瓦萊羅能源 (VLO) 2002 Q4 法說會逐字稿

Good morning.

My name is Renee, and I'll be your conference facilitator.

At this time I would like it to welcome to the Valero Energy fourth quarter conference call.

All lines have been placed on mute to prevent background noise.

There will be an answer and answer period.

If you would like to ask a question during this time simply press star, then the No. 1 on your telephone keypad.

If you would like to withdraw your question press the pound key.

I'd like to turn the call over to Mr. Lee Bailey, Vice-president of Investor Relations.

Thank you, operator.

Hello, and welcome to Valero Energy's fourth 2002 conference call.

With me today is Bill Greehey and several other members of Valero senior management team.

If you haven't received the earnings release you may obtain one off of our website.

The tables provide additional financial information on our business segments.

If after reviewing the attached tables you have additional questions on information presented there feel free to contact Eric Fisher or myself after the call.

One other item we've recently begun posting weekly updated key product and stock differentials on our website.

We will update on the data to include the average weekly prices for the preceding week, and we'll also be posting various graphs showing DOE's, for inventories, demand, production and Gulf coast margins for both gasoline and distillate and some historical prices for some of our sour crude oils.

Before I turn it over to bill I'd like to direct your attention to the disclaimer contained in the press release.

It says that statements in the press release that state the company's forward looking statements or predictions of the future are intended to be covered by the safe harbor provisions you know federal securities laws.

There are factors that could cause results to differ, including those filed with the SEC With that I'll turn it over to Bill.

Thank you, Lee.

Given the challenging conditions faced by the industry for most of last year we're pleased with results of our fourth quarter.

We believe our 2002 results could not have been achieved on a stand-alone basis had we not acquired UDS and captured well over 200 million in recurring annual synergies during the course of the year and over 80 million in nonrecurring synergies.

In addition we benefited significantly from the geographic diversity in new business lines that we acquired in the merger.

For example, our mid-continent and Canadian operations contributed over $250 million for the full year.

While our retail operations contributed over $125 million for the year.

These are operations where we previously had little or no exposure.

The accomplishment of 2002 that were most proud of is the success we achieved in integrating the people and assets we acquired from UDS into the Valero culture.

Each company as many of you well know had its own distinctive culture and everyone has come together as one company.

In fact, we achieved our highest-ranking ever on the fortune 100 best companies to work for list in the first year after the merger.

When you consider that 80% of our employees are new employees, and that two-thirds of the weighting is based on the employees's surveys you can see why we believe that the integration has gone so well.

Now I'll also point out that we're the only energy company to make that list this year.

Turning now our results for the fourth quarter, net income was $89 million for 81 cents per share.

For the full year net income was $91.5 million or 83 cents per share.

You'll notice that in the release we focused on the fourth quarter comparisons versus the third quarter since we did not UDS as part of our operations last year in the fourth quarter.

We reported operating income of $240.3 million which compares to $130.3 million in the third quarter.

EBITDA was $338 million compared to $231 million in the third quarter.

Despite the difficult refining margin environment for most of the year, our debt to capitalization ratio net of cash was 50.4% at year end.

As you'll recall, we began at the year at over 53%.

We had expected to be under 50% a year end but the inventory reduction levels we achieved resulted in accounts receivable being higher than expected and cash lower than expected at year end.

I'll talk more about our inventory reduction efforts a little later.

For the full year 2002, our EBITDA to interest coverage ratio was 2.8 times which is well above the minimum of 2.4 times allowable under our bank credit agreements.

Turning now to our segment results, operating income for the refining segment was $286 million, this compares to $169 million in the third quarter.

The average through put margin in the fourth quarter was $4.75 per barrel versus $4.08 per Darryl barrel in the third quarter.

Overall refining margins outside the west coast improved significantly from third quarter levels due to lower inventories, good demand and market concerns about potential products supply disruptions related to the oil workers strike in Venezuela.

In the northeast cold weather was present for most of November and December supporting good heating oil margins in the New York harbor.

These factors were offset though by very weak refining margins in California throughout the fourth quarter.

The weak margins were primarily due to high inventory levels and high production rates.

The improvement over the third quarter was also due to the widening and sour crude oil discounts from increased OPEC production.

The average discount in the third quarter was approximately $2.40 per barrel versus $3 per barrel in the fourth quarter.

That change alone contributed an additional $21 million to operating income in the fourth quarter.

As we noted in the press release, our results this quarter include a $32 million benefit to operating income from the reduction in fee stock and refined product inventories related to our ongoing synergy capture efforts.

Once we closed the merger with UDS it immediately became apparent that we were carrying too much inventory across our refining system.

This was particularly true on the west coast in the northeast where we went from having only one refinery to having two in each of those regions.

