generate future taxable income in
both the U.S. and Canada. Although realization is not assured, Valero believes
it is more likely than not that the net deferred income tax assets will be
realized. There was no valuation allowance recorded against net deferred income
tax assets as of December 31, 2000.
U.S. federal deferred income taxes or Canadian withholding taxes have not been
provided for on the undistributed earnings of Valero's Canadian subsidiaries
based on the determination that those earnings will be indefinitely reinvested.
As of December 31, 2001, the cumulative undistributed earnings of these
subsidiaries were approximately $106 million. If those earnings were not
considered indefinitely reinvested, U.S. federal deferred income taxes and
Canadian withholding taxes would have been provided after consideration of
foreign tax credits. However, determination of the amount of U.S. federal
deferred income taxes and Canadian withholding taxes is not practical.
Valero's separate taxable years through 1997 are closed to adjustment by the
Internal Revenue Service. UDS's separate tax years 1995 through 1997 are
currently under examination. Valero believes that adequate provisions for income
taxes have been reflected in the consolidated financial statements.
20. SEGMENT INFORMATION
Prior to the UDS Acquisition, Valero's operations consisted primarily of six
petroleum refineries, the products of which were marketed through an extensive
wholesale bulk and rack marketing network and through retail operations in
California. In applying the requirements of FASB Statement No. 131, "Disclosures
about Segments of an Enterprise and Related Information," Valero's six
refineries, each of which represents an operating segment as defined by
Statement No. 131, were aggregated for reporting purposes. As a result, Valero
had one reportable segment, which was the refining and marketing of premium,
environmentally clean products.
Since the UDS Acquisition occurred on December 31, 2001, the results of
operations of UDS will be included with Valero's operations beginning January 1,
2002. Valero will have two reportable segments beginning January 1, 2002,
refining and retail. The refining segment will include refinery, wholesale
marketing, product supply and distribution, and transportation operations. The
retail segment will include company-operated convenience stores, Canadian
dealers/jobbers and truckstop facilities, cardlock and home heating oil
operations. Operations that are not included in either of the two reportable
segments will be included in the corporate category.
97
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Valero's principal products include conventional, reformulated and CARB
gasolines, low-sulfur diesel, and oxygenates and other gasoline blendstocks.
Valero also produces a substantial slate of middle distillates, jet fuel and
petrochemicals, in addition to lube oils and asphalt. Operating revenues from
external customers for Valero's principal products for the years ended December
31, 2001, 2000 and 1999 were as follows (in thousands):
YEAR ENDED DECEMBER 31,
----------------------------------------------
2001 2000 1999
------------ ------------ -----------
Gasolines and blendstocks............................ $ 8,442,540 $ 7,831,464 $ 4,381,112
Distillates.......................................... 3,368,913 3,747,128 1,848,621
Petrochemicals....................................... 301,904 386,909 258,850
Lubes and asphalts................................... 410,027 295,300 178,653
Other products and revenues.......................... 2,464,955 2,410,286 1,293,932
------------ ------------ -----------
Consolidated operating revenues................. $ 14,988,339 $ 14,671,087 $ 7,961,168
============ ============ ===========
During the years ended December 31, 2001, 2000 and 1999, Valero had no
significant amount of export sales and no significant foreign operations. During
the years ended December 31, 2001, 2000 and 1999, approximately $1.6 billion
(10.6%), $1.7 billion (11.7%) and $1.2 billion (15.4%), respectively, of
Valero's consolidated operating revenues were derived from sales to ExxonMobil.
Long-lived assets include property, plant and equipment, intangible assets, and
certain long-lived assets included in deferred charges and other assets.
Goodwill by geographic area is not currently available and therefore is excluded
from the amounts below. Geographic information by country for long-lived assets
consisted of the following (in thousands):
DECEMBER 31,
----------------------------
2001 2000
----------- -----------
United States....................................... $ 6,798,904 $ 2,858,087
Canada.............................................. 1,024,393 --
----------- -----------
Consolidated long-lived assets................... $ 7,823,297 $ 2,858,087
=========== ===========
98
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Total assets by reportable segment are as follows (in thousands):
DECEMBER 31,
-----------------------------
2001 2000
------------ -----------
Refining............................................. $ 10,342,980 $ 4,069,340
Retail............................................... 1,165,430 42,568
Corporate............................................ 658,213 195,796
------------ -----------
Total reportable segments......................... 12,166,623 4,307,704
Goodwill............................................. 2,210,473 --
------------ -----------
Total consolidated assets....................... $ 14,377,096 $ 4,307,704
============ ===========
Since the UDS Acquisition occurred on December 31, 2001 and the independent
appraisals have not been completed, goodwill by reportable segment is not
currently available.
21. EMPLOYEE BENEFIT PLANS
PENSION PLANS AND POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
Valero's qualified pension plan, which is subject to the provisions of the
Employee Retirement Income Security Act of 1974, as amended (ERISA), is designed
to provide eligible employees with retirement income. Participation in the plan
commences upon the completion of one year of continuous service, and a
participant vests in plan benefits after five years of vesting service. Upon
becoming a participant, all service since date of hire is included in
determining vesting and credited service, except for individuals who became
employees of Valero as a result of an acquisition by Valero, for whom benefits
are determined by the terms of the acquisition agreement. Valero also provides
certain retirement benefits under a nonqualified plan, the Supplemental
Executive Retirement Plan (SERP), which is designed to provide additional
pension benefits to executive officers and certain other employees.
The qualified pension plan provides a monthly pension payable upon normal
retirement of an amount equal to a set formula which, prior to the UDS
Acquisition, was based on the participant's 60 consecutive highest months of
compensation during the latest 10 years of credited service under the plan.
Effective January 1, 2002, the pension benefit will be calculated based on the
highest three consecutive calendar years of the participant's total pay,
including overtime and bonuses. Any contributions to the plan are made by Valero
and contributions by participants are neither required nor permitted. Valero's
contributions are actuarially determined in an amount sufficient to fund the
currently accruing benefits and amortize any prior service cost over the
expected life of the then current work force. Valero's contributions to the
pension plan and SERP in 2001, 2000 and 1999 were approximately $18 million, $10
million and $7 million, respectively, and are currently estimated to be $32
million in 2002.
In connection with the UDS Acquisition, Valero approved the establishment of a
supplement to the pension plan (the 2001 Voluntary Early Retirement Window)
which permitted certain employees to retire from
99
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
employment during 2002. There were 100 employees who accepted the 2001 Voluntary
Early Retirement Window option.
Valero also provides certain health care and life insurance benefits for retired
employees, referred to as postretirement benefits other than pensions.
Substantially all of Valero's employees may become eligible for these benefits
if, while still working for Valero, they either reach normal retirement age or
take early retirement. Health care benefits are offered by Valero through a
self-insured plan and a health maintenance organization while life insurance
benefits are provided through an insurance company. Valero funds its
postretirement benefits other than pensions on a pay-as-you-go basis.
Individuals who became Valero employees as a result of an acquisition by Valero
became eligible for other postretirement benefits under Valero's plan as
determined by terms of the acquisition agreement.
