Valero Energy Q2 2022 Earnings Call Transcript

Quartr
Provided by Quartr
July 27, 2022

There are 20 speakers on the call.

Operator

Greetings and welcome to Valero's Second Quarter 2022 Earnings Conference Call. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Homer Bhullar, Vice President, Investor Relations. Thank you.

Operator

Please go ahead.

Speaker 1

Good morning, everyone, and welcome to Valero Energy Corporation's 2nd Quarter 2022 Earnings Conference Call. Listen. With me today are Joe Gorder, our Chairman and CEO Lane Riggs, our President and COO listen. Jason Fraser, our Executive Vice President and CFO Gary Simmons, our Executive Vice President and Chief Commercial Officer listen and several other members of Valero's senior management team. If you have not received the earnings release and would like a copy, you can find 1 on our website at investorvalero.com.

Speaker 1

Also attached to the earnings release are tables that provide additional financial information on our business

Speaker 2

listen only mode. If you

Speaker 1

have any questions after reviewing these tables, please feel free to contact our Investor Relations team after the call. I would now like to direct your attention to the forward looking statement disclaimer contained in the press release. Listen. In summary, it says that statements in the press release and on this conference call that state 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. Listen.

Speaker 1

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. Listen. Now, I'll turn the call over to Joe for opening remarks.

Speaker 3

Thanks, Homer, and good morning, everyone. Listen. I'm pleased to report that our team maximized refining run rates in the Q2, while executing our long standing commitment to safe, reliable and environmentally responsible operations. In fact, we've been increasing throughput since 2020 listen as demand recovered along with the easing of COVID-nineteen pandemic restrictions. Our refinery utilization rate increased from the pandemic low of listen to 74% in the Q2 of 2020 to 94% in the Q2 of 2022.

Speaker 3

Refining margins in the 2nd quarter were supported by continued strength in product demand, coupled with low product inventories listen and continued energy cost advantage for U. S. Refineries compared to global competitors. Product supply is listen. Restrained as a result of significant refinery capacity rationalization that was triggered by the COVID-nineteen pandemic, listen, driving the shutdown of marginal refineries and conversion of several refineries to produce low carbon fuels.

Speaker 3

Listen. In addition, the Russia, Ukraine conflict intensified the supply tightness with less Russian products in the global market. Listen. However, product demand has been strong due to the summer driving season and pent up demand for travel. Valero continues to maximize refinery throughput to help supply the market at this time when global product inventories are at historically low levels.

Speaker 3

Our low carbon renewable diesel and ethanol segments also performed well in the quarter. The renewable diesel segment had record production volumes listen as the DGD expansion, DGD2 ramped up to full capacity. On the strategic front, We remain on track with our growth projects at reduced cost and improved margin capture. The Port Arthur Coker project, list, which is expected to increase the refinery's throughput capacity, while also improving turnaround efficiency is expected to be completed in the first half of

Speaker 2

for 2023.

Speaker 3

As for low carbon projects, the DGD3 renewable diesel project located next to our Port Arthur Refinery is expected to be operational in the Q4 of 2022. The completion of this 470,000,000 gallon per year plant is expected to nearly double DGD's total annual capacity to approximately 1,200,000,000 gallons of renewable diesel list and 50,000,000 gallons of renewable naphtha. BlackRock and Navigators Carbon Sequestration Project is progressing on schedule and is expected to begin startup activities in late 2024. We are expected to be the anchor shipper with 8 of our ethanol plants connected to this system, which should provide a lower carbon intensity ethanol product listen and generate higher product margins. And we continue to evaluate other low carbon opportunities such as sustainable aviation fuel, list of renewable hydrogen and additional renewable naphtha and carbon sequestration projects.

Speaker 3

On the financial side, we remain committed to our capital allocation framework, which prioritizes a strong balance sheet and an investment grade credit rating. We incurred $4,000,000,000 of incremental debt in 2020 during the low margin environment resulting from the pandemic. Since then, We've reduced our debt by $2,300,000,000 including a $300,000,000 reduction in June And we'll evaluate further deleveraging opportunities going forward. In summary, we remain focused on safe, reliable and environmentally responsible operations and on maximizing system throughput to provide the essential products that the world needs. And we continue to strengthen our long term competitive advantage through refining optimization projects listen and to grow our business through innovative low carbon fuels that enhance the margin capability of our portfolio.

Speaker 3

So with that, Homer, I'll hand the call back to you.

Speaker 1

Thanks, Joe. For the Q2 of 2022, net Income attributable to Valero stockholders was $4,700,000,000 or $11.57 per share, listen compared to $162,000,000 or $0.39 per share for the Q2 of 2021. Listen. Adjusted net income attributable to Valero stockholders was $4,600,000,000 or $11.36 per share for the Q2 of 2020 to, compared to $260,000,000 or $0.63 per share for the Q2 of 2021. For reconciliations to adjusted amounts, please refer to the earnings release and the accompanying financial tables.

