Valero Energy Q2 Earnings Call Transcript

123jump.com Staff
09 Aug, 2009
New York City

Oil refiner Valero reported about 50% drop in earnings in second quarter to $17.93 billion and net loss of $254 million or $0.48 per share, which compares to $734 million of net income or $1.37 per share in the second quarter of 2008.

Valero Energy Corporation ((VLO))
Q2 2009 Earnings Call Transcript
July 28, 2009 11:00 a.m. ET

Executives

Ashley Smith – Vice President, Investor Relations
Michael Ciskowski – Executive VP and Chief Financial Officer
Rich Marcogliese – Executive VP and Chief Operating Officer
Joseph Gorder – Executive VP, Marketing and Supply
William Klesse - Chairman, President and Chief Executive Officer

Analysts

Jeff Dietert – Simmons & Co
Paul Sankey - Deutsche Bank
Arjun Murti - Goldman Sachs
Paul Cheng - Barclays Capital
Neil McMahon - Sanford Bernstein
Faisel Khan - Citigroup
Chi Chow - Tristone Capital
Mark Gilman – The Benchmark Company
Blake Fernandez - Howard Weil
Jason Gammel – Macquarie Research
Cory Garcia - Raymond James

Presentation

Operator

Good morning. My name is Molly and I will be your conference operator today. At this time, I’d like to welcome everyone to the Valero Energy Corp. second quarter 2009 earnings conference call. All lines have been placed on-mute to prevent any background noise. After the speakers'' remarks, there will be a question-and-answer session. (Operator instructions) If you’d like to ask a question during this time simply press * then the number 1 on your telephone keypad. If you’d like to withdraw your question, press the pound key.

Thank you. Mr. Smith. You may begin your conference.

Ashley Smith – Vice President of Investor Relations

Thank you, Molly. Good morning and welcome to Valero Energy Corporation''s second quarter 2009 earnings conference call. With me today are Bill Klesse, our Chairman and CEO; Mike Ciskowski, our CFO; and other members of our executive management team. If you have not received the earnings release and would like a copy, you can find one on our website at valero.com. Also attached to the earnings release are table that provides additional financial information on our business segment. If you have any questions after reviewing these tables, feel free to contact me after the call.

Before we get started, I’d like to direct your attention to the forward-looking statement disclaimer contained in the press release. In summary, it says that statements in the press release and on this conference call that states the company''s or management''s expectations or predictions of the future, are forward-looking statements intended to be covered by the Safe Harbor provisions under Federal Securities Laws. There are many factors that could cause actual results to differ from our expectations, including those we''ve described in our filings with the SEC.

Now, I will turn the call over to Mike.

Michael Ciskowski – Chief Financial Officer

Thanks Ashley, and thank you for joining us today. As noted in the release, we reported a second quarter 2009 net loss of $254 million or $0.48 per share, which compares to $734 million of net income or $1.37 per share in the second quarter of 2008. The second quarter 2009 operating loss was $317 million versus $1.2 billion of operating income in the second quarter of 2008. The decrease in operating income was mainly due to much lower refining margins on diesel and jet fuel and significantly lower sour crude oil discounts versus the same quarter last year.

For example, benchmark Gulf Coast diesel margins versus WTI decreased 79% from $28.85 per barrel in the second quarter of 2008 to $6.16 per barrel in the second quarter of 2009. Regarding crude oil discounts, the Maya heavy sour crude oil discounts versus WTI decreased 78% from $21 in the second quarter of 2008 to $4.57 per barrel in the second quarter of 2009. Also the discounts to WTI on the Mars medium sour crude oil decreased 69% to $2.19 per barrel over the same timeframe. Our second quarter refinery throughput volume averaged 2.5 million barrels per day which was in the range of our guidance, but 257,000 barrels per day below the second quarter of 2008. This decrease in volume was mainly due to lower utilization rates, unscheduled downtime of McKee and Delaware City and the reduction in capacity from the sale of the Krotz Springs Refinery in 2008.

Refinery cash operating expenses were $4.30 per barrel or $0.10 per barrel below our guidance and $0.23 per barrel below the second quarter 2008, due mainly to lower energy cost, which was partially offset by write-offs on our cancelled projects. General and administrative expenses excluding corporate depreciation were $124 million in the second quarter. The decrease of $21 million versus the first quarter and $16 million versus our guidance were primarily due to lower expenses or incentive compensation and the legal reserves. For the second quarter, total depreciation and amortization expense was $389 million, which was in line with our guidance, but higher than the first quarter of 2009, due mostly to the addition of the ethanol plant. Interest expense net of capitalized interest was $82 million, which was lower than our guidance, mainly due to the reversal of accrued interest on a sales tax audit that settled in our favor.

The effective tax rate was 40%. Considering the loss for the quarter, this rate was favorable to the guidance rate of 31%, due to the use of federal tax credits and state tax benefits. Regarding cash flows for the second quarter, capital spending was $698 million, which includes $82 million of turnaround and catalyst expenditures. We are still on track to come in around $2.5 billion for total capital and turnaround cost this year.

Also in the quarter, we paid $78 million in dividends on our common stock and we paid off $209 million of debt that matured in April. And we also acquired the ethanol plants for $556 million, which included working capital. With respect to our balance sheet at the end of June, total debt was $7.4 billion. We ended the quarter with a cash balance of $1.6 billion, which includes the $799 million of net proceeds from the equity offering in early June and we had over $4.6 billion of additional liquidity available. At the end of the quarter, our debt-to-cap ratio net of cash was 25.9%. As to the refining outlook, low product margins and narrow sour crude discounts were the key drivers of our second quarter operating loss. Although, product cracks had rebounded recently, we expect refining margins and sour crude discounts for the third quarter to be similar to what we experienced in the second quarter, which means we could have another loss. And the fourth quarter could be just as challenging. What is needed is a sustained recovery in the economy to drive growth and demand for refined products and to also pull lower quality crude oils on to the market. This leads into Valero strategy, which is to maintain our financial health by cutting costs, optimizing our assets and preserving cash.