The changes in benefit obligation, changes in plan assets, funded status and
amounts recognized in Valero's Consolidated Balance Sheets for Valero's pension
plans, including the SERP, and other postretirement benefits are summarized
below (in thousands):
100
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
OTHER POSTRETIREMENT
PENSION BENEFITS BENEFITS
---------------------- ----------------------
2001 2000 2001 2000
--------- --------- --------- ---------
Change in Benefit Obligation:
Benefit obligation at beginning of year ................ $ 188,309 $ 163,342 $ 62,718 $ 42,629
Service cost ......................................... 15,160 11,009 4,653 2,206
Interest cost ........................................ 15,394 12,297 6,604 3,392
UDS Acquisition ...................................... 389,505 -- 98,280 --
Huntway Acquisition .................................. -- -- 1,077 --
El Paso Acquisition .................................. -- -- 5,531 --
Benicia Acquisition .................................. -- 5,756 3,143 5,212
Participant contributions ............................ -- -- 169 152
Plan amendments ...................................... 41,351 -- (26,720) --
2001 Voluntary Early Retirement Window ............... 2,465 -- 562 --
Benefits paid ........................................ (6,843) (6,490) (2,409) (2,091)
Actuarial loss ....................................... 44,818 2,395 39,656 11,218
--------- --------- --------- ---------
Benefit obligation at end of year ...................... $ 690,159 $ 188,309 $ 193,264 $ 62,718
========= ========= ========= =========
Change in Plan Assets:
Fair value of plan assets at beginning of year ......... $ 182,260 $ 171,715 $ -- $ --
Actual return on plan assets ......................... (13,995) 7,032 -- --
Valero contributions ................................. 18,492 10,003 2,240 1,939
Participant contributions ............................ -- -- 169 152
UDS Acquisition ...................................... 216,497 -- -- --
Benefits paid ........................................ (6,843) (6,490) (2,409) (2,091)
--------- --------- --------- ---------
Fair value of plan assets at end of year ............... $ 396,411 $ 182,260 $ -- $ --
========= ========= ========= =========
101
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
OTHER POSTRETIREMENT
PENSION BENEFITS BENEFITS
---------------------- ---------------------
2001 2000 2001 2000
--------- --------- --------- ---------
Reconciliation of funded status:
Fair value of plan assets at end of year ......... $ 396,411 $ 182,260 $ -- $ --
Less: Benefit obligation at end of year .......... 690,159 188,309 193,264 62,718
--------- --------- --------- ---------
Funded status at end of year ..................... (293,748) (6,049) (193,264) (62,718)
Unrecognized net loss (gain) ................... 69,561 (5,085) 48,971 10,530
Unrecognized prior service cost ................ 46,429 6,051 (21,953) 1,444
Unrecognized net transition
obligation (asset) .......................... (563) (738) -- 3,754
--------- --------- --------- ---------
Accrued benefit cost ............................. $(178,321) $ (5,821) $(166,246) $ (46,990)
========= ========= ========= =========
Amounts recognized in the Consolidated
Balance Sheets:
Prepaid benefit cost ........................... $ 21,345 $ 13,402 $ -- $ --
Intangible asset ............................... 32,784 -- -- --
Accrued benefit liability ...................... (232,450) (19,223) (166,246) (46,990)
--------- --------- --------- ---------
Accrued benefit cost ............................. $(178,321) $ (5,821) $(166,246) $ (46,990)
========= ========= ========= =========
As of December 31, 2001, after incorporating the effect of the UDS Acquisition,
the projected benefit obligation, accumulated benefit obligation and fair value
of plan assets for pension plans with accumulated benefit obligations in excess
of plan assets was $620.1 million, $475.3 million and $331.5 million,
respectively. There was no unfunded accumulated benefit obligation as of
December 31, 2000.
The components of net periodic benefit cost are summarized as follows (in
thousands):
OTHER POSTRETIREMENT
PENSION BENEFITS BENEFITS
-------------------------------- ------------------------------
2001 2000 1999 2001 2000 1999
-------- -------- -------- -------- -------- --------
Components of net periodic benefit cost:
Service cost ..................................... $ 15,160 $ 11,009 $ 9,466 $ 4,653 $ 2,206 $ 2,047
Interest cost .................................... 15,394 12,297 10,114 6,604 3,392 2,818
Expected return on plan assets ................... (16,873) (15,704) (12,642) -- -- --
2001 Voluntary Early
Retirement Window .............................. 2,465 -- -- 562 -- --
Amortization of:
Transition obligation .......................... (175) (175) (144) 317 317 317
Prior service cost ............................. 973 870 866 114 114 114
Net loss ....................................... 1,039 31 343 1,216 -- --
-------- -------- -------- -------- -------- --------
Net periodic benefit cost ........................ $ 17,983 $ 8,328 $ 8,003 $ 13,466 $ 6,029 $ 5,296
======== ======== ======== ======== ======== ========
102
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Amortization of prior service cost as shown in the above table is based on the
average remaining service period of employees expected to receive benefits under
the plan. The weighted average assumptions used in computing the actuarial
present value of the pension benefit and other postretirement benefit
obligations for the years ended December 31, 2001 and 2000 were as follows:
OTHER POSTRETIREMENT
PENSION BENEFITS BENEFITS
---------------- --------------------
2001 2000 2001 2000
---- ---- ---- ----
Weighted average assumptions:
Discount rate ....................................... 7.00% 7.50% 7.00% 7.50%
Expected long-term rate of return
on plan assets .................................... 8.75% 9.25% -- --
Rate of compensation increase ....................... 5.62% 5.00% -- --
Health care cost trend rate ......................... -- -- 10.00% 5.00%
For the December 31, 2001 measurement, the health care cost trend rate is
assumed to decrease 1% per year from the 2001 rate of 10% to an ultimate rate of
5.5% in 2006 and beyond. For the December 31, 2000 measurement, the health care
cost trend rate was assumed to remain at five percent for all future years.
Assumed health care cost trend rates have a significant effect on the amounts
reported for health care plans. A one percentage-point change in assumed health
care cost trend rates would have the following effects on other postretirement
benefits (in thousands):
1% INCREASE 1% DECREASE
----------- -----------
Effect on total of service and interest cost components........ $ 2,187 $ (1,790)
Effect on other postretirement benefit obligation.............. 16,764 (13,943)
PROFIT-SHARING/SAVINGS PLANS
Valero is the sponsor of the Valero Energy Corporation Thrift Plan, which is a
qualified employee profit-sharing plan. Participation in the Thrift Plan is
voluntary and is open to Valero employees who become eligible to participate
upon the completion of one month of continuous service. This service may include
prior employment with other companies prior to individuals becoming employees of
Valero through an acquisition by Valero.
Prior to a plan change effective January 1, 2002 discussed below, participating
employees could contribute from 2% up to 8% of their total annual compensation
as basic contributions, with those participants making a basic contribution of
8% allowed to make a supplemental contribution of up to 14% of their total
annual compensation. Participants may elect to make contributions on a
before-tax and/or after-tax basis, with federal income taxes on before-tax
contributions being deferred until a distribution is made to the participant.
103
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Participants' basic contributions of up to 8% of their base annual compensation
were matched 75% by Valero, with an additional match of up to 25% subject to
certain conditions. Participants' basic contributions in excess of 8% of their
base annual compensation were not matched by Valero. In January 2001, the
compensation committee of Valero's Board of Directors approved an increase in
Valero's matching percentage from 75% to 100% for the 12-month period beginning
February 1, 2001.
Effective January 1, 2002, the Thrift Plan was amended to provide that
participants will be able to make a supplemental contribution of up to 22% of
their total annual compensation, and the maximum match by Valero will be 75% of
the participants' basic contributions based on the participants' total annual
compensation, including overtime and cash bonuses.
Valero's contributions to the Thrift Plan for the years ended December 31, 2001,
2000 and 1999 were $13.5 million, $8.2 million and $6.7 million, respectively.
STOCK COMPENSATION PLANS
Valero has various fixed and performance-based stock compensation plans.
Valero's Executive Stock Incentive Plan (ESIP) authorizes the grant of various
stock and stock-related awards to executive officers and other key employees.
Awards available under the ESIP include options to purchase shares of common
stock, performance awards which vest upon the achievement of an objective
performance goal, and restricted stock which vests over a period determined by
Valero's compensation committee. As of December 31, 2001, a total of 2,459,098
shares of Valero common stock remain available to be awarded under the ESIP.
Valero also has a non-qualified stock option plan under which awards are granted
to key officers, employees and prospective employees. A total of 646,283 shares
of Valero common stock remain available to be awarded under this plan. Valero
also maintains an Executive Incentive Bonus Plan, under which shares of Valero
common stock may be issued that provide bonus compensation to key employees
based on individual contributions to company profitability. Bonuses are payable
either in cash, Valero common stock, or both. Valero also has a non-employee
director stock option plan, under which 77,105 shares of Valero common stock
remain available to be awarded, and a non-employee director restricted stock
plan, under which 138,000 shares of Valero common stock remain available to be
awarded.