We identified this synergy opportunity early on and worked hard to reduce our inventory levels by year end.

Inventories across our system reached as high as 69 million barrels during 2002.

But by the end of the year we had them down to approximately 54 million barrels.

The lower inventory levels also had the benefit of reducing our cash requirements by over $450 million.

Refining cash operating expenses were slightly higher this quarter versus the third quarter primarily due to higher natural gas cost.

Natural gas averaged 418 per MCF in the fourth quarter up almost one dollar from third quarter average of 321 per Mcf.

Natural gas prices are even higher currently with cold weather in the U.S.

For February deliveries natural gas is averaging over 550 per Mcf.

In retail operating income was 46.7 million compared to 31 million in the third quarter.

We continued to see relatively good fuel margins in the fourth quarter.

In fact, November was one of the best months and years for retail with fuel margins averaging over 18 cents per gallon.

The cold weather in eastern Canada is also helped the Canadian and northeast retail operations achieve very strong fuel margins given the large home heating oil component to that business.

The administrative expenses were up this quarter primarily due to an increase of about 15 million in bearable compensation expenses.

With respect to the current industry conditions I'd first like to make some comments about how the ongoing strike in Venezuela is effecting our operations.

On the product side we've seen additional demand for U.S. refined product by Latin America countries including Venezuela.

Much of this demand is being supplied out of the gulf coast and from the west coast.

Some cargos from Europe have been diverted from the U.S. to Latin America.

Before the strike, Venezuela had typically example ported about 125,000 barrels per day of light products to the United States, and another 400,000 barrels per day to the other countries.

In our system alone since the strike in Venezuela began, we've sold a total of eight cargos of light products bound for Latin America which totals about 2 million barrels.

On a [INAUDIBLE]stock side the strike caused tightening of sour crude oil discounts and higher overall fee stock costs in general.

For example, the March discount to WTI averaged 440 per barrel in November but got as low as one dollar per barrel during December.

The pricing on our term barrels has also tighten.

For example, the Arab medium discounts went from 390 in December up to four 40 in January, since those barrels were priced before the Venezuelan strike.

Then all the way down to $3 per barrel for February deliveries.

Prices have also risen considerably as have the prices for sweet crude oils.

This has caused sweet crude oils in processing economics to soften although sour crude processing economics remain favorable.

Currently the domestic crude inventories at one of their lowest levels since 1976 and with crude and intermediate feed stock prices as high as they are the industry is likely to reduce runs significantly in February.

Many refineries are faced with limited options in this price environment.

For example, at our McKee, Ardmore and cross springs refineries we have cut runs due to the high price of sweet crude oils which are primarily run at those refineries.

Sour crude oil economics are still favorable at our other refineries, but we're feeling the effects of the high intermediate feed stock price on our conversion economics.

Across our system we estimate that conversion unit utilization is down approximately 11% as a result of the higher prices for feed stock such as atmospheric [INAUDIBLE] and gas oils in total our [INAUDIBLE] rates are cut back about 10% and we may increase the cuts to 15% if feed stock cost remain this high.

Also margins on products that are sensitive to change in crude prices like asphalt, lubes, proceed I lain are being negatively impacted by the high crude prices we've seen.

We would expect that other refiners, particularly those more leveraged to the sweet crude oils are likely to be cutting runs as well.

Especially those in the mid-continent where refining margins have been under $2 per barrel.

Although the current environment is challenging in many respects, we have many reasons to be encouraged that the market should improve in the near term.

The first quarter is expected to be one of the heaviest turn around sessions in many years for the U.S. refining industry.

For February, 800,000 barrels per day of crude unit capacity and 900,000 barrels her day of conversion unit capacity are expected to be down.

The only major turnaround that we have planned a Ardmore which will be down from last March through mid-April.

Expected industry wide run cuts coupled with heavy turnarounds should result in lower gasoline and distillate production and should improve the inventory position going into this year's driving season.

And we don't expect to see the same high level of imports that we saw in 2002 from Europe.

Europe even refined product inventories declined by over 25 million barrels in 2002.

Given that, they don't have the same cushion level to pull from this year that they had last year.

Also as we get into February, we will be exiting the peak crude oil demand season and with the heavy turnaround in run cuts would expect to see less crude demand by refiners.

This will leave more supply on the market and should reduce feed stock cost.

We're also already seeing the benefit from the recently-announced increases in OPEC supply which is predominantly made up of heavy and sour crude oils.

Over the last couple of weeks, the mars to WTI discount has widened out as much as $3.75 five per barrel.

With the improvement we're seeing in spot sour crude pricing, we expect our Saudi term contract pricing to improve for March.