Our major growth projects, the two hydrocrackers on the Gulf Coast have been placed on hold until we have better visibility on the need for that capacity. We have a comfortable cash balance, partly because of the equity offering in June, which was conducted to ensure we had a strong balance sheet to weather a low margin environment and to complete the acquisition of the interest in the TRN refinery, which we believe, was a high-quality asset at a good price. Although, we didn’t move forward on that transaction, we are not in a hurry to do any acquisition. For now, we will continue to focus on what is in our control, our cost structure and our refinery operation.

Now, I will turn it over to Ashley, to cover the earnings and model assumptions.

Ashley Smith

Thanks Mike. While modeling our third quarter operation, you should expect the following refinery throughput volumes. Gulf Coast should average between, 1.2 to 1.25 million barrels per day. Mid-Continent should average between 360,000 and 370,000 barrels per day. West Coast should average between 270,000 and 280,000 barrels per day. And the North East should average between 500,000 to 510,000 barrels per day. Refinery cash operating expenses are expected to be about $4.50 per barrel. Regarding our ethanol operation in the third quarter, we expect total throughput volumes of 2.2 million gallons per day and operating expenses should average approximately $0.30 per gallon, including $0.03 per gallon for non-cash costs such as depreciation and amortization. With respect to some of the other items for the third quarter, we expect G&A expense including depreciation to be around $135 million. Net interest expense should be around $110 million. Total depreciation and amortization expense should be around $385 million and we estimate a 30% effective tax rate.

We will now open the call for questions. Molly, if you will go ahead and queue up the questions, we’ll wait for those.

Question-and-Answer Session

Operator

(Operator instructions) At this time we’ll like to remind everyone in order to ask a question, please press * then the number 1 on your telephone keypad now. And we’ll pause for just a moment to compile the Q&A roster. Your first question comes from the line of Jeff Dietert with Simmons.

Jeff Dietert – Simmons & Co

Good morning, Jeff Dietert with Simmons.

Ashley Smith

Good morning.

Jeff Dietert – Simmons & Co

In your press release, you talked about considering monitoring refineries for potential run cuts and shutdowns of units or other plants in addition to Aruba. Could you talk about the process that you go through in that evaluation?

Rich Marcogliese

Jeff, this is Rich Marcogliese, COO. We obviously are watching the gross margin contribution of all of our refineries and that has a strong relationship to the kind of heavy sour crude discounts we have been looking at. We are reviewing our refining system in addition to Aruba. On Aruba, we have placed the refinery on what I’d call as kind of a hot mothball status where we are conducting maintenance on the refinery. We have retained all of our employees, but we have made an initial reduction on kind of the daily contractors that would support an active plant’s operation. Should the plant move into a cold shutdown status that would involve additional steps, that would potentially impact employees and additional contractor reductions. There are some required notifications in that process that would take place of a regulatory nature and then of course there is a WARN Act which requires a 60-day notice of any potential employee layoff impacts.

Jeff Dietert – Simmons & Co

And do I understand correctly, you review that again in September with a potential of bringing it back up if the economy and demand recover?

Rich Marcogliese

Yes, we are going to make a reassessment of where we are in Aruba in a couple of months and take a look at the margin contribution going forward to see if we should change it back into an active run status.

Jeff Dietert – Simmons & Co

Am I thinking about things correctly that you are buying crude 30 to 60 days in advance, so your July and August runs are a pretty well already established absent any kind of unplanned downtime?

Joseph Gorder

Yes. This is Joe. And that’s a fair assessment. We have been buying crude to run at minimum run rate. We really changed the nature of our purchasing activities. Historically, we have been probably 60% contract and 40% spot. Now it is the reverse and we are running at much higher volumes at spot barrels, which gives us more flexibility.

Jeff Dietert – Simmons & Co

Would you avoid building crude inventories in this environment, or, is that a possibility as well?

Joseph Gorder

Well, it’s something that we are taking a look at. I mean, clearly, with the market structure the way it is, the economics would support storage place and we are seeing a lot of that out there. So we are considering the opportunity to do that.

Jeff Dietert – Simmons & Co

Thank you for your comments.

Operator

Your next question comes from the line of Paul Sankey with Deutsche Bank.

Paul Sankey - Deutsche Bank

Hi guys, Paul Sankey with Deutsche Bank, just an immediate follow-up to that. Does that mean you are not building inventories right now? Is that how I read that, or, could you just describe a bit about how you’re handling inventory at this particular stage? Thanks.

Rich Marcogliese

Well, clearly, it doesn’t pay to store gasoline right now. So we have been keeping our gasoline inventories at absolute minimums. We have been looking at storage place on the distilling side and we have done some of those. And then on the crude side, we are looking at the economics to do that today. The issue is how you go about doing it? What would be the mechanics? And lot of people, are storing oil offshore on ships and that is one of the options we are considering. We also have tankage available and we look at the options to do that also.

Paul Sankey - Deutsche Bank

I understand and I think is it fair to say that regionally within the US, it’s more likely to happen Gulf to offshore, then for example, our suspicion is that Mid-Con tanks are pretty much full up now.

Rich Marcogliese

You’re right.

Paul Sankey - Deutsche Bank

Great, back to a high-level question, my original question was really regarding the cost savings that you’ve talked about perhaps some more on expenses. You said you’ve saved $250 million since ’07. If I recall rightly, it was a target to get to $1 billion within five years, I think ’06 back-end loaded. Could you just update us on how those costs might be saved in the context of that original target? Thanks.