104
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The number and weighted average grant-date fair value of shares of Valero common
stock granted under the above-noted plans (other than shares related to stock
options which are presented in a separate table below) during the years ended
December 31, 2001, 2000 and 1999 were as follows:
2001 2000 1999
------------------------ ------------------------ ------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
SHARES GRANT-DATE SHARES GRANT-DATE SHARES GRANT-DATE
GRANTED FAIR VALUE GRANTED FAIR VALUE GRANTED FAIR VALUE
------- ---------- ------- ---------- ------- ----------
ESIP:
Restricted stock.............. 8,000 $ 37.52 17,619 $29.14 85,937 $19.57
Performance awards............ 132,400 34.13 146,100 21.81 225,500 21.31
Executive Incentive
Bonus Plan..................... 251,624 36.72 134,362 21.81 -- --
Non-employee director
restricted stock plan......... 1,932 37.79 1,608 28.00 4,190 21.48
Under the terms of the ESIP, the stock option plan and the non-employee director
stock option plan, the exercise price of options granted will not be less than
the fair market value of Valero's common stock at the date of grant. Stock
options become exercisable pursuant to the individual written agreements between
Valero and the participants, usually in three equal annual installments
beginning one year after the date of grant, with unexercised options generally
expiring ten years from the date of grant. Upon completion of the UDS
Acquisition, all vested UDS stock options held by employees and non-employee
directors of UDS were converted to Valero stock options which had a fair value
of $120 million.
105
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A summary of the status of Valero's stock option plans, including stock options
granted under the ESIP, the stock option plan, which includes UDS stock options
converted to Valero stock options, the non-employee director stock option plan
and Old Valero's previously existing stock compensation plans is presented in
the table below.
NUMBER OF WEIGHTED AVERAGE
STOCK OPTIONS EXERCISE PRICE
------------- ----------------
Outstanding as of December 31, 1998................ 5,528,996 $ 21.01
Granted......................................... 1,580,062 20.29
Exercised....................................... (17,806) 14.77
Forfeited....................................... (29,677) 23.41
----------
Outstanding as of December 31, 1999.................. 7,061,575 20.86
Granted........................................... 1,854,460 28.00
Exercised......................................... (1,215,573) 19.11
Forfeited......................................... (176,763) 22.58
----------
Outstanding as of December 31, 2000.................. 7,523,699 22.86
Granted........................................... 2,496,016 34.25
Exercised......................................... (828,178) 22.67
Forfeited......................................... (104,346) 22.04
Conversion of UDS stock options................... 5,836,933 22.66
----------
Outstanding as of December 31, 2001.................. 14,924,124 24.71
==========
Stock options exercisable at December 31:
1999............................................ 3,788,724 19.93
2000............................................ 4,212,683 21.10
2001............................................ 11,046,525 22.36
106
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table summarizes information about stock options outstanding under
the ESIP, the stock option plan and the non-employee director stock option plan
as of December 31, 2001:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------------------------------- ---------------------------------
WEIGHTED
AVERAGE
REMAINING WEIGHTED WEIGHTED
RANGE OF NUMBER LIFE AVERAGE NUMBER AVERAGE
EXERCISE PRICE OUTSTANDING IN YEARS EXERCISE PRICE EXERCISABLE EXERCISE PRICE
-------------- ----------- ---------- -------------- ----------- --------------
$10.85 - $14.10 708,221 2.34 $12.58 708,221 $12.58
$15.19 - $19.92 2,255,859 6.13 17.52 2,053,956 17.52
$20.03 - $24.91 6,588,386 6.76 22.48 6,562,690 22.48
$25.44 - $29.88 1,812,906 8.13 27.93 650,530 27.81
$30.06 - $34.91 2,817,968 8.83 33.31 580,010 31.67
$35.00 - $39.78 717,912 6.31 37.13 483,246 36.70
$40.20 - $49.05 22,872 9.27 45.97 7,872 48.07
---------- ----------
$10.85 - $49.05 14,924,124 6.99 24.71 11,046,525 22.36
========== ==========
The weighted average fair value of stock options granted during the years ended
December 31, 2001, 2000 and 1999 was $11.60, $9.64 and $6.61 per stock option,
respectively. The fair value of each stock option grant was estimated on the
grant date using the Black-Scholes option-pricing model with the following
assumptions:
YEAR ENDED DECEMBER 31,
----------------------------------------
2001 2000 1999
---- ---- ----
Risk free interest rate.................... 4.4% 6.7% 5.5%
Expected life.............................. 3.1 years 3.1 years 3.2 years
Expected volatility........................ 46.1% 42.8% 42.3%
Expected dividend yield.................... 1.2% 1.1% 1.6%
Valero accounts for its employee stock compensation plans using the intrinsic
value method (see Note 1 under "STOCK-BASED COMPENSATION"). Accordingly, no
compensation cost has been recognized for its fixed stock option plans. The
after-tax compensation cost reflected in net income for other stock-based
compensation plans for the years ended December 31, 2001, 2000 and 1999 was
$11.9 million, $8.8 million and $4.0 million, respectively. Had compensation
cost for Valero's stock-based compensation plans been determined based on the
grant date fair value of awards for the years ended December 31, 2001, 2000 and
1999 consistent with the
107
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
method set forth in FASB Statement No. 123, Valero's net income and earnings per
share of common stock for the years ended December 31, 2001, 2000 and 1999 would
have been reduced to the pro forma amounts indicated below:
YEAR ENDED DECEMBER 31,
---------------------------------
2001 2000 1999
---- ---- ----
Net income (in thousands)............................. As Reported $ 563,553 $ 339,120 $ 14,287
Pro Forma $ 554,082 $ 331,321 $ 7,869
Earnings per share of common stock.................... As Reported $ 9.28 $ 5.79 $ 0.25
Pro Forma $ 9.12 $ 5.66 $ 0.14
Earnings per share of common stock
- assuming dilution................................. As Reported $ 8.83 $ 5.60 $ 0.25
Pro Forma $ 8.68 $ 5.47 $ 0.14
22. STRATEGIC PETROLEUM RESERVE CRUDE OIL
In September of 2000, the Department of Energy (DOE) announced its intention to
solicit offers for the time exchange of certain crude oil in the U.S. Strategic
Petroleum Reserve (SPR). In the fourth quarter of 2000, the DOE approved a bid
by Valero to receive one million barrels of crude oil under this program. In
November and December of 2000, Valero received a total of one million barrels of
crude oil in exchange for the obligation to redeliver 1,026,000 barrels of crude
oil to the SPR during the third and fourth quarters of 2001. Valero also entered
into a derivative contract to lock in the cost of the crude oil to be purchased
and redelivered to the SPR in 2001. As of December 31, 2000, Valero's obligation
to redeliver crude oil was recorded in "Accounts Payable" in the Consolidated
Balance Sheet at the fair market value of the crude oil to be redelivered. Both
the crude oil payable and the related derivative contract were adjusted for
changes in fair market value, with such adjustments reflected in income. Valero
redelivered the barrels to the SPR during the third quarter of 2001.
23. LEASE AND OTHER COMMITMENTS
LEASES
Valero has long-term operating lease commitments in connection with land, office
facilities and equipment, retail facilities and equipment, transportation
equipment, dock facilities and various facilities and equipment used in the
storage, transportation and production of refinery feedstocks and refined
products. In addition, in connection with the UDS Acquisition, Valero assumed
various operating leases for convenience stores, transportation equipment,
office space and other assets with terms expiring at various dates through 2053.
108
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Included in the operating leases assumed in the UDS Acquisition were various
time charters for ocean-going tankers and coastal vessels which expire on
various dates through 2009. Two additional time charters will commence in mid to
late summer 2002 and will be accounted for as operating leases upon their
commencement. Certain of these charters include renewal options and escalation
clauses, which vary by charter. In addition, certain charters provide for the
payment of chartering fees which vary based on usage while others provide for
payments, in addition to established minimums, contingent upon usage.