With respect to distillate fundamentals we continue to see good margins in the New York harbor and on the gulf coast.

Cold weather in the northeast has supported good demand in that region for heating oil.

In fact, temperatures have been well below zero for most of last week at our Quebec refinery.

Distillate imports have fallen off with the renewal of the Venezuelan supply from the market in the severe weather that Russia is experienced -- experiencing.

We believe distillate inventories will decline to below average levels as the full impact of cold weather is absorbed.

Turn around activity gets underway and the effects of lower imports in Venezuela from Russia are felt.

With respect to our retail operations in the first quarter, we're seeing much better fuel margin in the U.S. system than we saw last year in the first quarter.

Right now fuel oil margins are averaging about 10 cents per gallon versus about five cents per gallon last year in the first quarter.

Obviously with the cold weather northeast retail is doing well.

We're also very pleased with the progress we're making expanding our wholesale branded marketing business.

In fact, in the last half of 2002, we were able to increase our wholesale sales volumes by about 10%.

California refining margins continue to be disappointing so far in the first quarter.

To date this year, Cude gasoline margins have averaged approximately seven dollars per barrel.

The good news though is that there are a couple of large turnarounds scheduled for the first quarter in California.

In fact, nearly 250,000 barrels of conversion units capacity is expected to be down in February which is about 10% of total pad five conversion unit capacity.

Also starting March 1st, the low RDP restrictions combatant effect which should help tighten supply.

The transition by many California refineries to ethanol blending is progressing and we believe that once that this is fully underway there will be some improvement in margins as well due to reduced production.

If you take all these factors together, and look at where we are with respect to earnings thus far in January, we'd probably be looking at a small loss for the month.

But with the heavy turn around, the low inventories, good demand and very cold weather we've been seeing we think the margin environment could improve significantly as we get into February and March which is not being reflected in the forward curve today.

In terms of specific earnings guidance with all of this volatility and uncertainty in the market today, we're not comfortable in providing earnings guidance at this time.

However, based on what we know about January and where the forward-curve prices are today for the rest of the first quarter, our earnings per share for the quarter would probably be in the range of 25 cents per share.

But, again, let me be very clear that this is not to be construed as earnings guidance for the quarter.

We think we simply believe there's too much uncertainties and volatility at the present time to provide earnings guidance.

As we look past the first quarter and towards the rest of the year we do believe that 2003 will be substantially more profitable than 2002.

Over the course of the year we expect refined product inventories to tighten to below average levels and sour crude oil discounts to widen.

As you'll recall, last year was a heavy turn around year for Valero as we had six refineries down for major turn around.

This year unlike much of the industry, Valero has a relatively light schedule for maintenance turnaround.

So we'll be up and running when a lot of other capacity is offline.

In 2003 we also expect to realize nearly a hundred million in operating income from the strategic projects we completed in 2002.

Great example that we mentioned in the press release is the installation of co-gen facilities at the Venetia refinery which should reduce operating expenses there by over 20 million a year.

In fact, we saved over 7 million in power costs at Venetia in the fourth quarter so that number could go as high as 30 million annually.

The other key project was expansion and upgrade of the FCC alcohol units in Texas city.

On an annual basis we expect those improvements to amount to over 35 million a year.

We also continued to aggressively pursue our synergy capture program and expect to be able to achieve over a hundred million of additional recurring synergies in 2003 over and above the 200 million we achieved in 2002.

Lee.

We'll open it will up for questions at this time.

At this time I would like to remind everyone in order to ask a question, please press star, then the No. 1 on your telephone keypad.

We'll pause for just a moment to compile the Q&A roster.

Your first question comes from Tyler Dan Banc of America Securities.

Hi, gentlemen, how are you?

Good.

Couple, one kind of quick question would be administrative expenses look high relative to the prior quarter and has there been a run rate increase in that number?

And maybe we can answer that quickly.

I've got one further.

No, Tyler, we said in the comments that most of the increase on that was related to increased bearable comp at year end.

Sorry, I was on off I apologize for that.

Secondly, if you could give a comment, we've seen at least in the numbers we've looked at that there's been some considerable strength in Asia Pacific margins and I'm wondering how that's impacting the flows that you're seeing of blending components into the west coast whether there's a lot of competition from Asia on that front.

Well, primarily what we're seeing is China and Japan buy a lot more crude which has drawn a lot of west Africa sweets over that section.

I don't think we've seen anything more than what we normally see even though the arbitrage is open just a limited amount of volume coming in though.

Thanks.

Your next question comes from Doug Terrison, Morgan Stanley.

Good morning, guys.

Hey, Doug.