Speaker 1

The refining segment reported $6,200,000,000 of operating income for the Q2 of 2022 compared to $349,000,000 for the Q2 of to 2021. Adjusted operating income was $6,100,000,000 for the Q2 of 2020 to, compared to $442,000,000 for the Q2 of 2021. Refining throughput volumes in the Q2 of 2022 averaged 3,000,000 barrels per day, which was 127,000 barrels per day higher than the Q2 of 2021. Throughput capacity utilization was 94% in the Q2 of 2022 compared to 90% in the Q2 of 2021. Refining cash operating expenses of $5.20 per barrel in the Q2 of 2022 were $1.07 per barrel higher than the Q2 of 2021, primarily attributed to higher natural gas prices.

Speaker 1

Renewable diesel segment operating income was $152,000,000 for the Q2 of 2022 compared to $248,000,000 for the 2nd quarter of 2021. Renewable diesel sales volumes averaged 2,200,000 gallons per day in the Q2 of 2022, listen, which was 1,300,000 gallons per day higher than the Q2 of 2021. The higher sales volumes were attributed to DGD2's operations, listen to the questions which started up in the Q4 of 2021. The ethanol segment reported 100 and to $1,000,000 of operating income for the Q2 of 2022 compared to $99,000,000 for the Q2 of 2021. Listen.

Speaker 1

Adjusted operating income, which primarily excludes the gain from the sale of our Jefferson ethanol plant, whose operations were idled in 2020, list was 79,000,000 for the Q2 of 2022. Ethanol production volumes averaged 3,900,000 gallons per day in the second quarter of 2022. For the Q2 of 2022, G and A expenses were for $233,000,000 and net interest expense was $142,000,000 Depreciation and amortization expense was $602,000,000 listen and income tax expense was $1,300,000,000 for the Q2 of 2022. The effective tax rate was 22%. Listen.

Speaker 1

Net cash provided by operating activities was $5,800,000,000 in the Q2 of 2022. Listen. Excluding the favorable impact from the change in working capital of $594,000,000 and the other joint venture members' list of 50% share of DGD's net cash provided by operating activities, excluding changes in DGD's working capital, Adjusted net cash provided by operating activities was $5,200,000,000 With regard to investing activities, we made $653,000,000 of capital investments in the Q2 of 2022, of which $298,000,000 was for list of sustaining the business, including costs for turnarounds, catalysts and regulatory compliance and $355,000,000 was for growing the business. Listen. Excluding capital investments attributable to the other joint venture members' 50% share of DGD and those related to other variable interest list of entities.

Speaker 1

Capital investments attributable to Valero were $524,000,000 in the Q2 of 2022. Listen. Moving to financing activities, earlier this month, our Board of Directors approved a regular quarterly common stock dividend of 0.98 and a listen to the call. We returned 42% of adjusted net cash provided by operating activities to our stockholders through dividends and stock buybacks in the quarter, which is at the low end of our annual 40% to 50% target payout ratio. With respect to our balance sheet, we completed another debt reduction transaction in the 2nd quarter list that reduced Valero's debt by $300,000,000 As Joe already noted, this transaction combined with the debt reduction and refinancing transactions and completed in the second half of twenty twenty one and the Q1 of 2022 have collectively reduced Valero's debt by 2,300,000,000 listen.

Speaker 1

We ended the quarter with $10,900,000,000 of total debt, dollars 2,000,000,000 of finance lease obligations and $5,400,000,000 of cash and cash listen. The debt to capitalization ratio, net of cash and cash equivalents, was 25%, listen, down from the pandemic high of 40% at the end of March 2021, which was largely the result of the debt incurred during the height of the COVID-nineteen pandemic. And we ended the quarter well capitalized with $4,600,000,000 of available liquidity, excluding cash. Turning to guidance, we expect capital investments attributable to Valero for 2022 to be approximately $2,000,000,000 listen, which includes expenditures for turnarounds, catalysts and joint venture investments. About 60% of that amount listen to the business and 40% to growth.

Speaker 1

About half of the growth capital in 2022 is allocated to expanding our low to carbon fuels businesses. For modeling our 3rd quarter operations, we expect refining throughput volumes to fall within the following ranges: Gulf Coast at 1.72000000 to 1.77000000 barrels per day Mid Continent at 420,000 to 440,000 barrels per day West Coast at 255,000 to 275,000 barrels per day and North Atlantic at 445,000 to 465,000 barrels per day. We expect refining cash operating expenses in the 3rd quarter to be approximately $5.40 per barrel, Which is higher than the 2nd quarter, primarily due to higher energy costs. With respect to the Renewable Diesel segment, we expect listen. Sales volumes to be approximately 750,000,000 gallons in 2022 with the anticipated start up of DGD 3 in the 4th quarter.