Including the leases assumed in connection with the UDS Acquisition, long-term
leases for land have remaining primary terms of up to 22.7 years, long-term
leases for office facilities have remaining primary terms of up to 3.5 years and
long-term leases for transportation equipment have remaining primary terms of up
to 8.2 years. Long-term leases for production equipment and feedstock and
refined product storage facilities and vessels have remaining primary terms of
up to 3.25 years and in certain cases provide for various contingent payments
based on, among other things, throughput volumes in excess of a base amount.
Long-term leases for convenience stores have remaining primary terms of up to 52
years and provide, in certain cases, for the payment of rentals that are wholly
or partially contingent on sales volumes.
The following table reflects Valero's future minimum rental payments and minimum
rentals to be received under subleases for (i) operating leases having initial
or remaining noncancelable lease terms in excess of one year as of December 31,
2001 and (ii) the capital leases related to the El Paso Acquisition discussed in
Note 2 (in thousands):
OPERATING CAPITAL
LEASES LEASES
--------- ---------
2002...................................................... $152,199 $ 18,500
2003...................................................... 129,069 298,625
2004...................................................... 112,759 --
2005...................................................... 89,876 --
2006...................................................... 70,908 --
Remainder................................................. 189,206 --
-------- ---------
Gross minimum rental payments.......................... 744,017 317,125
Less minimum rentals to be received
under subleases........................................ (29,174) --
-------- ---------
Net minimum rental payments............................ $714,843 317,125
========
Less interest expense..................................... (29,276)
---------
Capital lease obligations.............................. $ 287,849
=========
Included in the table above are long-term operating lease commitments that have
been funded through structured lease arrangements with non-consolidated
third-party entities. These leases are for land, office facilities and
109
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
equipment, retail facilities and equipment, dock facilities, transportation
equipment, and various facilities and equipment used in the production of
refined products. These entities constructed or purchased the related assets and
then leased them to Valero. The assets held by these entities were originally
recorded at the cost of the assets constructed or purchased, with such cost
being funded through borrowings by these entities and equity contributions equal
to at least 3% of the asset cost. Each entity maintains at all times a minimum
equity equal to 3% of the related assets. No interest in these entities is held
by Valero, its affiliates or any related parties. All agreements provided for
initial commitment terms of either 5 or 7 years, expiring at various times
between August 2002 and September 2006. For each lease, Valero has the option to
purchase the leased assets at any time during the lease term for a price that
approximates fair value. After the initial lease term, the leases may be
extended by agreement of the parties. Alternatively, Valero may arrange for the
sale of the leased properties to one or more third parties, in which case the
leases provide for a maximum residual value guarantee ranging from 82% to 85% of
the appraised value of the leased properties at the end of the lease term, as
determined at the inception of the lease. As of December 31, 2001, the value of
these leased assets held by these entities was approximately $513 million.
In addition to the above-noted structured lease arrangements, in August 2001,
Valero entered into a $300 million structured lease arrangement to fund the
construction of a new 45,000 barrel-per-day delayed coker facility at its Texas
City Refinery. This structured lease has a lease term that expires in August
2006 and will be accounted for as an operating lease upon completion of
construction of the coker facility. Valero has an option to purchase the leased
property at any time during the lease term for a price that approximates fair
value. After the initial lease term, Valero may renew the lease for up to two
additional one-year periods followed by one additional nine-month period,
subject to the lessor's approval, or Valero may arrange for the sale of the
leased property to a third party, in which case the lease provides for a maximum
residual value guarantee equal to approximately 82% of the property's
construction cost. The sale option can also be exercised at the end of any
renewal period. If Valero elects the sale option, the lessor has the right to
require Valero to extend the lease term for up to one additional year, in which
case the maximum residual value guarantee percentages will be reduced.
See Note 27 for information about an additional structured lease arrangement
entered into by Valero in February 2002.
110
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Consolidated rental expense under operating leases for the years ended December
31, 2001, 2000 and 1999 was approximately $92 million, $72 million and $57
million, respectively. These amounts are included in the Consolidated Statements
of Income under "Cost of sales and operating expenses" and "Selling and
administrative expenses" and include various month-to-month and other short-term
rentals in addition to rents paid and accrued under long-term lease commitments.
OTHER COMMITMENTS
In addition to commitments under operating leases, Valero has a commitment under
a product supply arrangement to pay a reservation fee of approximately $11
million annually through August 2002. Valero also has an obligation under
certain long-term hydrogen supply arrangements to make fixed minimum payments of
approximately $5 million annually, as well as other minimum payments which vary
based on certain natural gas reference prices. These arrangements, which were
entered into in 1999 for the purpose of securing a firm supply of hydrogen for
the Texas City Refinery, have remaining terms of approximately 14 years.
In connection with the UDS Acquisition, Valero assumed a commitment under a
product supply arrangement to pay a reservation fee of approximately $10 million
annually through June 2002. Valero also assumed long-term contracts for the
supply of hydrogen at the Wilmington Refinery and the Three Rivers Refinery,
which expire in 2011. These contracts have take-or-pay provisions requiring
monthly payments totaling approximately $2 million, which are adjusted
periodically based on certain market indices.
24. ENVIRONMENTAL MATTERS
Liabilities for future remediation costs are recorded when environmental
assessments and/or remedial efforts are probable and the costs can be reasonably
estimated. Other than for assessments, the timing and magnitude of these
accruals are generally based on the completion of investigations or other
studies or a commitment to a formal plan of action. Environmental liabilities
are based on best estimates of probable undiscounted future costs using
currently available technology and applying current regulations, as well as
Valero's own internal environmental policies.
In connection with the UDS Acquisition, Valero assumed all environmental
liabilities of UDS which are estimated at approximately $123 million. Valero's
assumed liabilities include remediation obligations and site restoration costs.
These environmental liabilities are included in "Other long-term liabilities" in
the Consolidated Balance Sheet as of December 31, 2001.
In connection with the El Paso Acquisition, Valero assumed all environmental
liabilities related to the facilities with certain exceptions. El Paso retained
liabilities for, and agreed to indemnify Valero against (a) all environmental
claims and costs related to offsite hazardous materials on or under certain
adjacent properties, and all claims and costs pertaining to offsite
environmental conditions arising under the requirements of an agreed final
judgment dated April 1, 1998 between the State of Texas and Coastal Refining and
Marketing, Inc. (a subsidiary of El Paso), (b) any environmental claim or cost
related to the transportation or offsite disposal of any hazardous substance
related to the facilities prior to June 1, 2001, (c) bodily injury and property
damage resulting from exposure to or contamination by hazardous materials
arising from El Paso's operation and use of the facilities prior to June 1,
2001, and (d) environmental claims and costs relating to the presence of
hazardous materials resulting from El Paso's continued use of its assets that
are located at or adjacent to the
111
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
site of the facilities leased by Valero. El Paso also retained liabilities for
all third-party claims relating to or arising out of the operation of the
refinery prior to June 1, 2001 and for any pre-existing orders, judgments or
citations that El Paso failed to disclose prior to June 1, 2001. Valero's
assumed liabilities include certain environmental remediation obligations
relating primarily to soil and groundwater contamination at the leased
facilities. As of December 31, 2001, approximately $32 million has been accrued
in "Other long-term liabilities" representing an estimate of the costs to be
incurred in connection with Valero's assumption of these environmental
liabilities.
In 2000, the EPA issued to a majority of refiners operating in the United States
a series of information requests pursuant to Section 114 of the Clean Air Act as
part of an enforcement initiative. Valero received a Section 114 information
request pertaining to all of its refineries owned at that time. Valero completed
its response to the request and has provided additional clarification requested
by the EPA. After Valero received its Section 114 information request, Valero
acquired the Benicia Refinery and the Golden Eagle Refinery, which were subject
to Section 114 information requests received by the prior owners of these
refineries. Valero has not been named in any proceeding. However, based in part
upon announced settlements and evaluation of its relative position, Valero
expects to incur penalties and related expenses in connection with its potential
settlement of this enforcement initiative. Valero believes that any potential
settlement penalties and expenses will be immaterial to its financial position.