Bill, the futures market for 2003 is higher than we've seen in January which is really not that hard to do and in the past you guys have capitalized with hedging programs and so my question regards whether or not you guys could give us update as to the extent of your currents hedging program.

Also whether it involves gasoline and distillate and secondly, on the same lines, could you refresh our memory as to how much natural gas you guys utilized to run your facilities and whether or not there are hedges for gas as well?

On the gas, what do we have. 240 a day and Doug, we have not hedged any of that.

Okay.

As far as the gasoline and the heating oil units, we have taken advantage of the better market, Lee could cover those numbers.

Distal last 25% for the balance of the year and the CRAC is trading about 420 right now which is a pretty strong year.

It's as strong as other than 2000 we've seen in the last 15 years.

On gasoline it's trading about 475, and we're hedged about 6% there, and we're looking for further opportunities as the market shows strength on the front whether we should put more on there or not.

Lee, how much do you have on for distillate.

About 25% of our production.

And six percent --

Our nonwest coast production.

And 6% for gasoline at this time.

Right.

Great, guys.

Thanks a lot.

Your next question comes from John Morti Goldman, Sachs.

You talked about the MTB to ethanol transition.

I was wondering if you can talk about where you stands in terms of making the investments to do that how much it'll cost you and it sounds like some others are moving more aggressively.

You don't have to do this until year end basically, but any commentary on a decision to go to a much lower pace than some of the others.

We are progressing with projects to implement mtb phase outer and to make gasoline that meets the specific.

The overall capital is about 60 million to do those projects.

They will be complete fourth quarter of this year.

It does involve our plant in a Venetia.

We're proceeding with a project to expand the units at have a Indonesia to maintain our currents stage three production capabilities.

Was that the 60 million as well?

No, no, that was additional 23 million just approved by the boards.

How much of your Venitia sales are not sold to the Valero retail gas stations?

Nearly all of it.

Almost all of it, right?

Yes.

Do you see an issue to the extent others are using ethanol blended gasoline to finding a home for your non-ethanol gasoline?

No, we've surveyed, one of the things we did before making a decision was to survey our customer base and we found that there was not a great deal of interest among the customers that we sellout of Venicia to making a conversion.

So we don't see that it's impacting them at this point.

That's great.

Thank you very much.

Your next question comes from Fred Lufer Bear Stearns.

Good morning.

I have a couple of questions.

The first concerns the synergy savings.

I'm having trouble quantifying them in the models and alerts.

For example, operating costs are up substantially from where they were in the first quarter.

Operating costs in the per barrel basis, per unit basis are flat.

G and A even adjusting for the variable comp in the fourth quarter is up versus the first quarter.

So I'm not -- I can't fine where the cost savings are.

Can you help them locate them?

Okay.

As Bill mentioned earlier through our veiled days process we accumulated two million in recurring synergies this year.

On expense side it was roughly a hundred million, a lot of it was I guess expense savings at the plants and initiative, determined initiatives, multi-site contracts.

On the industrial gas side.

Some of it, when you look at natural gas multi-side natural gas contracts, industrial gas contracts, the synergy savings are countered by increases in energy cost overall.

You know, on the gross margin side we saw about 75 million in synergies this year, mostly on merely operating synergies between the plants within each region.

We're also saw some improvement in yield optimization.

And g and e was 50 million, overall so 225 million on recurring synergies tabulated this year.

Probably offline would have to go through a lot more detail and explain why you're not seeing potentially the bottom line results that you would expect from our-what we represent in our conference call.

Let me see if I understand the $200 million are achieved savings.

Are you saying that that is net of any offsets or that that was offset by higher energy costs and other things?

It was offset by other things, higher energy costs and what bill mentioned earlier, we had a lot of turnarounds this year.

All right.

What are the inventory benefits in the fourth quarter show in your reporting?

Fred, most of the 32 million flowed to the west coast so it is reflected in that west coast margin.

Of 578 a barrel.

Lee, thanks a lot, guys.

Your next question comes from Paul Ting, Salomon Smith Barney.

Good morning.

Two questions on the west coast.

First of all, you mentioned the fact that your current run cut if I understand you correctly is about 10%.

Historically when you cut runs to the last couple of years or so you have avoided cuttings runs in the west coast.

Are you cutting any runs in the west coast right now, or is that still an area that you're not cutting any runs?

No, we have some minor cuts there, Paul, and it's all related to some additives we planned this month in February both at primarily at Venicia.

They're minor outages, they're not major turnarounds but we've taken our catalyst change of one of the reactors and we have a minor Al can I turnarounds that's ongoing.

So there is a minor reduction.

But it's less than 5%.

It's about thee%, Paul, for January on the west coast.

Second question is on the also on west coast.