Speaker 1

Operating expenses in 2022 should be $0.45 per gallon, which includes $0.15 per gallon for non cash costs such as depreciation and amortization. Our ethanol segment is expected to produce 3,900,000 gallons per day in the 3rd quarter. Operating expenses should average $0.50 per gallon, which includes $0.05 per gallon for non cash costs such as depreciation and amortization. Listen. For the Q3, net interest expense should be about $140,000,000 and total depreciation and amortization expense should be approximately 6 of $140,000,000 For 2022, we expect G and A expenses, listen to the call.

Speaker 1

Excluding corporate depreciation to be approximately $870,000,000 That concludes our opening remarks. Listen. Before we open the call to questions, we again respectfully request that callers adhere to our protocol of limiting each turn in the Q and A to 2 questions.

Operator

Listen. A a listen only mode. The The first question today is coming from Manav Gupta of Credit Suisse. Please go ahead.

Speaker 4

Guys, I'm going to actually ask only one question, And that is basically can you help us understand the demand dynamics out there? There were some worries on demand destruction, then there were some worries are on recessionary demand. The conversations we are having indicates that's not the case, but you have the most diversified listen. So help us understand gasoline or diesel, what are you seeing in terms of demand out there? And I'll leave it there.

Speaker 4

Thank you.

Speaker 5

Thanks, Bonav. Bonav, this is Gary. I can tell you through our wholesale channel, there's really no indication of any demand destruction. In June, We actually set sales records. We sold 911,000 barrels a day in the month of June, which surpassed our previous record in August of 2018 where we did 904,000 barrels a day.

Speaker 5

We read a lot about demand destruction, mobility data showing in that range of 3% to 5% demand destruction. Again, we're not seeing in our system. We did see a bit of a lull the 1st couple of weeks of July, listen. But our 7 day averages now are back to kind of that June level with gasoline at pre pandemic levels and diesel continuing to trend above pre pandemic levels.

Speaker 4

Listen. Thank you, guys, and congrats on a very good quarter.

Speaker 3

Thank you.

Speaker 5

Listen.

Operator

Thank you. The next question is coming from Theresa Chen of Barclays. Please go ahead.

Speaker 6

Listen. Great quarter, team. Very impressive. Thanks. In light of the macro developments, both on the supply side and the demand side.

Speaker 6

What are your thoughts about where the mid cycle crack is at now structurally?

Speaker 7

You guys want to? Well, hey, Theresa, this is Lane. I'll take a crack at it and Gary can tune me a little bit. But Obviously, right now, it's significantly above the mid cycle, or at least our view of mid cycle and probably anybody else's for that matter. But With that said, you got to remember idea of mid cycle is we go through an entire economic cycle like from recession to recession.

Speaker 7

And so that's kind of it's sort of list. And we work through those numbers with a few adjustments. But I think we believe at least listen. The world seems to be trending in a place where through the next economic cycle for a number of reasons, whether it's just sort of listen. The way the energy transition is working, sort of the lack of investment in fossil fuels, for a number of these types of reasons, we sort of see that you'll probably be above Where our mid cycle is today for the next economic cycle.

Speaker 5

Yes, I agree with what Lane said. Really our market outlook listen for a prolonged period where we would be above what we currently have as mid cycle. And there's a number of structural changes. When you talk about high energy costs As a result of higher natural gas costs, in the U. S, we have lower feedstocks costs due to our proximity to crude natural gas.

Speaker 5

And then you're getting refiners that are now having to pay some form of a carbon tax, which raises their costs as well. So as long as supply and demand balances are tight And there's a call on that capacity, it would be logical to assume it's going to start to reset that mid cycle level.

Speaker 6

Listen. Thank you. And kind of picking back on one off question related to demand. Listen. If we do see a period of demand contraction or demand softness, what do you think the risk is At this point for the industry as a whole to build overwhelming amounts of inventories given that the refining industry just lived through 2.5 years of listen having to be extremely flexible, shutting down capacity, etcetera, to run through the pandemic.

Speaker 5

Yes. So again, kind of referring back to those structural advantages we have in the U. S. On feedstock costs and energy costs and freight advantages listen. Going to South America, we feel like we're in such a strong competitive position.

Speaker 5

Even if demand list. Here in the United States, we would be able to export volume to and be competitive doing that in South America.

Speaker 7

Well, and this is Lane. Hey, Theresa, to your point, I mean, the extreme measures our industry took to deal with the pandemic demand destruction, It's hard to imagine outside of another pandemic demand destruction where going through a recession would have anything remotely close to that. And obviously, Going through the pandemic, quite a bit of capacity was taken offline.