Valero believes that any potential settlement with the EPA in this matter will
require various capital improvements or changes in operating parameters or both
at some or all of Valero's refineries.
In connection with the Benicia Acquisition, Valero assumed all environmental
liabilities of ExxonMobil related to the acquired assets with certain
exceptions. Valero's assumed liabilities include remediation obligations
relating primarily to clean-up costs associated with refinery and terminal soil
and groundwater contamination. As of December 31, 2001, approximately $2 million
had been accrued in "Other long-term liabilities" in connection with Valero's
assumption of these environmental liabilities.
In connection with the acquisition of the Paulsboro Refinery, Mobil Oil
Corporation (now ExxonMobil) agreed to indemnify Valero for certain
environmental matters and conditions existing on or prior to the acquisition
date and Valero agreed to assume Mobil's environmental liabilities, with certain
limited exceptions. Certain of the environmental indemnities of ExxonMobil have
now expired. Indemnification for certain remediation obligations remains in
effect through 2003 for known conditions and 2005 for unknown conditions.
Valero's assumed liabilities include remediation obligations to the New Jersey
Department of Environmental Protection relating primarily to clean-up costs
associated with groundwater contamination, landfill closure and post-closure
monitoring costs, and tank farm spill prevention costs. As of December 31, 2001,
approximately $17 million is included in "Accrued expenses" and "Other long-term
liabilities" representing Valero's best estimate of its remaining costs to be
borne related to these remediation obligations. The majority of these costs are
expected to be incurred in relatively level amounts over the next 17 years.
112
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In connection with the acquisition of Basis Petroleum, Inc. from Salomon Inc in
1997, Valero received $9.5 million from Salomon in settlement of certain
contingent environmental obligations previously assumed by Salomon, and recorded
an accrual for the amount received. As of December 31, 2001, approximately $5.6
million of this accrual remained outstanding.
Valero believes that it has adequately provided for its environmental exposures
with the accruals referred to above. These liabilities have not been reduced by
possible recoveries from third parties. Environmental liabilities are difficult
to assess and estimate due to unknown factors such as the magnitude of possible
contamination, the timing and extent of remediation, the determination of
Valero's liability in proportion to other parties, improvements in cleanup
technologies, and the extent to which environmental laws and regulations may
change in the future. Although environmental costs may have a significant impact
on results of operations for a single period, Valero believes that these costs
will not have a material adverse effect on its financial position.
25. LITIGATION AND CONTINGENCIES
Unocal
On January 22, 2002, Union Oil Company of California (Unocal) filed a patent
infringement lawsuit against Valero in California federal court. The complaint
seeks a 5.75 cents per gallon royalty on all reformulated gasoline infringing on
Unocal's '393 and '126 patents. These patents cover certain compositions of
cleaner-burning gasoline. The complaint seeks treble damages for Valero's
alleged willful infringement of Unocal's patents. In a previous lawsuit, Unocal
prevailed against five other major refiners involving its '393 patent. In August
2001, the FTC announced that it would begin an antitrust investigation
concerning Unocal's conduct with a joint industry research group during the time
that Unocal was prosecuting its patents at the U.S. Patent and Trademark Office
(PTO). The FTC could potentially issue an injunction against Unocal's
enforcement of its patents as a result of the FTC investigation. In 2001, the
PTO began a reexamination of Unocal's '393 patent, and in January 2002, the PTO
issued a notice of rejection of all claims of the '393 patent. Unocal has the
opportunity to respond to the PTO's action. In January 2002, the PTO reversed an
earlier denial and began a reexamination of Unocal's '126 patent. Both
reexaminations could affect the scope and validity of the patents.
Notwithstanding the judgment against the other refiners in the previous
litigation, Valero believes that it has several strong defenses to Unocal's
lawsuit, including those arising from Unocal's misconduct, and Valero believes
it will prevail in the lawsuit. However, due to the inherent uncertainty of
litigation, there can be no assurance that Valero will prevail, and an adverse
result could have a material adverse effect on Valero's results of operations
and financial position.
MTBE Litigation
Valero has been named as defendant in several cases alleging MTBE contamination
in groundwater in New York, Texas and California. Complaints in the three New
York cases - including those in Berisha and O'Brien
113
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
v. Amerada Hess Corporation, et al., Case No. MDL 1358, Master File C.A. No.
1:00-1898 [SAS], United States District Court for the Southern District of New
York - allege that the gasoline suppliers produced and/or distributed gasoline
that is alleged to be defective because it contained MTBE. The four Texas cases
are based on the alleged discharge of gasoline into East Caddo Creek in Hunt
County, Texas on March 9, 2000 when a pipeline belonging to Explorer Pipeline
Company ruptured. Valero was named in City of Dallas v. Explorer Pipeline
Company, Inc., Valero Energy Corporation, et al., 160th State District Court,
Dallas County, Texas (filed May 14, 2001) and related private landowner cases.
The three California cases are primarily based on a product liability/product
defect theory. In the New York, Texas and California cases, the plaintiffs
generally seek individual, unquantified compensatory and punitive damages and
attorneys' fees. Valero believes it is unlikely that the final outcome of any
one of these claims or proceedings would have a material adverse effect on its
results of operations or financial position, but that an adverse result in a
majority of these cases could have a material adverse effect on Valero's results
of operations and financial position.
Teco Pipeline Company
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 were sued by Teco Pipeline Company regarding the
operation of a 340-mile pipeline in West Texas in which a subsidiary of Old
Valero owned a 50% undivided interest and Teco owned a 50% undivided interest.
A subsidiary of Old Valero was the operator of the pipeline. The plaintiff
asserted that the defendants acted in bad faith and negatively affected the
economics of the pipeline in order to provide financial advantages to facilities
or entities owned by the defendants. Arbitration of the matter began in February
2001 and concluded in the fourth quarter of 2001. In December 2001, the
arbitration panel ruled against the plaintiffs, and this matter was closed.
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 position, results of operations or
liquidity; however, due to the inherent uncertainty of litigation, the range of
possible loss, if any, cannot be estimated with a reasonable degree of 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.
114
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
26. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
Valero's results of operations by quarter for the years ended December 31, 2001
and 2000 were as follows (in thousands, except per share amounts):
2001 QUARTER ENDED(a)
-----------------------------------------------------------------------------------
MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 TOTAL
-------- ------- ------------ ----------- -----
Operating revenues.......... $3,769,288 $4,499,108 $3,858,734 $2,861,209 $14,988,339
Operating income............ 237,059 464,283 188,340 111,662 1,001,344
Net income.................. 136,082 274,863 101,013 51,595 563,553
Earnings per share of
common stock............. 2.23 4.50 1.66 0.86 9.28
Earnings per share of
common stock -
assuming dilution........ 2.13 4.23 1.58 0.82 8.83
2000 QUARTER ENDED(b)
-----------------------------------------------------------------------------------
MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 TOTAL
-------- ------- ------------ ----------- -----
Operating revenues.......... $2,928,617 $3,372,502 $ 4,248,831 $4,121,137 $14,671,087
Operating income............ 57,767 158,392 223,910 170,910 610,979
Net income.................. 30,739 87,680 127,356 93,345 339,120
Earnings per share of
common stock............. 0.55 1.56 2.08 1.53 5.79
Earnings per share of
common stock -
assuming dilution........ 0.54 1.51 2.01 1.47 5.60
(a) Includes the operations of the Huntway and El Paso Acquisitions beginning
June 1, 2001. Since the UDS Acquisition was completed on December 31, 2001,
its operations have not been included in these amounts.
(b) Includes the operations related to the Benicia Refinery and the
Distribution Assets beginning May 16, 2000 and the operations related to
the Service Stations beginning June 16, 2000.
115
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
27. SUBSEQUENT EVENTS
CASH DIVIDENDS AND DISTRIBUTIONS
On January 17, 2002, Valero's Board of Directors declared a regular quarterly
cash dividend of $0.10 per common share payable March 13, 2002, to holders of
record at the close of business on February 13, 2002.