West coast refining margins according to your numbers showed a $2 improvement sequentially between 3 q and 4 q which seems to be bigger than the benchmark that we're tracking.

Any obvious explanations on why your differ residential is better than what we see here?

This is Lee.

What I told Fred a few minutes ago, about 30 million in inventory benefit for the quarter flowed through the west coast margins so if you were to take that on a per barrel basis that's about $1.10 per barrel so comparison to last quarter I think that's most of your difference you're looking at.

Okay.

There appears to be another dollar of unexplained differ residential unless my arithmetic's wrong.

Can you come up with anything else.

Is there any turn around difference between 3 q and 4 q that worked its way into the margins?

I don't think so, Paul.

We can -- I can look at that a little more closely and get with you offline, but the biggest thing is the fact that we have that benefit running through.

Okay.

Great.

Thanks a lot, guys.

Your next question comes from John Malloy Simmons.

Hi, guys.

I have a question.

Could you update some of the status of your pension fund and if there's 10-Q files coming out there or are you going to reserve comments for that?

On, you want -- John, this is Danny.

Hi, Danny.

The finishing plan, we have about 300 million of planned asset.

We're about 330 million under funded at end of the year which is about 53%.

It's going to compare in the S&P 500 which is about 80% underfunded.

We're projecting contributions this year about 52, 55 million, somewhere in that range.

We're also lowered the discount rate and the rate of return on planned assets that we had in there last year.

By lowering the discount rate from six 3/4 to six and 1/2 and that is basically the double a bonds rate at 1231 which is where that number comes from.

That's going to result in a charge to other comprehensive income of about $25.7 million.

It's not only for the benefit plan but also includes our Ardmore and McKee plan and others so about 25 million and the tax effect of that goes down to 16 million as it's charge you'll see as a result of the change in the discounts rate.

The effect of lowering the rate of return on planned asset from three and thee quarters to 8 1/2, you won't see any effects of that until 2003.

Any increase in the pension expenses for 03?

Yeah, we'll see about a $5 million increase as a result of the change in the discount rate.

And by changing the long-term rate of return on planned asset from 8 3/4 to 8 1/2 we'll add another million to pension expense so the total effect is about $6 million.

Okay.

Thanks, and good question for Gene.

Have you seen anything particularly in the northeast fuel switching as the distillate arbitrage is open there, are you seeing any customers calling that are nontypical?

Yeah, we're seeing a lot of utilities start to burn because you've got gas at 10 and $20 per btu up there.

It doesn't make sense to burn just still distal last but up there it's cheaper to do that , burn natural natural gas.

I'm sorry.

We're seeing heavy pulls on the east coast because of cold weather going to retail.

What's typical duration of a supply contract with one of the northeastern ute's.

Spot.

Thank you.

Your next question comes from Mark Gillum First Albany.

A couple things.

Was wondering whether there were any purchasing accounting adjustments which you made at fourth quarter year end and whether you did the goodwill impairments at year end and what the results of it were.

No, this weren't any significant purchasing accounting adjustments at year end and, yes, we have, as we pointed out in the last conference call, we did initiate an impairment test as of October 1st, and our analysis shows that there's no impairment in goodwill.

Okay.

Wonder if I could raise another one.

Third quarter 10-Q showed a net position, crude and product, whereby you were long going forward with respect to 02 about 18 million equivalent, 18 million barrels crude and product.

Does that have an impact on the fourth quarter at all?

I thought we were -- the long crude I'm not sure if that was offset on the short products that we had.

Gene, if I add it all up it was about 18 million.

The data is not specific enough unfortunately, you know, for one to determine where, what the crude and product positions were respectively.

You know, the problem with that disclosure, mark, is that it's a point in time, it doesn't give you any type of indication positions you had on during the month or the quarter.

But I believe, we believe those are offset by product positions and -- because we didn't -- during, right at the end of the third quarter I don't remember any of us having any out right crude positions on. ing we put those on in the fourth quarter.

I'm curious because if you were net long anything to speak of in September 30th, that could have been or should have been very [INAUDIBLE] in the fourth quarter environment.

It depends, if you had them on till the end of the year that'd be fine but if you had them on and took them off, because crude went from 34 to $24 from September to the first week of December because it looked like the Iraqi situation might get settled so crude actually declined just almost to the first week of December.

Yeah, Mark.

This is Lee.

You're right noting that we were lounge crude there and for the quarter in terms of our speculative gain or loss, we had a loss of about $16 million for the fourth quarter primarily related to be being being long some crude positions that we got of earlier in the quarter before we had Venezuelan related run up in crude prices.

Okay.

Just ask one other.

The count on retail stations continues to fall.

And through puts also continue to fall.

I'm curious as to whether you're selling outlets, closing outlets.