Operator

Thank you. Thank you. The next question is coming from Doug Leggate of Bank of America. Please go ahead.

Speaker 8

Good morning, everyone. Thanks for taking my questions. So guys, I guess, kind of a follow-up on the mid cycle question, but

Speaker 9

I'm going to ask

Speaker 8

listen. Pembroke is clearly an insight to what's happening in Europe listen today, I guess, is paying somewhere around $60 per 1,000 cubic feet per natural gas. The UK obviously is a little lower than that. But But when you think about the structural cost advantage of the U. S, which is where we are focused, I guess, on mid cycle as opposed to global, a listen.

Speaker 8

What are the dynamics that you're seeing? Is Pembroke making money today? What's its relative competitiveness as a benchmark, let's say, for Europe versus the U. S? Listen.

Speaker 7

Hey, Doug, it's Lane. So it's a very good question and we sort of talked about this quite a bit in terms of this advantage the United States listen. Today, Pembroke is doing well. It did particularly well in this past quarter. To give a more of a precise answer around natural gas.

Speaker 7

We've been mainly paying about 30 bps, I don't know, maybe to this morning it was 50 bps, but I mean Per million BTU, but I would say it's more in this 30 range, there's quite a bit of volatility. However, the U. K. Is a little bit better positioned than list. Europe is in terms of the value that they're paying for gas.

Speaker 7

So even there's another step change and we're not we don't refine over there. So We're just sort of reading the same things that you guys are. There's another step change in terms of how much gas is costing in the UK versus some of these European refineries that are maybe not in the best situation around natural gas. So Pembroke is doing well. I mean So I wouldn't consider it actually to be the marginal capacity today.

Speaker 7

Obviously, the fact that they're doing well means that we're listen. Way past them as being somebody like even them being the marginal sort of marginal capacity sitting out there setting the mainly the heat crack.

Speaker 8

Listen. Lane, if I may follow-up real quick, where does Pembroke sit in to the extent you're prepared to share on your portfolio cost

Speaker 2

curve today.

Speaker 7

Well, today it's high, right, because of the cost of natural gas. But when you look at them on the other issues, whether list. Sort of our cost per barrel or all those out sort of on an energy adjusted basis. They're one of the most competitive refineries. And Europe and actually look pretty good on a U.

Speaker 7

S. Basis on Solom. I'm not going to give exact precision, but it's a very efficient refinery. A They do. They are very, very competitive in the Atlantic Basin.

Speaker 7

Okay.

Speaker 8

Thank you. My follow-up, hopefully Quick one. You've cut your net debt in half over the past year, I guess. I, for 1, as you know, I'm delighted to see some cash building in the balance sheet. I'm just curious listen.

Speaker 8

How you think about bulletproofing your balance sheet versus stepping into perhaps share buybacks over the foreseeable future? And I'll leave it there. Thanks.

Speaker 10

Thanks, Doug. This is Jason. I can take that one. We'll be doing basically the same thing we've been doing in the past. Our capital allocation priorities haven't changed.

Speaker 10

Listen. We said when the margin started recovering, we'd start paying down our debt and build cash as a priority. We made really good progress on both of those fronts. As Joe and Homer mentioned on the debt side and you mentioned, we had a series of transactions starting last September running through June 1st. We paid back 2,300,000,000 of our COVID debt so far.

Speaker 10

On the cash side, we said we plan to hold more given what we experienced through COVID, dollars 3,000,000,000 to 4,000,000,000 listen to the range we'd look at. We're now at $5,400,000,000 with a net debt to cap of 25% at the end of the second quarter. So we think we're in a good shape from those on those fronts. Now our approach to buybacks will be continue to be guided by our target payout ratio of 40% to 50% adjusted net cash from operations. We've remained at the lower end of the range so far this year given our competing priorities of paying back the debt and building cash.

Speaker 10

We're

Speaker 9

listen. We're at a 42% payout so

Speaker 10

far this year. So we think we're in good shape and we'll plan to continue doing more of the same,

Speaker 8

listen. All right, guys. I appreciate the answers. Thank you.

Speaker 3

Listen. You bet, Doug. Take care.

Operator

Thank you. The next question is coming from Roger Read of Wells Fargo. Please go ahead.

Speaker 11

Listen. Thank you. Good morning.

Speaker 2

Good morning, Roger.

Speaker 11

Coming back to demand thing, but maybe a little more of a forward look. Distillate was the big surprise kind of in the spring coming out of the winter in Europe. And as we look to this Next winter, I mean, if you're in Europe, it doesn't look like gas gets any cheaper. So as we think about distillator fuel oil demand there and the way we're running at this point in the summer. What do you see as the ways listen in which incremental diesel can make it into Europe and affect the overall Atlantic Basin margins.