William Klesse

Well, let me speak first to the $250 million. What we are doing there is that’s more of a corporate initiative that is around the company and also dealt with contractors at the refineries. So for instance, we outsourced medical clients. We use to do our own medical claims in the company. To give you example, that’s been a $12 million savings for us. By the cost that we incurred with our own employee is doing that and then also because of the provider was able to do this, get us discounts on the medical. So that was just one example. It also included a big reorganization in our retail group where they have saved $15 million to $25 million on the things that we have done over there. So it’s a, it’s all throughout our company. I mean, I joke about it but this is a pennies business. The parking garage lights now get turned off at night and that’s about $60,000 a month for us. But this is our business. This is what this business is made up of. And so we have many, many examples of that.

Now this is a little different initiative. There is a little bit of overlap to the $1 billion program. And the $1 billion program envisions reliability, energy and then other expenses. And there, we are only a little over $100 million when you actually attack the $1 billion and that program is like, we’ve had a lot of trouble with reliability and then of course as energy prices have fallen, the price is not as big, because we primarily use natural gas. The price is not as big as it was before. So we have, we still are working on that program. But our goal for this year, at the end of the year is $200 million. It will be a little over $200 million by the end of the year, but we have lagged on that program.

Paul Sankey - Deutsche Bank

Okay, I understand Bill. And then if we could just, thanks, and if we could just go on to expenses, in the case of a total shutdown at Aruba or anywhere else, is there a sense of how much the cost of that would be?

William Klesse

There is a sense we would have severance, of course that’s negotiable to a point in Aruba. There are certain laws. We do have contracts. There will be other costs incurred. We have a number but I’d prefer to keep that to ourselves.

Paul Sankey - Deutsche Bank

And then, does the refinery get dismantled?

William Klesse

What we would at this point in time is basically mothball the plant if that’s what happened. That plant is still on the market. There are still people that are interested that have a different strategy. There are several opportunities with adjacent countries that you could put a transaction together. I will remind you that cokers there are very good. There is a lot of hydrogen generating, we’ve desulfurized. There is a lot of assets there, tankage but you have to have a integrated play here and thus some of the people there we are still talking to that are interested in that refinery have an integrated approach.

Paul Sankey - Deutsche Bank

Sure, I understand. But from a kind of an industry-wide point of view, what we would expect is the plants to be mothballed and then to continue to, I guess have a minor OpEx associated with them on a go-forward basis until demand recovers.

William Klesse

I think that’s very fair.

Paul Sankey - Deutsche Bank

Okay. I had one last one. I am sorry to ask so many questions. But Mike just to clarify, I think, did you say that the current market conditions for Q3 would mean another loss and possibly a similar situation in Q4? I was just wondering because obviously margins have rallied very strongly over the past couple of weeks. Are you talking about Q3 to date or current margins or –

Michael Ciskowski

Okay. We are just talking, what I am talking about is, there is the potential for a loss in the third quarter. If you look at the month-to-date prices and in our fourth, third quarter projections, the product cracks don’t look that bad, but the sour cracks products are still under a lot of pressure. So there is the potential for another loss in the third quarter.

William Klesse

If you actually look at our numbers, as Mike just said, the gasoline crack is frankly, excellent. On the distillate crack it’s not that bad. But the Maya discount yesterday was less than $4 compared to the number we had for the second quarter last year just to give you an idea it was $21. And you can’t look at it straight up like that, it really needs to deal in a percentage, but the percentage is very low. From my end, if you look at Mars, that is also very low. And so the issue that heavy, complex refiners such as Valero are having is with all the medium sour, heavy sour discounts. It is a huge change and that was of course the reason for our earnings guidance in the second quarter. And this is why Mike is saying, unless we see some improvement primarily in heavy sour discounts and medium sour discounts that would be our anticipation for the third quarter and the fourth quarter would be just as challenged.

Paul Sankey - Deutsche Bank

I don''t want to go too much into the available time, so I will leave it there. Thanks a lot guys.

Ashley Smith

Thanks, Paul.

Operator

Your next question comes from the line of Arjun Murti with Goldman Sachs.20:58

Arjun Murti - Goldman Sachs

Thank you, maybe a follow-up to all these questions. Valero, historically, longer-term has had a pretty constructive deal with sour spreads and light heavy spreads. Has your long-term view changed as result of whether it’s mix in declines and so forth and as you consider potentially shutting down or selling some refineries it might be some of those more complex facilities, whereas in the past, we would have probably thought it was in more of your light suite facilities. Thank you.

William Klesse

Our view certainly has changed on heavy sours, medium sours after that and for the rest of this year what has to happen is we have to get oil production increasing in the world. We need more of a 1%, 3% number 6 fuel oil back into the world, which would come from the Middle East crudes being produced at a higher rate running through the hydro skimmers. If you actually look at the number 6 fuel oil percentage of WTI price, you will see that percentages are very high or the discount is very low. So fuel oil tends to be tight and fuel oil in influencing all of the – certainly influences the heavy sour, but it also influences the medium sours. And so we need to have the economic growth get back into the business. So we get in the 2010 and where oil production is now forecast to increase instead of decreasing like it is this year somewhere in the range of 1.7 million to 2 million barrels a day and that’s on top of a decrease in 2008. So 2010, we get the increase somewhere between 1.5 million and 2 million barrels a day. So that would help those. Now on the other side of this, it’s much easier to have these cokers in the refineries and they basically have paid out, so they are there. Now we are doing projects to produce more fuel oil in our system. But the coker is there and we have this opportunity that no one else has. It’s much easier for us to go back riding all out on a coker operation than it would be for somebody else to rather build a coker to that.

So our view hasn’t changed in the long run, but it certainly has changed in the short run. We still expect the medium crude to come to the US Gulf Coast. We still think it was a competitive advantage to have that hardware that can burst this stuff up and make quality products. But short run, you’re absolutely right.

Arjun Murti - Goldman Sachs

Yes, that’s very helpful, Bill. If I can maybe paraphrase just to make sure I understand it correctly. In the short term or however long these narrow spreads last, those particularly complex facilities you have where the investments are paid out as you mentioned, you might have meaningfully lower run rates. But you’re probably not looking to kind of permanently mothball or sell those types of assets then you will be keep them for the days when OPEC production re-increase and the economy comes back. So it really is still probably more the fourth quartile light sweet refine issue and what have you that would be more on the block so to speak for investment or real closure?