On January 22, 2002, Valero L.P. declared a quarterly partnership distribution
of $0.60 per unit payable on February 14, 2002 to unitholders of record on
February 1, 2002. The total distribution is expected to be approximately $12
million of which $3 million is payable to minority unitholders.
SALES OF ASSETS
Diamond-Koch
On January 16, 2002, subsequent to the UDS Acquisition, Diamond-Koch entered
into a purchase and sale agreement with Enterprise Products Texas Operating L.P.
for the sale of the hydrocarbon storage facilities for $129.3 million, of which
$64.7 million was distributed to Valero in January 2002. On January 31, 2002,
Diamond-Koch entered into an asset purchase and sale agreement with Enterprise
Products Operating L.P. for the sale of the propane/propylene splitter facility
and related distribution pipeline and terminal for $238.5 million, of which
$119.3 million was distributed to Valero in February 2002. On March 1, 2002,
Diamond-Koch entered into an asset purchase and sale agreement with Teppco
Partners, L.P. for the sale of the natural gas liquids gathering and pipeline
system for $132.0 million, of which $66.0 million was distributed to Valero in
March 2002. Diamond-Koch is in the process of finalizing negotiations with
purchasers for the remaining assets and expects to complete the sale no later
than April 2002.
Golden Eagle Business
Pursuant to an agreement dated February 4, 2002, and subsequently amended on
February 20, 2002, Valero reached a definitive agreement with Tesoro to sell the
Golden Eagle Business for $1.125 billion, which includes an estimated $130
million for refinery feedstock and refined product inventories and is subject to
closing adjustments. The sales price includes the assumption by Tesoro of
various employee benefit and lease obligations, but excludes certain assets and
liabilities of the Golden Eagle Business that will be retained by Valero,
including accounts receivable, accounts payable, certain accrued liabilities and
income tax obligations. The sale is expected to close in April 2002, subject to
regulatory approval.
LEASE COMMITMENTS
In February 2002, Valero entered into a $170 million structured lease
arrangement to combine a portion of an existing structured lease assumed in the
UDS Acquisition related to the UDS headquarters facility with the funding of
planned construction to expand this facility for future use as Valero's new
corporate headquarters. The portion of the new arrangement related to the
existing UDS facility is being accounted for as an operating lease beginning in
February 2002, while the portion related to planned construction will be
accounted for as an operating lease upon completion of the construction. This
structured lease has a lease term that expires in
116
VALERO ENERGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
February 2007 and provides for up to two one-year renewal periods exercisable at
Valero's option. If Valero elects to renew the lease, Valero is required to
provide cash collateral in an amount equal to the residual value guarantee,
which is currently estimated to be approximately $146 million.
117
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEMS 10-13. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information on directors required by Items 10 through 13 of Form 10-K and
Items 401 and 405 of Regulation S-K is incorporated herein by reference to
Valero's definitive Proxy Statement which will be filed with the Commission by
April 30, 2002. Information concerning Valero's executive officers appears in
Part I of this report.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) 1. FINANCIAL STATEMENTS. The following Consolidated Financial
Statements of Valero Energy Corporation and its subsidiaries are included in
Part II, Item 8 of this Form 10-K:
PAGE
----
Report of independent public accountants..................................................................... 56
Consolidated balance sheets as of December 31, 2001 and 2000................................................. 57
Consolidated statements of income for the years ended December 31, 2001, 2000 and 1999....................... 58
Consolidated statements of stockholders' equity for the years ended
December 31, 2001, 2000 and 1999........................................................................ 59
Consolidated statements of cash flows for the years ended December 31, 2001, 2000 and 1999................... 60
Consolidated statements of comprehensive income for the years ended
December 31, 2001, 2000 and 1999........................................................................ 61
Notes to consolidated financial statements................................................................... 62
2. FINANCIAL STATEMENT SCHEDULES AND OTHER FINANCIAL INFORMATION. No
financial statement schedules are submitted because either they are inapplicable
or because the required information is included in the Consolidated Financial
Statements or notes thereto.
3. EXHIBITS. Filed as part of this Form 10-K are the following
exhibits:
2.1 -- Agreement and Plan of Merger, dated as of May 6, 2001, by
and among Valero Energy Corporation and Ultramar Diamond
Shamrock Corporation - incorporated by reference from
Exhibit 2.1 to Valero's Current Report on Form 8-K dated
May 6, 2001, and filed May 10, 2001.
*2.2 -- Sale and Purchase Agreement for Golden Eagle Refining and
Marketing Assets, dated February 4, 2002, between Ultramar
Inc. and Tesoro Refining and Marketing Company, including
First Amendment dated February 20, 2002.
118
2.3 -- Sale and Purchase Agreement For Exxon California Refining
and Marketing Assets, dated March 2, 2000, between
ExxonMobil Corporation and Valero Refining
Company-California - incorporated by reference from Exhibit
2.7 to Valero's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2000.
2.4 -- First Amendment dated May 14, 2000, to the Sale and
Purchase Agreement For Exxon California Refining and
Marketing Assets between Exxon Mobil Corporation and Valero
Refining Company-California - incorporated by reference
from Exhibit 2.1 to Valero's Current Report on Form 8-K
dated May 15, 2000, and filed May 30, 2000.
2.5 -- Agreement and Plan of Merger, dated as of January 31, 1997,
as amended, by and among Valero Energy Corporation, PG&E
Corporation, and PG&E Acquisition Corporation -
incorporated by reference from Exhibit 2.1 to Valero's
Registration Statement on Form S-1 (File No. 333-27013),
filed May 13, 1997.
2.6 -- Form of Agreement and Plan of Distribution between Valero
Energy Corporation and Valero Refining and Marketing
Company - incorporated by reference from Exhibit 2.2 to
Valero's Registration Statement on Form S-1 (File No.
333-27013), filed May 13, 1997.
3.1 -- Amended and Restated Certificate of Incorporation of Valero
Energy Corporation - incorporated by reference from Exhibit
3.1 to Valero's Registration Statement on Form S-1 (File
No. 333-27013), filed May 13, 1997.
3.2 -- Amendment to Restated Certificate of Incorporation of
Valero Energy Corporation - incorporated by reference from
Exhibit 3.1 to Valero's Current Report on Form 8-K dated
December 31, 2001, and filed January 11, 2002.
*3.3 -- Amended and Restated By-Laws of Valero Energy Corporation.
4.1 -- Rights Agreement between Valero Refining and Marketing
Company and Harris Trust and Savings Bank, as Rights Agent
- incorporated by reference from Exhibit 4.1 to Valero's
Registration Statement on Form S-8 (File No. 333-31709),
filed July 21, 1997.
4.2 -- Amended and Restated Declaration of Trust, dated as of June
28, 2000, of VEC Trust I (including Form of Preferred
Security) - 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.
4.3 -- Valero Energy Corporation Guarantee Agreement, dated as of
June 28, 2000, relating to VEC Trust I (including Form of
Preferred Security) - 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, dated as of December 12, 1997, between Valero
Energy Corporation and The Bank of New York - incorporated
by reference from Exhibit 3.4 to Valero's Registration
Statement on Form S-3 (File No. 333-56599), filed June 11,
1998.
119
4.7 -- First Supplemental Indenture, dated as of June 28, 2000,
between Valero Energy Corporation and The Bank of New York
(including Form of 7 3/4% Senior Deferrable Note due 2005)
- 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 -- 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.
4.9 -- 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 (including Form of Note) - 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.
+10.1 -- Valero Energy Corporation Executive Incentive Bonus Plan,
as amended, dated as of April 23, 1997 - incorporated by
reference from Exhibit 10.1 to Valero's Registration
Statement on Form S-1 (File No. 333-27013), filed May 13,
1997.
+10.2 -- Valero Energy Corporation Executive Stock Incentive Plan,
as amended, dated as of April 23, 1997 - incorporated by
reference from Exhibit 10.2 to Valero's Registration
Statement on Form S-1 (File No. 333-27013), filed May 13,
1997.