Speaker 5

Yes. It's going to be a real challenge for us, Roger, to be able to supply a lot more diesel into Europe. If you look with the U. S. Inventories where they are, listen.

Speaker 5

The industry basically running all out. We're getting back to where jet demand is recovering in the U. S, which is actually driving ULSD Yields down a little bit. So it's very difficult for me seeing that there's going to be a lot of flow from the U. S.

Speaker 5

Into Europe.

Speaker 11

Listen. Got you. And then as a follow-up on the 40% to 50% payout ratio, Pre COVID, there were a number of times you ran well above that level. Now that we're in a situation where Yes, it looks like better than mid cycle, cracks are going to persist for a while. You want to hold more cash.

Speaker 11

Do you see this as a situation where you may undershoot or kind of consistently stay at the low end as we saw in the Q2 or is this something that evolves a listen. Let's just say, as $4,000,000,000 of debt repayment is achieved, does it go back into that or to the high end of the range thereafter?

Speaker 3

You want to answer the first part? Yes. Sure. Yes, you're right.

Speaker 10

For the foreseeable future, at least in the next several months, we still got that priority of paying down our debt. So, I think we'll stay at the lower end while we're paying down debt. And then if the cycle continues to be super strong, you're right, we'll have a lot of excess cash listen

Speaker 3

to consider. Yes. And Roger, I agree completely with what Jason said. I mean, we want to go ahead and get things cleaned up and get this balance listen. Absolutely bulletproofed and carrying a bit more cash is something that makes a lot of sense to do.

Speaker 3

You'd like to have a listen. Your maintenance and turnaround CapEx covered with cash on hand, the dividend covered with cash on hand, and then we'll see where we go. But anyway, I think for now, we're on the right course. And as Gary has stated, it looks like the margin environment is going to be higher for some time. It certainly is today, not what we experienced in the Q2, but certainly well above what we would considered to be a traditional mid cycle and if we continue to build cash, we'll continue to honor the payout and it will probably move from the lower end to the higher end.

Speaker 11

Listen. Okay. And just maybe as one little tweak on that. As you think about dividend versus share repos, does that listen. Ultimately change once the balance sheet is back the way you want it.

Speaker 11

It's been a while since you've increased the dividend, I guess, is really what I'm getting at. Should we think of that as of becoming another way to return cash.

Speaker 10

Yes, I mean, you should. That is something we'll be looking at as we've listen. Our short term focus is on getting the debt back down and we will look at that. And we said this before, we'll be measured in our approach to ensure something that's listen to the cycle, especially given what we experienced coming through COVID, but that is something we'll be looking at.

Speaker 11

Great. Thank you.

Operator

Listen. Thank you. The next question is coming from Paul Samke of Samke Research. Please go ahead.

Speaker 2

Listen. Hi,

Speaker 12

good morning, everyone. Good morning, John. It was obviously a momentous quarter for oil markets. Can you just talk a bit about listen. What's happened in crude markets and what the outlook is in terms of obviously the Russian impacts and the various listen.

Speaker 12

We're looking at the Brent WTI spread everything else. Thanks.

Speaker 5

Yes, this is Gary. So I think overall, we started to see there was listen. Not certainly what would happen with the Russian sanctions, but as time has gone on, it appears that the Russian oil has continued to flow and it's It's a change in trade flows, not less Russian oil on the market. The combination of that, SBR barrels coming onto the market, Some production growth in certain parts of the world caused flat price to come down and then it's also caused quality differentials to be pressured somewhat. Listen.

Speaker 5

In addition to the things I mentioned, the early releases, the SPR largely medium sour barrels, which pressured the differentials. And then we've seen high sulfur fuel oil move weaker, which high sulfur fuel oil prices tend to impact quality differential as well. A Some of that is Russian resid is starting to break its way back to the market. You're seeing more high sulfur fuel oil come listen from Mexico, and so those things are starting to pressure the quality differentials, which we're seeing in the market today.

Speaker 12

That's very helpful. Thanks. Could you just Continue that forward thought. How do you think things will change over the next 6 months or so? I mean, one obvious thing is that the SPR, a I don't know.

Speaker 12

But I mean presumably at some point it's got to stop being released, right?

Speaker 5

Yes. Well, that's exactly right. I think you'll see lower volumes coming from the listen. Most people have kind of lowered their global oil demand forecast. So I think the oil markets are fairly well balanced.

Speaker 5

We wouldn't expect a lot of movement in the quality differentials from where they are today.

Speaker 12

Thank you. Appreciate it. Thanks, guys.

Speaker 3

Take care, Paul.

Operator

Listen. Thank you. The next question is coming from John Royall of JPMorgan. Please go ahead.