William Klesse

Yes. But it also has a reliability component. There is also the capital investment component, technically, a refinery, because you can adjust the operating rates. So typically, you can get a refinery where maybe it’s breaking even by, and I am talking now from, on a cash basis by operations. But then if you are required to put in a lot of capital spending, that can put you over the hump to say the future doesn’t look as good. So the fourth quartile, third quartile type refineries that need a lot of capital, that are kind of just breaking even can be sweet or sour. Aruba is a sour refinery, heavy sour. But it doesn’t have any upgrading capability there. So your liquid volume yield loss through that refinery is very large when you consider it’s just a coking plant. So there is a little more to this than just saying the light sweet refineries. Frankly, today, our light sweet refineries are making money for us.

Arjun Murti - Goldman Sachs

That is really helpful and I appreciate your answers. Thank you.

Operator

Your next question comes from the line of Paul Cheng with Barclays Capital.

Paul Cheng - Barclays Capital

Hi guys. Bill, I think maybe two years ago that you have looking at your portfolio and identified there is about 10 to 11 coal holding. Is that lease being changed or there is still pretty much the same list if you are looking at today?

William Klesse

The list today would, it would be changed, but it’s academic, because there is really not a market for some of these refineries anyway, at least at the price we would want. But the point is we did not anticipate such a dramatic fall in the medium and heavy sours discounts. And we did not see that coming discount falling. We never thought they would stay at $21 and $18. But we didn’t see the Maya discounts being just a little over $3 and we didn’t see the Mars discount here that’s less than a $1. So we did not see that coming. We have a couple of plants that are sweet, that are very well run operations.

Paul Cheng - Barclays Capital

And Bill, when you are looking at in the second quarter, I think it looked quite clear that Aruba and Delaware City probably lost money. Other than those two that is there, any refinery in your portfolio really is a big money losing operation?

William Klesse

Well, your assessment would be correct on those two. We also have a couple other plants that are not generating income.

Paul Cheng - Barclays Capital

And will you be willing to share what are those?

William Klesse

I would prefer not to.

Paul Cheng - Barclays Capital

Okay. And in the second quarter, is there any meaningful hedging or trading gain or loss?

William Klesse

Yes. Mike?

Michael Ciskowski

Yes. In the second quarter, we had a, from our hedging, we had a $99 million loss.

Paul Cheng - Barclays Capital

And Mike, where is that? Is it in the Gulf Coast or is it spread across?

Michael Ciskowski

That’s pretty much allocated across our refining segment based on throughput.

Paul Cheng - Barclays Capital

Okay. And Mike since I got you here, can I just gather number of balance sheet item? What is your inventory market in excess of the book working capital and that the long-term debt component of the total debt?

Michael Ciskowski

Okay. What we have on our, I will give you the market in excess of book is $3 billion at the end of June. Our balance sheet items, total current assets are $11.2 billion. Cash is $1.6 billion. So the current assets less cash, is $9.6 billion. Current liabilities totaled $7.3 billion. Current maturities are just $137 million. So our current liabilities less maturities, is $7.2 billion. And then net working capital is $2.4 billion. And then total long-term debt and capital leases is $7.4 billion.

Paul Cheng - Barclays Capital

Thank you. And that Bill and Mike, is there a number you guys can share about the capital spending for 2010 yet?

William Klesse

Yes, we are targeting around $2 billion, but it will most likely be between $2 billion and $2.5 billion. And part of that’s driven because of our 114, where at Benicia we are building a scrubber and there is an advantage, a tax advantage for us to finish that scrubber by December 2010, and that’s a large project when you consider the heater scrubber, it’s $650 million. And we also have the same set too which is the benzene, where we lower the benzene in gasoline for our whole system to get down to the 0.62 or less, we are spending $550 million effect January 1st of ’11. And so those projects, we need to finish. So the spending will be in a $2 billion to $2.5 billion range.

Paul Cheng - Barclays Capital

Right and should we assume that outlook? That the sustainable capital is about in the 1.5 to 1.7?

William Klesse

Yes. We use 1.8. 1.8, until we finish the 114. And that finishes over the next couple of years and that will drops down to the 1.5.

Paul Cheng - Barclays Capital

Okay, terrific. And Bill I know, I understand the sensitivity on Aruba, can you tell you us that what is the current book value sitting on your book and also that mark maybe the annual labor cost for Aruba?

William Klesse

We would say the book value –

Michael Ciskowski

The book value is about $1 billion on Aruba.

William Klesse

And the annual labor costs…

Michael Ciskowski

We have about 650 employees on Aruba. So you have to make some assumptions on what the average.

William Klesse

We are trying to get you an answer here. Plant’s operating cost around $200 million. We have 650 employees in Aruba. We don’t have the number. Why don’t maybe Paul you could call Ashley and we will be glad to give it to you.

Paul Cheng - Barclays Capital

Okay. That will be great. And Bill can you perhaps help us understand a little bit why Delaware City in the second quarter would be as bad. I mean I understand they have operating upside. But it seems like there is a huge loss that they suffered and the margin was so bad. So…

Rich Marcogliese

Well, Paul, let me just make a couple of comments on the quality of the operations. It’s been very difficult for the whole first half of the year. A lot of this originated with a major utility upset that we had on February 16th at which time we concluded that we needed to take the entire plant down for maintenance particularly in the utility area and the plants remained down through about late April, early May. In the attempted restart of the refinery in early May, we had an additional upside on the fluid coker which required a second outage. So just to give you a sense for where we were, we’ve had 110 days of accumulated loss coker runs in the first half of this year, 67 days in the second quarter. And when you have the coker down at Delaware City, you also are unable to run the coke gas and fire. So this was about as how difficult it was with the first half and second quarter as you can imagine and had a significant impact on the gross margin of that refinery.