Some campaign combination of the above and whether the through-put reductions continue to be a result of aggressive strategy of we're following through on the strategy that we rolled out last year.

As the end of the year we had closed 161 sites and we've identified another 132 for closure later this year.

We've sold 35 of those sites that we had closed, and we're continuing to look at our network, our volumes.

If you look at 2002 average per store basis, we're down about 3%.

Our fuel gross profit dollars, however, were up almost 10% so I think it does reflect the change in our pricing strategy that we've seen in the marketplace.

Thank you, guys.

Your next question is from Andrew Fairbanks with Merrill Lynch.

Good morning.

Most of my questions have been answered.

I wondered if you had any absolute guidance for where you think production volumes will be either in the first quarter or in general for 2003.

Andrew, this is Lee.

I'll give you a quick update and this is preliminary on first quarter.

But we'll probably average somewhere in the range of 1.6.

This is based on our guidance that we're currently down about 10% or so.

Going through regionally, gulf coast would probably be 700 to 725 a day.

West coast about 275 to 300 a day.

Mid-continent, 225 to 250 a day.

Northeast 350 to 375 a day for the first quarter.

Great and any thoughts on the year?

Well, it's early.

We'll be up, kind of a full, more full run rate assuming a better, you know, feed stock environment would be closer to 1.7 total so you can kind of, you know, tweek up those numbers regionally to get you more to 1 seven, one 7 1/2 range.

Great.

And also on the retail station divestiture program.

Any accounting impacts from the station closures and/or sales, either in the fourth quarter or the year that you can speak to, gains or losses on the sales of the stations or any closure expenses?

This result provides for on purchase accounting and anticipation.

So it's been provided on goodwill.

Okay.

Great.

Your next question comes from Jacques Ruseau Friedman, Billings and Ramsey.

Most of my questions have been answered but I wanted to see if you could provide an update on the retail branding program, how far along you are and with a kind of costs you've seen and the second question has there been any changes to the 2003 and 2004 capital budget?

On the retail branding program we have had some good success here early, Jacques.

We've gone through the network and we've evaluated all the sites to determine which sites will be rebranded and under what brands.

We've signed our first contract s on the east coast and we plan to begin reimaging later this month on several of those sites.

We've added about 170 new locations to the network since our plan was approved in October by our board.

And that'll add 170 million gallons we estimate to our business.

So far we've spent $6 million in reimaging, and we're currently reviewing almost 400 sites across the network for opportunity.

Danny, on capital?

Capital guidance hasn't changed any from the last time Jacques.

Okay.

Thank you,.

Your next question comes from Fidel Ghet, Comstock.

A few questions.

A follow-up on the cost saving question.

Are you planning to provide additional informing on the cost savings or that's it?

We have some additional detail that we'd be glad to go over with you offline.

John Hohnholt has quite a bit of detail behind those Op Ex and G&A and gross margin benefits.

, but you're doing it on offline sites.

You're not going to e-mail or anything like that?

Probably not, no.

Okay.

And on the plan for 2003, the a $100 million additional cost savings, can you just go over the broader areas like what would the expenses operating G&A and so forth?

On the hundred million 20 million's in procurement.

These are contracts we've been working on over the past year.

Those are primarily expense savings at the refinery.

Procurement would be materials, service contracts, that type of thing.

About 30 million in operating synergies, these are from synergies in each of the regions that we operate our refineries, exchange, independent immediate , that type of thing, gasoline diesel blending synergies. 20 to 30 million in best practices.

This is gross margin improvements.

Examples of that are primary lower cost feeds, we're just recently, for example, running residual to our thee rivers which we hadn't done in the past which has a significant benefit overall on operating income, gross margin and the balance is primarily on additional transportation savings on crude cargo ship sharing.

Assuming that you would be successful in achieving the a $100 million cost saving in addition to the $200 million cost saving that implies that you have $300 million cost saving at end of this year versus say a year ago.

How much of this do you think you'll be able to keep?

All of it.

There is no offset?

Well, there's offsets from, you know, changes in energy pricing like I mentioned earlier.

Talking about $3 pretax roughly.

Yes.

Okay.

And also the comment that you're now running at 10% T. you are cutting your rate 10% and you're probably going to go to 15%.

I thought that the outlook is improving.

Why are you cutting your rate or you plan to cut your rate even more?

Heavily backward markets on crude oil, if you look at crude, first month was about 90 cents I think when we came up here.

The third month or the second is one dollar.

So what we're trying to do is most we're only buying crude that we can convert into products during the month.

And then get it solved in the system.

You don't want to carry crude [INAUDIBLE] top stories obviously and then on the product sides distillate backwards and gasoline is in a [INAUDIBLE] so that's the reason.