Speaker 9

Hey, good morning guys. Thanks for taking my question. Listen. So on R and D, can you talk about the captures stepping down in 2Q and any moving pieces there beyond the backwardation that I know you listen. And then what do you expect the long term captures to look like in that business once we listen.

Speaker 9

A more normal looking market structure for diesel and once you have AGD III up and running.

Speaker 13

Yes, this is Eric. I think you've hit the nail on the head. Really, the big difference between Q1 and Q2 was the severity of the backwardation Quarter to quarter. But if you look at the rest of the capture rate, which was weaker, you had soybean prices were higher and Obviously, LCFS prices were down, sort of averaging $130 in the Q1 versus closer to $100 in the 2nd quarter. So clearly, margins tighter in the 2nd quarter and capture rates lower, mostly due to the backwardation you mentioned.

Speaker 13

A If you look forward, I think, again, you've said it that as USD markets normalize, you'll see a little bit of a return to normal on the back half of this year for RD.

Speaker 9

Great. And then just sticking with RD, I I know we've had some good news on the BTC and the SaaS side this morning. Could you give your latest thoughts on the LCFS program in California and Where you think pricing could go there? I know we're we have the scoping process now to think about. We have the federal program in Canada starting next year.

Speaker 9

So Just any thoughts on pricing there into

Speaker 8

the second half of next year would be helpful.

Speaker 13

Yes, the LCFS market has in California has really seem to have stabilized in the sort of $90 to $100 range. We don't see a lot of volume moving. And as you mentioned, the scoping meetings they have, they are listen. Considering increasing the obligations into 2,030, which should have a create a greater demand for the LCFS credits. A Because as we see now with renewable diesel and other renewables, consuming up to about 50% of the obligation and Gasoline demand still relatively muted on the West Coast.

Speaker 13

It's just the credit obligation, there's just not a big driver there. So Yes, I think you mentioned Canada. We see that's an opening emerging market. The world is trying to figure out what these early credit prices are going to be valued at. A As that new federal regulation in Canada goes into effect between now and next June.

Speaker 13

And then obviously with Oregon and Washington opening up, They all seem to be hanging around the same sort of $90 to $100 credit price. So, obviously, we want to see we'd like to see that go back up. But If I was going to have an outlook, it seems to have stabilized somewhere kind of in that range.

Speaker 9

Listen. Great. That's helpful. Thank you.

Operator

Thank you. The next question is coming from Conor Lina of Morgan Stanley. Please go ahead.

Speaker 14

Listen. Yes, thanks. I wanted to return to the topic of export markets and sort of the global balance. As we get closer to Europe's proposed date to stop taking Russian refined products. What's your sort of high level view of how the market will reposition and the sort of implication I'm wondering about here is you highlight Latin America as a key area of your exports.

Speaker 14

Is that likely to change? Do you think Russian volumes will be competitive there? Just my little thoughts on that would be great.

Speaker 5

Yes, it's difficult to know what's going to happen with the sanctions. I think we see some South American countries that seem to be interested in taking some Russian barrels. So that listen. It could be a scenario to develop some of the Russian diesel makes its way to South America and then we backfill into Europe. I could see that happening, but we don't really have a lot of clarity what's going to happen.

Speaker 14

I guess, Ben, I'm just trying to triangulate. Maybe this is more of a shorter term comment, but you were suggesting earlier that there list. Probably was not a high likelihood that U. S. Diesel in particular would be flowing to Europe.

Speaker 14

Is that more of a near term comment? And if the sanctions were to be enacted. Would you revisit that view or just basically what's the duration of that expectation?

Speaker 5

Yes. Certainly in the short term freight rates are high and we listen. Better incentive going into Latin America. I don't know what's going to happen in terms of Russian sanctions and the rebalancing. So that'll be just kind of a wait and see.

Speaker 14

Listen. All right. Fair enough. Maybe just to sneak one last one in here. Capture rates have actually held up pretty strong in the refining business.

Speaker 14

Anything that we should think about in terms of big swing factors into the Q3 here? Or do you think the 2Q result is pretty indicative of where you're going to be in the near term?

Speaker 7

Hey, Connor, it's Lane. So it's early, but I would say, normally speaking, absent any big moves and flat price, it would be fairly similar.

Speaker 14

Listen. Appreciate it. I'll turn it back.

Operator

Thank you. The next question is coming from Neil Mehta of Goldman Sachs. Please go ahead.

Speaker 15

Listen. Yes, good morning team. Congrats on a great quarter here. The first question was around the blenders tax credit. We got some news out of Washington last night that there could be an extension there.

Speaker 15

So just would love your perspective on what that could mean for the DGD business and How do you understand the ruminations in Washington?