Paul Cheng - Barclays Capital

I see. And Rich, I think when you guys did announce the second quarter earnings a couple of months ago, you had indicated that what is the total trend and trend downtime, their opportunity cost set to their company. And at that time, I think you were talking about $200 million. Is that number being changed to be much higher now that we have the actual and can you break it down into your four different operating regions for us, if you have a new number?

Rich Marcogliese

Well, I think we have the, we have the numbers in aggregate. For the first half, it’s about $245 million and then for the second quarter, it was about $140 million unscheduled downtime impact.

Paul Cheng - Barclays Capital

Okay. Final one, in ethanol, I presume that the operating cost in the second quarter at $0.32 that is not including the transportation cost and transportation cost is net of the operating margin that you guys indicated as $0.47?

Rich Marcogliese

I think the transportation is included in that number of variable cost.

Paul Cheng - Barclays Capital

In the $0.32?

Michael Ciskowski

Yes.

Paul Cheng - Barclays Capital

That seems…

Rich Marcogliese

We will get our ethanol on a net backed basis to the plant. So…

Michael Ciskowski

The way we report it Paul is in OpEx. Transportation is not in OpEx.

Paul Cheng - Barclays Capital

The transportation is not in OpEx, so I guess net of the margin the way that you report.

Michael Ciskowski

In our refinery.

Paul Cheng - Barclays Capital

Okay. Perfect. Thank you.

Operator

Your next question comes from the line of Neil McMahon with Sanford Bernstein.

Neil McMahon - Sanford Bernstein

Hi, just a few questions. And other than the Mayan crude, what other sources of heavy or sour have you seen missing from the market or is it mainly some of the Saudi volumes and also Venezuela. I am just trying to think in terms as we go forward, we certainly expect OPEC volumes have to increase towards the end of the year and into next year. Just wondering when your heavy or sour sources of barrels will come on to the market?

Joseph Gorder

Right well, clearly the production of Maya crude is down. And we are not seeing as much in the marketplace. The OPEC run cuts have pulled the heavy and sour barrels out of the marketplace also. Venezuela on the other hand has been a much increased source of supply for us. In fact, I would tell you that we have really backfilled the production of Maya barrels with Venezuelan crudes, largely because of economics, but also because of availability. And then we have replaced Saudi barrels in our system with US Gulf Coast medium sour barrels which traded at better prices than the Saudi barrels right now. Longer-term as Bill mentioned earlier, I think it’s going to take economic recovery, which will increase demand, increase refinery runs and then OPEC will increase production and then we should see the sour discounts return.

Neil McMahon - Sanford Bernstein

So if we may take out the Maya situation, it’s basically Saudi volumes that have come off the market, that’s been the major impact for you.

Joseph Gorder

That’s correct.

Neil McMahon - Sanford Bernstein

Okay. And second question, maybe a bit of a strange one. Given your evaluation, have you had any M&A interest on yourselves? There are certainly a few companies out there that have acquired in the last six to 12 months some refineries like national oil companies and potentially some would like a position in the US based on their own strategies. Have you had any people knocking on your door?

William Klesse

I don’t think I can comment on something like that.

Neil McMahon - Sanford Bernstein

Okay. And just a final question, some investors have been asking me, and given the fact that you are not doing an acquisition in Europe, have you considered giving the cash back to investors or are we simply in a situation that given your near-term outlook on the refining environment, it’s just prudent having the cash on hand?

William Klesse

That’s a very fine question and we have gotten that question from other people. Technically, we are still on the hook for the TRN refinery. The way the contract is written, if their deal were to fall apart with Total and Lukoil, then Dow could come back to us. You’re rest assured there would be some discussions. But we are still technically on the hook. The other point is though we had given you also some earnings guidance here and certainly are telling you our issues on these medium and heavy sour discounts. And so when I still look around the market and we see this whole cash and availability of cash, right now, we are going to keep a very strong balance sheet as we said in our press release and we are going to hang on to the cash.

Neil McMahon - Sanford Bernstein

Okay, thank you.

Operator

Your next question comes from the line of Faisel Khan with Citigroup.

Faisel Khan – Citigroup

Good morning.

Ashley Smith

Good morning.

Faisel Khan – Citigroup

I was wondering if you could reconcile something for me. So I think previously you talked about $99 million hedging loss, could you reconcile that with the $440 million decline that you guys talked about in derivative instruments in your second quarter ’09 interim update.

Michael Ciskowski

Right.

William Klesse

Okay. Mike, go ahead.

Michael Ciskowski

Yes, when we did the interim update it was about $440 million. And then what happened since then was the loss on the paper actually decreased about $50 million from that interim guideline.

William Klesse

So $140 million, the number he said, it was a $140-ish million when we did our preliminary announcement at the end of the month, because everything is mark-to-market. And so at the end of the month, it was a $100 million. Now in the first quarter, we told you we had almost $300 million of gains.

Faisel Khan – Citigroup

Okay, understood. And then on the ethanol, the ethanol segment for a second. The guidance you’re giving of 2.2 million gallons a day is about 30%, 35% higher than what you guys –

Michael Ciskowski

It is 2 million gallons.

Faisel Khan – Citigroup

I’m sorry, sorry 2 million gallons, 2.2 million gallons a day is higher by 30% higher than what you guys did in the second quarter. Is it fair to assume that if corn prices stay where they are that there is a linear relationship to the earnings generated in the second quarter going into the third quarter?

Rich Marcogliese

Well, biggest reason in the second quarter was through the plants who weren’t full operationally. When we lost a plant, we only had four of them running and we had startups to the three of the plants during various stages of the quarter. That’s the reason why we weren’t at the higher rate. Everything is running right now. We have got good margins and every plant we are running is actually full.

Faisel Khan – Citigroup

Okay.