Finally of your 2003 Cap Ex how much of it is maintenance capital and how much of it is investment type?

For 03 we're looking at about 850 million is acquired stay in business type capital that includes environmental and turnaround, safety reliability.

And the rest is strategic in nature.

Thank you.

Your next question comes from Paul Chi, Lehman Brothers.

Good morning.

I suppose that you guys not going to upgrade or refinery related to the [INAUDIBLE] Wondering when that you're going to shut that down or when you're going to make that decision.

Go ahead.

We're continuing to run the Denver refinery as we've mentioned in the past of the we optimize it with our McKee refinery.

Actually today when you look at crude cost with the Denver Jewelsburg crude and other crude, we get into that refinery we have a very low crude cost.

It has a positive margin and as you go down the road all the way through I think 2008 we can make the product specks that are required.

So we don't have that on the table at all at the moment.

So that one is going to be at least stay open until 2006?

That's correct.

And that when we looking at the mtb phase out in California, what is the impact you feel to your top gasoline production level?

Are we going to see any reduction in the 5% to 10% range or do you think you have enough initiative to put in pace you'll be able to maintain the same level?

If you make and investment, for example, in expanding the which I mentioned for Venicia we expected to see a 9% reduction overall volume produced at both Venicia and Bloomington Wilmington, to sustain the 82 million barrels a day, we do plan to import blend stocks from the gulf coast.

And so we're planning to sustain production at its current levels after we complete the out keep expansion at Venicia.

That means there's no production reduction.

We're going to be pretty much flat.

California justify bringing these components from the gulf coast too but a year like last year we probably won't bring those components in because you'd lose money doing that and your production would fall-off in that scenario.

Right, but you think you have other alternatives that you're not going to see any drop in your top gasoline output.

What Gene said, that's correct.

If we didn't import blend stocks in the Wilmington refinery then we'd have a significant reduction.

Sure, fully understand.

And also wondering, you have reduced your inventory level quite substantially in 2002, excellent job.

Is there any additional level that you can push it down or that you pretty much at the optimum level at this moment?

We're at the optimum.

You don't see inventory go up down but by year end it'll be in line with what we have right now.

Last question.

Wondering if you can share with us bill, you can you talk about California why they're weak in 2002.

Is it more of a function that the demand is weak in California or because the production level and also the import are higher.

What would contribute to the rising inventory, which one as more significant factor causing California into one of the worst down turns for the past seven years.

Demand was actually up on the west coast last year and imports were marginally up but pretty much the same so it's pretty much the production is higher but we see that falling off weigh switch to ethanol should reduce that back down.

The one rate is higher than the market can absorb.

Very good.

Thank you,.

Primarily.

Your next question is from Jennifer Roland, J.P. Morgan.

Good morning.

Two quick questions four.

First regarding turn around expense, you had mentioned that 02 was a heavier year as far as your planned turned around and 03 would be lighter.

So I was wondering if you could comment what we should see in the Cap Ex.

2002 turnarounds were about 150 million and 03 will be somewhere a hundred or slightly below a hundred million total.

Okay.

And then a quick question regarding interest expense.

You had mentioned in last quarter's conference call that we should expect interest expense around 77, $78 million.

This quarter it's actually $80 million.

I wonder if you could comment on the increase.

Maybe --

We'll need to probably get back to you on that, Jennifer.

I think going forward we'll still being comfortable it would be in the high 70 range.

Okay that's all I have.

Thank you.

You have a question from David Bottnick, UBS Warburg.

Could you please add any clarity or new information you have relative to some assets at some point you said you could be interested in?

Well, you know, they have their asphalt operation that's for sale.

They have their eagle point refinery that they're out for bids on now.

They have Aruba, you know, -- right now, we're really not looking at any of those assets.

Our No. 1 objective is to reduce debt.

It.

Okay.

And shouldn't expect you guys are it mean there on the bidding for those assets?

No,.

Okay.

And on the capital market transaction that you were going to do at some point, are you planning oncoming back to the market in the first quarter?

We don't know at this point.

Okay.

Great.

Thank you.

Your next question is from Walter Lavardo, Passport capital.

I had a follow-up question on the inventory.

So it's fair to say that the reduction had had nothing to do, and inventory had nothing to do with reduced run cuts.

This is sort of a new normal operating level going forward?

This is just absolutely synergies between the operations of the two companies.

And the result of having two refineries west coast, east coast primarily, being able to operate with lower inventories both on the feed stock and on the product side.

Okay.

Great.

Thank you very much.

Your next question is a follow-up from Fred Lufer from Bear Stearns.

Just I wanted to clarify, Bill's, earlier remark about first-quarter earnings off, or the futures off, the curve stayed the same. 25 cents.