Speaker 13

Well, this is Eric. I'll start. The BTC, obviously, is on a part of the business model that we capture with renewable diesel, obviously. And we'd always said that We're fairly certain there would be some sort of a blenders tax credit, because there's always been one for about the last decade. We have seen that there was some view that Without a blender's tax credit, the D4 RIN would pick it up, and maybe not perfectly dollar for dollar, but certainly in sort of the 70%, 80% range.

Speaker 13

And No, we'll see how this plays out. But certainly, it's supportive of the Renewable business. I don't know if, Rich, you wanted to comment at all on the political side?

Speaker 16

Yes. This is Rich Walsh. I mean, we just saw the bill came out listen. Late last night, 700 pages. We're looking through it.

Speaker 16

I mean, there are some things in there that are helpful to our business. The tax credit, obviously, we're just talking about. There's also a SAF tax credit in there as well that we'll be looking at. And there's other things too we're trying to sort through. So, I think it was a surprise to everybody that came out that quick.

Speaker 16

I don't think we really ever thought that the lender's tax credit was going to be The biotax credit would be a problem. We thought it would end up on one of these bills before the end of the year, but it's always good to see it

Speaker 2

listen. All

Speaker 15

right. Great, guys. And then Follow-up is just on yield switching. We're in an environment now where we're obviously heating oil and distillates trading well above a gasoline. Do you see the industry and the company being able to switch to capture that?

Speaker 15

And does that take some pressure take some pressure off of the distillate side of the equation and help to rebalance inventory.

Speaker 7

Neil, this is Lane. So Gary kind of addressed this a little bit. Our assets have been in max distillate mode for a few weeks. And so one of the dynamics that's occurring Right now, as the jet recovers, it actually makes distillate yields fall or diesel yields fall. So I guess that the short answer is and I assume everybody else is doing kind of the similar signals.

Speaker 7

There's not a lot of additional diesel outside of incremental runs that Somebody might have and the industry is running at pretty high utilization rates. I don't see a big opportunity to make up sort of a decent shortfall right now.

Speaker 15

Listen. Thanks, Celine. Thanks, guys.

Operator

Thank you. The next question is coming from Ryan Todd of Piper Sandler. Please go ahead.

Speaker 17

Listen. Good. Thanks. Maybe a follow-up on renewable diesel and Waste fat spreads and the feedstock market. Obviously, we've seen those spreads nearly over listen.

Speaker 17

In the first half of the year and in particular soybean oil moves pretty significantly in the recent time here. Can you talk a little bit about what you're seeing in animal fat and kind of low CIFEED markets in the second half to the year. Would you expect those to widen out a little more? And then as you look towards the start up of DGD 3, would you expect Kind of a replay of what we saw late last year, whereas you start buying that there's some Kind of normalization and equilibrium period there where we see some volatility?

Speaker 13

Yes, I think as you You said, I mean, the soybean oil market was pricey in the 2nd quarter, but has since come down. And If you look at it, feedstock availability is there. I mean, we're not having any problems sourcing any of the different waste oils or animal fat feedstocks. A Relative values, it goes along with the LCFS that a lot of that It is not as advantageous as it has been, if you look at sort of this time last year. But we certainly have availability to get the feedstocks we need for DGD 3.

Speaker 13

And And there's no doubt with DJ3 being our 3rd and largest unit starting up in the 4th quarter, it will change some of the trade flows, certainly in the U. S. And as well as where we can pull from all the global sources of feedstocks. So I think you're right. We will see a listen to an impact to feedstocks in general as we change a lot of the trade flows and then but I think it We'll see an equilibration sometime next year as it sort of settles out how those trade flows change.

Speaker 13

And so, it'll be interesting and That will be one thing we're looking at as you start up and see, like I mentioned earlier, with the Canadian Regulation opening up and some other markets opening up, we'll be looking at how that all plays out

Speaker 17

And then maybe just listen. A quick question on project spend and the environment. I mean, from your update, it clearly doesn't seem to be having an impact on timing. Listen. Any impact that the inflationary environment or supply chain I think could have on capital budgets that things like the Port Arthur Coker project or list of GED 3 as we look over the next 12 months.

Speaker 7

This is Lane. All those projects were steel prices listen. Labor and everything else is locked in prior to sort of this inflationary time that we're experiencing right now.

Speaker 9

Listen. Perfect. Thank you.

Operator

Thank you. The next question is coming from Sam Margolin of Wolfe Research. Please go ahead.

Speaker 2

Listen. Hello. How are you?

Speaker 3

Hey, Seth. Good. You?

Speaker 12

Good.

Speaker 18

Thanks. I listen. I want to ask about a comment I heard earlier on the call that made me think that you mentioned high sulfur fuel oil spreads are blowing out. We've got, Light Sweet Premiums and WCS discounts are very deep. You've also got these a very wide differentials between distillate and other products, specifically gasoline.