Michael Ciskowski

And there were also like cost incurred in the second quarter to get those up. So you wouldn’t want to make those up linear to the run rates. So it’s a different environment.

Faisel Khan – Citigroup

Okay, got you. Then just going back to previous question on inventory, where would you guys stay right now your inventory levels are as a percentage of being full both for product and crude?

Joseph Gorder

I have no idea what our total tank capacity might be, but our inventory levels are about a 108 million barrels.

William Klesse

The reason that’s hard to answer is there is so much product and crude oil that’s in tran is that we either own, but it’s not in our tanks and somewhere come into as one way or another. But is this important to you, we will be glad to figure out what our tankage capacity is. We have it somewhere.

Faisel Khan – Citigroup

Okay great. I appreciate.

William Klesse

But Joe gave you the number of our total inventory. It’s 108 million barrels.

Faisel Khan – Citigroup

Okay, got you. Thank you. I appreciate the time.

Operator

Your next question comes from the line of Chi Chow with Tristone Capital.

Chi Chow - Tristone Capital

Thank you. Bill, I have got a question on carbon legislation which you made some comments on again in the press release. What’s the basis for the million job loss comments and also the $0.77 per gallon tax to consumer that you have outlined on the website?

William Klesse

Right, there is a study. We have a source on the million. There is a study for the million jobs and the heritage and the congressional budget office is the $0.77 number. And I will just, yes, there are plenty of studies. But I will put in perspective for you, because this is huge negative for the consumer, for the country. Our footprint is about 36 million metric tons. In the US, it’s about 30 million metric tons. If you say this legislation that we have to pass through or get charged for the CO2 omissions from burning the fuels that we generate, our estimate would be making it 10 times, so that’s 300 million metric tons. And then if you put 20, if you say these carbon credits are going to be $20 a metric ton now, then that becomes $6 billion and that $6 billion will have to pass through to the consumer, because they only gave the refiners free credit of 2% of the whole allotment. And if you look at it, the industry, if you add it all up, would be over 30% of the CO2 emissions. So these are huge numbers that has to get pass through. Do you have the source?

Michael Ciskowski

The source is, one of the study conducted by Charles River Associates for the National Association of Manufacturer, that’s on the job estimate, job loss estimate. And the other is the congressional budget office, the increase in price of gasoline.

Chi Chow - Tristone Capital

What is that 10 times multiplier that you talked about?

William Klesse

Well, the legislation is…our footprint as I say 30 million metric tons is the CO2 omissions from the refinery to take the crude to the products. And to the way the legislation works, we would be reliable for the CO2 emissions from the burning of the fuels that we have produced the products. And so we’re just using an estimate of 10 times because of all the fuel, like all the gasoline that gets burned. And so our footprint then for the CO2 emitted out of refinery to make, to produce gasoline and then the burning of the gasoline in the automobile would be 300 million metric tons. So, and then you have to pass all that cost.

Chi Chow - Tristone Capital

Got it.

William Klesse

We are the ones responsible for that, the way they drafted it. The big deal on foreign refiners is they would only responsible in this legislation out of the House for the CO2 emission as the consumer burn the fuel. They are not, they wouldn’t be liable then for the emissions at the refinery to make those fuels. So there''s an inherent bias to push through imports. This is legislation that I am sure every House member read.

Chi Chow - Tristone Capital

How do you think this is going to play out in the Senate and what is your desired outcome on carbon?

William Klesse

Well this is ludicrous legislation. And we believe that the Senate and also during this interim here more data is coming out, there is rush, rush to get things in that, there is more data coming out on the impact of this proposed legislation. So we think there is rush, the people still are rational and that when it gets into the Senate, that this bill eventually gets defeated. How it turns out at the end of the day and what if there is any CO2 legislation, I think remains to be seen. India has already said, they are not going to participate. China, most likely they will say they are not and if they do, they won’t enforce it. And the trouble here in the United States is whatever it gets passed will be enforced and so the playing field is skewed tremendously. But we at Valero are going to be very active in trying to get a grassroots participation here on how much this means to the consumer, to this industry, actually to the American economy. Every single good that is produced that has any energy component will go open price. It is a huge hidden task.

Chi Chow - Tristone Capital

That doesn’t seem like we are going to feel to come away with no legislation at all. Is there a lower level that you’re aiming for at this point rather than cap and trade?

William Klesse

Well, I think we need to speak to legislation. If the government wants to tax carbon and if that’s the will of the people and the government obviously, the Federal Government needs cash. A carbon tax is certainly more visible and that will be Valero’s position that, but if that’s what’s going to happen, let’s have a visible tax, it is a tax on carbon and then the consumer at least knows what he’s been charged for.

Chi Chow - Tristone Capital

Great, thanks for your thoughts, Bill. I appreciate it.

William Klesse

Yes.

Operator

(Operator instructions) At this I’d like to remind everyone in order to ask a question please press * then the number 1 on your telephone keypad now. Your next question comes from the line of Mark Gilman with Benchmark Company.

Mark Gilman – The Benchmark Company

Gentlemen, good morning, I had a couple of specific questions. Rich, can you say whether Del City is now fully back to its normal operating status?

Rich Marcogliese

Other than the coke gas and fire, it is. We have got a couple of reliability issues that are holding the gasifier down from about a week to 10 days. But other than that, the rest of the refinery is operating normally.

Mark Gilman – The Benchmark Company

And has that been the case since the beginning of this month?

Rich Marcogliese

We did have a power interruption over the weekend, which was not our issue. It was in the Delmarva power grid. It did cause a disruption over the weekend, which took down our cat cracker, but it was put back on line yesterday.

Mark Gilman – The Benchmark Company

Okay. With respect guys to the Aruba decision, Bill in the release, you refer to the arbitration vis-à-vis the tax holiday. And I guess I am wondering is it the, excuse me the turnover tax. I guess I am wondering whether the tax holiday which I believe has a 2010, 2011 exploration on it, isn’t that also going to be part of what you are thinking here as what to do?