Have you taken into account in that number the higher gas cost and the lower refinery runs?

Yes.

Okay.

Thanks.

And Lee, I also had a question on the interest expense in the fourth quarter.

If you can just keep me in mind and give me a jingle for why it increased.

Fred, what we're showing is interest rates, these higher interest rates increase in borrowings and a decrease in capitalized interest.

Basically that's the $3 million.

It looks like your debt went down, Danny, in the quarter.

During -- yeah, you're not seeing what the effect is during the quarter.

I mean, -- what the effect is, you have inventory reduction towards the end of the year.

And we'll give kind of a detail, those few blew the points and give you a call.

It sounds, Danny, that it was probably like a paydown debt must have come at end of the quarter.

Yes.

Is that fair to say.

Yes, sir.

Could I ask you do you have some numbers on your current assets and current liabilities?

Not yet, we sure don't, Fred.

You know, it'll be a while before we get this stuff.

And how about shareholders equity?

Shareholders equity, probably hold me to it.

Not at all.

Probably 4.3 billion, 4 billion 320 or 320 somewhere in that range.

And the goodwill portion of that?

Goodwill portion of that?

I'm sorry, goodwill, we can do the subtraction ourselves.

Goodwill.

2.6 billion.

All right.

Thank you very much, gentlemen.

Your last question as follow up from Mark Gillman, First Albany.

Just a small DD&A question.

West coast dd and a went up in the quarter I'm guessing that's the could he general facility that John was alluding to and it would be at this rate going forward.

At the Co-Gen facility.

Yes.

And administrative dd and a showed up in this quarter different from last.

Can you clarify what's going on there?

In the third quarter we had the -- we had a correction purchasing accounting adjustment on some UDS corporate assets that he had that we had been depreciating.

This is a normal run rate going forward, about $4 million.

So it will be in place at this rate going forward?

Yes.

Okay.

Thanks, guys.

At this time I would like to remind everyone in order to ask a question, please press star, then the No. 1 on your telephone keypad .

Your next question comes from Thomas Lewis, Harris bank.

Good morning.

Just had a couple of questions.

One, your debt paydown plans during the course of 2003, and the second question probably directed more towards bill was in regards to acquisitions.

I know bill indicated that you really weren't looking at any of the El Paso assets currently but are there any assets attractively priced in the marketplace that would add value to Valero?

Yes, there's a lot of great assets for sale that we would have an interest in, but again, you know, we've got to reduce our debt before we're in a position to where we can acquire these assets.

And right now, you know, we're in a position where we can't.

Where would you feel that you would have to get debt deuced too, Bill, in order to be looking at again.

I think, I think if you reduced your debt by the amount of the acquisitions so that your net debt would be the same, then I think you could do it without a downgrade because I think if you incurred additional debt you would get a downgrade.

That's the thing we're protecting is our investment grade rating.

Does that make sense what I just said?

Yeah, it does.

And just going back to the first part.

What would you expect, where would you like to see your debt level at by the end of this year?

What we're showing our debt level net of cash is pretty much the same as what it started the year at.

The cash flow you're generating is being spent on capital.

Total Deb to cap obviously going from 50 down to the 47 range because the money that you're making, but the absolute debt level to answer your question.

Is it going to remain constant?

Stays relatively the same.

Sure.

That's great.

Appreciate it, thank you.

You have a question from Ted Isaac, Lehman Brothers.

Thank you very much.

I have to drop off for a second so you may have already answered one or two of these questions but I'll ask them again.

First of all, on the cap, what's your capital spending program for 03?

We're looking at about 1.1, 1.2 total, that's Cap Ex plus turn around.

So, would that change if the earnings stay sort of consistent where they are now, but that's definitely what are you going to be doing?

Stay in business capital 850 million range, environmental safety and reliability, those kind of things and the rest of it is strategic.

And what is your current debt target, your long-term debt?

You're about $5 billion now I guess and where do you want to get to?

Pushing for mid-40s debt to cap.

Some.

Can you get there absent, would you think of other things other than just through cash throw, would you think of dock an equity offering or what's your timing I guess is what I'm asking?

We're not thinking of equity.

We're thinking about reducing it through cash flow.

Okay.

And what are your current borrowings understand your bank lines?

They're running about 630 million or so.

But you still got quite a bit of cash.

Okay.

Thank you very much.

Okay.

At this time there are no further questions.

Mr. Bailey, are there any closing remarks?

All I'd like to say is thank everybody for joining us and if you have any follow-up questions please call fisher or myself, I'd be glad to help you out.

Thank you for participating in today's Valero Energy fourth-quarter earnings conference call.

You may now disconnect.