+10.3 -- Valero Energy Corporation Restricted Stock Plan for
Non-Employee Directors, as amended, dated as of April 23,
1997 - incorporated by reference from Exhibit 10.4 to
Valero's Registration Statement on Form S-1 (File No.
333-27013), filed May 13, 1997.
+10.4 -- Valero Energy Corporation Non-Employee Director Stock
Option Plan, as amended, dated as of April 23, 1997 -
incorporated by reference from Exhibit 10.5 to Valero's
Registration Statement on Form S-1 (File No. 333-27013),
filed May 13, 1997.
+10.5 -- Valero Energy Corporation 2001 Executive Stock Incentive
Plan, dated as of May 10, 2001 - incorporated by reference
from Appendix A to Valero's Definitive Proxy Statement on
Schedule 14A, filed March 28, 2001.
+10.6 -- Executive Severance Agreement between Valero Energy
Corporation and William E. Greehey, dated as of December
15, 1982, as adopted and ratified by Valero Refining and
Marketing Company - incorporated by reference from Exhibit
10.6 to Valero's Registration Statement on Form S-1 (File
No. 333-27013), filed May 13, 1997.
+10.7 -- Schedule of Executive Severance Agreements -
incorporated by reference from Exhibit 10.7 to Valero's
Registration Statement on Form S-1 (File No. 333-27013),
filed May 13, 1997.
+10.8 -- Form of Indemnity Agreement between Valero Refining and
Marketing Company and William E. Greehey - incorporated by
reference from Exhibit 10.8 to Valero's Registration
Statement on Form S-1 (File No. 333-27013), filed May 13,
1997.
+10.9 -- Schedule of Indemnity Agreements - incorporated by
reference from Exhibit 10.9 to Valero's Registration
Statement on Form S-1 (File No. 333-27013), filed May 13,
1997.
+10.10 -- Form of Incentive Bonus Agreement between Valero
Refining and Marketing Company and Gregory C. King -
incorporated by reference from Exhibit 10.10 to Valero's
Registration Statement on Form S-1 (File No. 333-27013),
filed May 13, 1997.
120
+10.11 -- Schedule of Incentive Bonus Agreements - incorporated by
reference from Exhibit 10.11 to Valero's Registration
Statement on Form S-1 (File No. 333-27013), filed May 13,
1997.
+10.12 -- Form of Management Stability Agreement between Valero
Energy Corporation and Gregory C. King - incorporated by
reference from Exhibit 10.14 to Valero's Annual Report on
Form 10-K for the fiscal year ended December 31, 1997.
+10.13 -- Schedule of Management Stability Agreements -
incorporated by reference from Exhibit 10.13 to Valero's
Annual Report on Form 10-K for the year ended December 31,
2000.
+10.14 -- Employment Agreement dated March 25, 1999, effective as
of April 29, 1999 between Valero Energy Corporation and
William E. Greehey - incorporated by reference from Exhibit
10.18 to Valero's Quarterly Report on Form 10-Q for the
quarter ended June 30, 1999.
+10.15 -- Extension of Employment Agreement dated January 30,
2001, between Valero Energy Corporation and William E.
Greehey - incorporated by reference from Exhibit 10.15 to
Valero's Annual Report on Form 10-K for the year ended
December 31, 2000.
*10.16 -- Refinery Lease Agreement dated May 25, 2001 between Coastal
Refining & Marketing, Inc. and Valero Refining
Company-Texas.
*10.17 -- Pipeline and Terminal Lease Agreement dated May 25, 2001
between Coastal Liquids Partners, L.P. and Valero Marketing
and Supply Company and Valero Pipeline Company.
*21.1 -- Valero Energy Corporation subsidiaries.
*23.1 -- Consent of Arthur Andersen LLP, dated March 5, 2002.
*24.1 -- Power of Attorney, dated March 12, 2002 (set forth on the
signature page of this Form 10-K).
--------------
* Filed herewith
+ Identifies management contracts or compensatory plans or arrangements
required to be filed as an exhibit hereto pursuant to Item 14(c) of Form
10-K.
Copies of exhibits filed as a part of this Form 10-K may be obtained by
stockholders of record at a charge of $.15 per page, minimum $5.00 each request.
Direct inquiries to Jay D. Browning, Vice President and Corporate Secretary,
Valero Energy Corporation, P.O. Box 500, San Antonio, Texas 78292.
Pursuant to paragraph 601(b)(4)(iii)(A) of Regulation S-K, the registrant has
omitted from the foregoing listing of exhibits, and hereby agrees to furnish to
the Commission upon its request, copies of certain instruments, each relating to
long-term debt not exceeding 10% of the total assets of the registrant and its
subsidiaries on a consolidated basis.
(b) REPORTS ON FORM 8-K. Valero did not file any Current Reports on Form 8-K
during the quarter ended December 31, 2001.
For the purposes of complying with the rules governing Form S-8 under the
Securities Act of 1933, the undersigned registrant hereby undertakes as follows,
which undertaking shall be incorporated by reference into registrant's
Registration Statements on Form S-8 No. 333-31709 (filed July 21, 1997), No.
333-31721 (filed July 21, 1997),
121
No. 333-31723 (filed July 21, 1997), No. 333-31727 (filed July 21, 1997), No.
333-81844 (filed January 31, 2002), and No. 333-81858 (filed January 31, 2002):
Insofar as indemnification for liabilities arising under the Securities Act of
1933 may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Securities Act
of 1933 and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment by the
registrant of expenses incurred or paid by a director, officer or controlling
person of the registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the registrant will, unless in
the opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question of whether such
indemnification by it is against public policy as expressed in the Act and will
be governed by the final adjudication of such issue.
122
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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/ William E. Greehey
--------------------------------------
(William E. Greehey)
Chairman of the Board, Chief Executive
Officer and President
Date: March 12, 2002
123
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, THAT EACH PERSON WHOSE SIGNATURE APPEARS BELOW
HEREBY CONSTITUTES AND APPOINTS WILLIAM E. GREEHEY, JOHN D. GIBBONS AND JAY D.
BROWNING, OR ANY OF THEM, EACH WITH POWER TO ACT WITHOUT THE OTHER, HIS TRUE AND
LAWFUL ATTORNEY-IN-FACT AND AGENT, WITH FULL POWER OF SUBSTITUTION AND
RESUBSTITUTION, FOR HIM AND IN HIS NAME, PLACE AND STEAD, IN ANY AND ALL
CAPACITIES, TO SIGN ANY OR ALL SUBSEQUENT AMENDMENTS AND SUPPLEMENTS TO THIS
ANNUAL REPORT ON FORM 10-K, AND TO FILE THE SAME, OR CAUSE TO BE FILED THE SAME,
WITH ALL EXHIBITS THERETO, AND OTHER DOCUMENTS IN CONNECTION THEREWITH, WITH THE
SECURITIES AND EXCHANGE COMMISSION, GRANTING UNTO EACH SAID ATTORNEY-IN-FACT AND
AGENT FULL POWER TO DO AND PERFORM EACH AND EVERY ACT AND THING REQUISITE AND
NECESSARY TO BE DONE IN AND ABOUT THE PREMISES, AS FULLY TO ALL INTENTS AND
PURPOSES AS HE MIGHT OR COULD DO IN PERSON, HEREBY QUALIFYING AND CONFIRMING ALL
THAT SAID ATTORNEY-IN-FACT AND AGENT OR HIS SUBSTITUTE OR SUBSTITUTES MAY
LAWFULLY DO OR CAUSE TO BE DONE BY VIRTUE HEREOF.