William Klesse

Absolutely, it ends at the tax holiday ends at the end of ’10, effective January 1st, 2011. And it is an uncertain world in Aruba as to what goes on at the end of ’10. And there is BBO or turnover tax, we are expecting the answer to this arbitrage. And it’s a 1…I will remind you it’s a 1% tax, which in our business is a lot.

Mark Gilman – The Benchmark Company

Bill, just a strategic question, if you don’t mind and I got to tell you I just don’t understand. In response to prior questions, you suggested that the focus was to preserve cash and I guess I just don’t understand how the TRN acquisition, had it gone ahead was at all consistent with the implementation of that strategy?

William Klesse

Well that’s a fair question, Mark. It’s not so without the TRN acquisition, clearly we want to maintain cash. We want to maintain a very strong balance sheet. We had our projects that were finishing here, even though we have cut our capital spending down. But we also want to grow our company, but we want to grow wisely. And we want to grow in the interest of the shareholder. And we ship diesel fuel to Europe. I think in July here, we are going to ship a 100 – on average of 165,000 barrels a day of diesel has gone to Europe. We’ve said in all our previous calls that since about June or so of last year, we have been shipping somewhere between 150,000 and 200,000 barrels a day of diesel. We also have opportunities in Canada where diesel goes to Europe and frankly gasoline can back into our Canadian operation. So as we look at the Atlantic basin, Europe continues to be short diesel, long gasoline. The US here at the moment is long diesel and we are still short gasoline, because our country still imports gasoline. So we look at Europe as a good trading, good arbitrage, good opportunity for us to work more aggressively in the Atlantic basin. And off of their refineries we have looked at, because things are coming on the market in Europe and they’ve been doing that for quite a while, you’ll remember and I have disclosed, we had bid on Corrington in England, we’ve looked at a couple of others, but TRN looked to us to be an excellent opportunity and also had the potential at least from a management perspective for a high-success entry.

The cat cracker, even though was a partial interest and the complexity looks low to the investment community, the cat cracker is a 68,000 barrels hydrocracker, hydrocracker is a 68,000 barrel day a unit. We know what they’re costing here in the states. We are shipping the diesel to Europe anyway. The netback is better obviously. We think that’s going to continue. It could run Euro’s crude obviously while Lukoil is interested. And so – it was the best operation and Total runs a good plant. They are either first or second quartile in the European settlement survey. So we are a refinery. You buy Valero, you buy a refining company and we think our business is eventually going to grow again. It’s not growing this year, but eventually we will get going again and we think we can add value with that. But it’s opportunistic. Somebody – people have asked us, well, now that this cash burning a hole in your pocket and the answer is absolutely not. We thought that was the best thing we had seen.

Mark Gilman – The Benchmark Company

Bill, wondering if I could just try from a slightly different angle and that is, your comment previously that you have not given up on the longer-term belief regarding the merits of high conversion, refining and therefore wider discounts on the medium and heavy sours, if that’s indeed true, rather than investing when those discounts are optimal, doesn’t make it sense to be aggressively investing to the extent that your financial position allows in a period such as this and therefore not show some of the high complexity projects at the expense of either ethanol plant acquisitions or TRN or its future equivalent?

William Klesse

I think we are trying to balance everything, Mark. And we still believe that the Canadian heavy sours will get to US Gulf Coast, but that’s 2012, maybe 2013 on the big projects. So the Mexican production continues to fall somewhere between its 115,000 to 200,000 barrels a day on a net basis on the heavy sour. Venezuela, although Joe said it’s stable, we don’t see it growing per se. So I think we are in this window here on the heavy sours where the timing may not, just may not be right and that was one reason we went ahead and wrote off, this coking project, if we were working on at Port Arthur here, which is in our numbers. But the hydrocrackers, we’ve really just suspended. They’re still there and we really are just waiting till you see the world’s economy get going. We will see how reliant as the supply diesel moves to Europe and gasoline moves all over the world. We will see how those all rebalance. But I think long-term – long-term, our business just adds tremendous value and everybody is trying to figure out how to make it not economic.

Mark Gilman – The Benchmark Company

Okay, Bill. Thanks very much. I appreciate your thoughts.

William Klesse

You’re welcome.

Operator

Your next question comes from the line of Blake Fernandez with Howard Weil.

Blake Fernandez - Howard Weil

Hi, good morning. My question is, I guess more of a strategic one. There has been a lot of commentary on your thoughts as far as evaluating the portfolio for potential reductions or even permanent closures and this may seem a bit counter intuitive, but given your balance sheet and the geographic breadth of your capacity, I am wondering if there are not opportunities to actually increase utilization in certain areas and potentially drive some of the less efficient capacity offline?

William Klesse

I am sure there is that potential, but that’s not the course we are taking.

Blake Fernandez - Howard Weil

Okay. The other question I guess kind of dovetails in with Mark’s question surrounding Europe. I am wondering a lot of the global capacity coming on line is clearly in the emerging economies. My sense is that it’s difficult for Valero to kind of compete in that environment. But I want to see if you could provide any color? Is that just purely going to be dominated by the host countries and the integrated?

William Klesse

I’d say yes to a point. It depends on their growth rate and there is obviously the opportunity for us to export. We haven’t done it this year, but last year we were actually exporting diesel fuel to Australia. So there is the ability as all of the space is balanced to put products into the trade. But clearly, China wants to be self sufficient. India is obviously an exporter. Korea is an exporter. So – Japan is extremely long refining. So your point I would have to agree with, except that there is always trading opportunities.

Blake Fernandez - Howard Weil

Okay. And then the final one I had for you is, I hate to beat the horse here on the differentials. But as some of the new global capacity comes on line, presumably it will be a lot more efficient and more complex and it seems like that will kind of create more demand for the heavier sour barrels right at the time when the, maybe the OPEC production quotas are being increased. I am just curious if there are any thoughts on that potentially creating yet another headwind to the differentials down the road?

William Klesse

Well I think you are in the headwind. Reliance refinery is a very sophisticated refinery and run lots of heavy and sour crude oils, just to take them as an example. Now that’s not true of all the plants, but that would be true of that plant. And so what our strategy is Canadian crude oil needs to get the view as Gulf Coast or in fact the heavy sour crudes. These discounts will be smaller than what we would like to see. So your point is well taken, some of those stuff is as you say.

Blake Fernandez - Howard Weil

Okay. Well, great. Thanks a lot. I appreciate your time.

Operator

Your next question comes from the line of Jason Gammel with Macquarie.

Jason Gammel – Macquarie Research

Maybe just one more on the light heavy differential environment, would you be able to actually just run the Gulf Coast? Is it or simpler system and take just a water feedstock slate through the system and shutting coking capacity rather than shutting in distillation capacity or are there logistical constraints that prevent you from doing that? And then finally, does it make economic sense to run cokers even in the current environment?

William Klesse

All the comments you have made are somewhat yes, somewhat no. Let’s go to the one where would we lighten up our crude slate. The answer is yes. We have lightened up our crudes slate where we can. But the issue you have is in heavy sour plant, if you lighten up on the front end, you either need to have some pre-flash or you have to do something, because we immediately flood or bottleneck the crude tower, the upper part of the crude tower, because it’s not built to handle all those vapors coming up the tower. So your ability to lighten up with the existing hardware we have is not, we just don’t have as wide a range as you would like. Now if you can go ahead and pre-flash the crude, so you take those vapors off before you get in to the crude tower you get more capability, but then you are going to over large your gas pipe in the refinery. So what I am really telling you is your range or your ability to go very far is limited. Now on the tail end to the coker question, we don’t have to operate the coke and we have several of our cokers cut back. We have our St. Charles coker that’s coming up. We had a fire over there. It’s coming up. We’re only going to bring it up at 50%. We’re only going to bring up one of the modules. And then what we would do is make more fuel oil, but we run the economics around the cokers. So we have economics at Texas City, we have economics at certain cokers, but we don’t have very attractive economics. In Aruba where it is a stand alone as really just an up grader, coking up grader, we didn’t have economics at all.

Joseph Gorder

The other location where we shut the coker down is at Corpus Christi. Our Reese plant is a 100,000 barrel a day crude unit with an associated 20,000 barrel a day coker and we have shut the coker down there completely. As Bill mentioned, in St. Charles, it’s a four-drum coker. We are going to bring it up on two drums. Also at our Paulsboro refinery, it’s a four-drum coker, it’s in a two-drum operation presently. And at Texas City, we are running all four coke drums, but we are operating the coker at reduced capacity as we have lightened the crude.

Jason Gammel – Macquarie

Okay. That’s very helpful. And I think you just answered my second question, should we expect to see resid as a percentage of feedstock decline?

Joseph Gorder

Resid as a percentage of feedstock?

Jason Gammel – Macquarie

Yes, I think you were running residuals, you were running 248 during the second quarter of ’09.

Joseph Gorder

Right yes. You would.

Jason Gammel – Macquarie

Okay. Thanks guys.

Operator

Your next question comes from the line of Cory Garcia with Raymond James.

Cory Garcia - Raymond James

All right. Thanks guys. A lot of my questions is – I am trying to pan through at this point. Would you just update me on what your liquidity position is right now, I think I missed those numbers.

Michael Ciskowski

Yes. At the end of the quarter, we had 4.6 I believe available capacity in addition to cash.

Cory Garcia - Raymond James

Right okay and also just kind of a higher-level question, would you guys mind commenting on what you are seeing in terms of international diesel and distillate demand playing out for the reminder of the year?

Joseph Gorder

Well, obviously from our exports to Europe are much tighter than they have been, but we are still seeing significant demand at the levels we have experienced in the past right now.

William Klesse

I think if you are also seeing domestically, diesel demand is down tremendously. I don’t think I have ever seen anything like this where we have demand down 15% in the transportation sector. So we just say this is a 4 million barrel a day business, it’s down 600,000 barrels a day. And this is why to all these questions that we need the economy to get back going again, because Valero has been exporting as Joe said, because we still seeing demand coming out of Europe. But the domestic market, diesel consumption is varying from 3.2 million to 3.3 million barrels a day and that’s after a very cold winter. So we need the…trucking is on highway diesel is 60% of the diesel business and we need on the highway diesel to get going which is tied directly to the economy. Gasoline tends to be the consumer product disposal income, our employment, but diesel is starting to really be and that’s where – so we see very weak demand, and the only thing that’s going to take these inventories off the market is the economic recovery, a cold winner or the refineries you’re going to have to cut back here under diesel production ultimately as things are getting full.

Gasoline demand and that in Europe stuff is pretty full. On gasoline, it’s down as 1% to 2%, they always revise these numbers. But we will say it’s down somewhere in this 1.5% to 2% range. It was down that much last year. That’s somewhere in the range of 150,000 barrels a day each year to 200,000 barrels a day. And to us you saw housing start to weaken. We saw then consumer’s disposable income. We have unemployment rising. And this ties a little bit to our outlook here even though we have very good gasoline margins or cracks today, we still see unemployment continuing to increase here for the next several months for sure and that’s a consumer product. So that’s why as we said earlier, we are running our refineries in this low, in this 80% to 85% range and right where the industry is. But demand has been very weak.

Cory Garcia - Raymond James

And no doubt about that. All right, I appreciate the additional color. Thanks.

William Klesse

Yes.

Operator

There are no further questions at this time.

Ashley Smith

Okay, thanks, Molly. And just want to thank our investors for listening to the call. If you have any further questions, feel free to call me, Ashley Smith, at Valero. Thank you very much.

Operator

Thank you. This does conclude today’s conference call. You may now disconnect.