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT
HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT AND
IN THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE TITLE DATE
--------- ----- ----
Chairman of the Board
Chief Executive Officer
and President
/s/ William E. Greehey (Principal Executive Officer) March 12, 2002
-------------------------------
(William E. Greehey)
Executive Vice President
and Chief Financial Officer
(Principal Financial and
/s/ John D. Gibbons Accounting Officer) March 12, 2002
-------------------------------
(John D. Gibbons)
/s/ E. Glenn Biggs Director March 12, 2002
-------------------------------
(E. Glenn Biggs)
/s/ W.E. Bradford Director March 12, 2002
-------------------------------
(W.E. Bradford)
/s/ Ronald K. Calgaard Director March 12, 2002
-------------------------------
(Ronald K. Calgaard)
/s/ Donald M. Carlton Director March 12, 2002
-------------------------------
(Donald M. Carlton)
/s/ Jerry D. Choate Director March 12, 2002
-------------------------------
(Jerry D. Choate)
/s/ W.H. Clark Director March 12, 2002
-------------------------------
(W.H. Clark)
/s/ Robert G. Dettmer Director March 12, 2002
-------------------------------
(Robert G. Dettmer)
/s/ Ruben M. Escobedo Director March 12, 2002
-------------------------------
(Ruben M. Escobedo)
/s/ Bob Marbut Director March 12, 2002
-------------------------------
(Bob Marbut)
/s/ Susan Kaufman Purcell Director March 12, 2002
--------------------------------
(Susan Kaufman Purcell)
/s/ Bill Richardson Director March 12, 2002
-------------------------------
(William B. Richardson)
124
INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
------- -----------
2.1 -- Agreement and Plan of Merger, dated as of May 6, 2001, by and among Valero Energy Corporation
and Ultramar Diamond Shamrock Corporation - incorporated by reference from Exhibit 2.1 to
Valero's Current Report on Form 8-K dated May 6, 2001, and filed May 10, 2001.
*2.2 -- Sale and Purchase Agreement for Golden Eagle Refining and Marketing Assets, dated February
4, 2002, between Ultramar Inc. and Tesoro Refining and Marketing Company, including First
Amendment dated February 20, 2002.
2.3 -- Sale and Purchase Agreement For Exxon California Refining and Marketing Assets, dated March
2, 2000, between ExxonMobil Corporation and Valero Refining Company-California -
incorporated by reference from Exhibit 2.7 to Valero's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2000.
2.4 -- First Amendment dated May 14, 2000, to the Sale and Purchase Agreement For Exxon California
Refining and Marketing Assets between Exxon Mobil Corporation and Valero Refining
Company-California - incorporated by reference from Exhibit 2.1 to Valero's Current Report
on Form 8-K dated May 15, 2000, and filed May 30, 2000.
2.5 -- Agreement and Plan of Merger, dated as of January 31, 1997, as amended, by and among Valero
Energy Corporation, PG&E Corporation, and PG&E Acquisition Corporation - incorporated by
reference from Exhibit 2.1 to Valero's Registration Statement on Form S-1 (File No.
333-27013), filed May 13, 1997.
2.6 -- Form of Agreement and Plan of Distribution between Valero Energy Corporation and Valero
Refining and Marketing Company - incorporated by reference from Exhibit 2.2 to Valero's
Registration Statement on Form S-1 (File No. 333-27013), filed May 13, 1997.
3.1 -- Amended and Restated Certificate of Incorporation of Valero Energy Corporation -
incorporated by reference from Exhibit 3.1 to Valero's Registration Statement on Form S-1
(File No. 333-27013), filed May 13, 1997.
3.2 -- Amendment to Restated Certificate of Incorporation of Valero Energy Corporation -
incorporated by reference from Exhibit 3.1 to Valero's Current Report on Form 8-K dated
December 31, 2001, and filed January 11, 2002.
*3.3 -- Amended and Restated By-Laws of Valero Energy Corporation.
4.1 -- Rights Agreement between Valero Refining and Marketing Company and Harris Trust and Savings
Bank, as Rights Agent - incorporated by reference from Exhibit 4.1 to Valero's Registration
Statement on Form S-8 (File No. 333-31709), filed July 21, 1997.
4.2 -- Amended and Restated Declaration of Trust, dated as of June 28, 2000, of VEC Trust I
(including Form of Preferred Security) - 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.
4.3 -- Valero Energy Corporation Guarantee Agreement, dated as of June 28, 2000, relating to VEC
Trust I (including Form of Preferred Security) - 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, dated as of December 12, 1997, between Valero Energy Corporation and The Bank of
New York - 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 (including Form of 7 3/4% Senior Deferrable Note due 2005) -
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 -- 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.
4.9 -- 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
(including Form of Note) - 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.
+10.1 -- Valero Energy Corporation Executive Incentive Bonus Plan, as amended, dated as of April 23,
1997 - incorporated by reference from Exhibit 10.1 to Valero's Registration Statement on
Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.2 -- Valero Energy Corporation Executive Stock Incentive Plan, as amended, dated as of April 23,
1997 - incorporated by reference from Exhibit 10.2 to Valero's Registration Statement on
Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.3 -- Valero Energy Corporation Restricted Stock Plan for Non-Employee Directors, as amended,
dated as of April 23, 1997 - incorporated by reference from Exhibit 10.4 to Valero's
Registration Statement on Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.4 -- Valero Energy Corporation Non-Employee Director Stock Option Plan, as amended, dated as of
April 23, 1997 - incorporated by reference from Exhibit 10.5 to Valero's Registration
Statement on Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.5 -- Valero Energy Corporation 2001 Executive Stock Incentive Plan, dated as of May 10, 2001 -
incorporated by reference from Appendix A to Valero's Definitive Proxy Statement on Schedule
14A, filed March 28, 2001.
+10.6 -- Executive Severance Agreement between Valero Energy Corporation and William E. Greehey,
dated as of December 15, 1982, as adopted and ratified by Valero Refining and Marketing
Company - incorporated by reference from Exhibit 10.6 to Valero's Registration Statement on
Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.7 -- Schedule of Executive Severance Agreements - incorporated by reference from Exhibit 10.7 to
Valero's Registration Statement on Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.8 -- Form of Indemnity Agreement between Valero Refining and Marketing Company and William E.
Greehey - incorporated by reference from Exhibit 10.8 to Valero's Registration Statement on
Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.9 -- Schedule of Indemnity Agreements - incorporated by reference from Exhibit 10.9 to Valero's
Registration Statement on Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.10 -- Form of Incentive Bonus Agreement between Valero Refining and Marketing Company and Gregory
C. King - incorporated by reference from Exhibit 10.10 to Valero's Registration Statement on
Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.11 -- Schedule of Incentive Bonus Agreements - incorporated by reference from Exhibit 10.11 to
Valero's Registration Statement on Form S-1 (File No. 333-27013), filed May 13, 1997.
+10.12 -- Form of Management Stability Agreement between Valero Energy Corporation and Gregory C. King
- incorporated by reference from Exhibit 10.14 to Valero's Annual Report on Form 10-K for
the fiscal year ended December 31, 1997.
+10.13 -- Schedule of Management Stability Agreements - incorporated by reference from Exhibit 10.13
to Valero's Annual Report on Form 10-K for the year ended December 31, 2000.
+10.14 -- Employment Agreement dated March 25, 1999, effective as of April 29, 1999 between Valero
Energy Corporation and William E. Greehey - incorporated by reference from Exhibit 10.18 to
Valero's Quarterly Report on Form 10-Q for the quarter ended June 30, 1999.
+10.15 -- Extension of Employment Agreement dated January 30, 2001, between Valero Energy Corporation
and William E. Greehey - incorporated by reference from Exhibit 10.15 to Valero's Annual
Report on Form 10-K for the year ended December 31, 2000.
*10.16 -- Refinery Lease Agreement dated May 25, 2001 between Coastal Refining & Marketing, Inc. and
Valero Refining Company-Texas.
*10.17 -- Pipeline and Terminal Lease Agreement dated May 25, 2001 between Coastal Liquids Partners,
L.P. and Valero Marketing and Supply Company and Valero Pipeline Company.
*21.1 -- Valero Energy Corporation subsidiaries.
*23.1 -- Consent of Arthur Andersen LLP, dated March 5, 2002.
*24.1 -- Power of Attorney, dated March 12, 2002 (set forth on the signature page of this Form 10-K).
--------------
* Filed herewith
+ Identifies management contracts or compensatory plans or arrangements
required to be filed as an exhibit hereto pursuant to Item 14(c) of Form
10-K.