Speaker 18

It sounds like the scenario that people imagine for IMO 2020. And I was just wondering how influential you think that is the In the market today, given everything else that's going

Speaker 5

on. I think you are seeing a lot of pull through of IMO 2020 in the market today that It's contributing to the stronger distillate cracks that you're seeing because more diesel is being pulled into the marine sector and then it's also contributing to the high sulfur fuel discounts as well.

Speaker 7

Yes, this is Lane. I'll add to that. It's also we're calling some of these really high valuations are on I'm going to say sort of Atlantic Basin sweet crude because again, it's a little bit it's not unlike what's happening on natural gas. The marginal refiner trying not to make list high sulfur fuel oil is out bidding up the light sweet market, so they can try to stay out of that market, right? So it's list propping up the value of that crude versus the medium sours.

Speaker 18

Okay. Thank you. And then There's a follow-up sort of drilling down on the renewable diesel conversation and maybe on the policy side. But some feedback that we've gotten recently from a Other industry context is that renewable fuels, including ethanol, have moved very much into the energy security category and almost that's taking prominence over the carbon and emissions side. And then that's spurring a lot of support or incremental support, I should say, from regulators and DC.

Speaker 18

I was wondering if you're seeing You know the same thing when you interact with your counterparts in the government.

Speaker 16

This is Rich. I'll take on a listen. I would just qualify by saying they are low carbon too. So they're not Moving just into security, they're also part of the low carbon solution. So if you look at like our renewable diesel, it actually can outperform on a carbon intensity basis, some of the EV alternatives that are out there.

Speaker 16

I think one, I think what you're starting to see now is a realization among regulators that actually these low carbon a Liquid fuels are drop in, they're cheaper to implement, they're available for consumers listen and they provide an opportunity to also solve some of the climate issues that are out there. So I mean, I think what you're seeing is listen to the marketplace that these might be better alternatives. And of course, they're domestic and the real strength of the listen to the economy. So it's not surprising that you're starting to see more affection for

Speaker 2

listen to low carbon fuels.

Speaker 18

All right. Thanks so much.

Operator

Listen. Thank you. The next question is coming from Jason Gabelman of Cowen. Please go ahead.

Speaker 19

Hey, listen. Thanks for taking my questions. I wanted to ask firstly on the policy side and the government seemed interested in intervening in the markets when petroleum prices got too high, only a month ago and there's obviously listen to the back half of the year that prices can rise again, particularly on the flat crude price. So I was wondering if you could Maybe discuss a bit how your conversations with the government went, particularly around a petroleum product Export banner quota and if you think that's a realistic policy option that the government could implement in the future on

Speaker 3

a list of in response to President Biden's request. And I would consider the meeting to be constructive. She was well briefed on what the issues were and the implications of some of the policy listen to the changes that you just mentioned. We talked about various options that could be implemented in the short term. It would help take some of the pressure off of fuel prices to have those in hand.

Speaker 3

And in fact, the staff, a Her staff has continued to follow-up with members of our team and other attendees at that meeting to see what might make sense to try to implement. So it was a good meeting. Lane, anything you'd add to that?

Speaker 7

The only thing I would add is, at least I don't remember any mention of listen. Trying to limit exports that was not ever really that was not talked about whatsoever.

Speaker 3

Yes. And Yes. And it goes to my point that they understand the implications of some of these decisions. Banning exports doesn't have the effect list that they would want it to have. As far as we can tell, it would probably just put some pressure on the industry And it would certainly drive the global prices higher without the U.

Speaker 3

S. Supply to backfill some of the shortfalls that are out there. So They seem to have a keen grasp of that and that was encouraging to us. But no, I consider it was a constructive meeting and they're a Interested in solutions. It's always interesting to see what happens after these conversations take place and would there be Any actual follow-up with it, but they're still talking.

Speaker 3

So, more to come, Jason.

Speaker 19

All right. Were there any potential solutions that you and the representatives you met with saw eye to eye on?

Speaker 3

Yes. No, I think one of the things was RVP change.

Speaker 7

RVP and relaxing sulfur specs that was essentially I think the major Paul, I don't want to call them policy, but essentially initiatives that you could have that would help maybe Some of the U. S. Refiners have to export because of sulfur specs, that was fairly clear in there. So I think that And then the other idea was, again, like what Joe just mentioned, relaxing the RVP in some of these. And what that would require is some of the non attainment a Metropolitan areas would go from reformulated to a conventional blend.

Speaker 7

That's a little bigger move, but those were the things that we talked about.

Speaker 19

Listen. Got it. That's really helpful. And then my follow-up just on DGD, we're getting to this cash flow inflection point in the business when DGD3 starts up. And I was wondering if you could help us think about guideposts for what the cash distribution policy will be from listen to the joint venture back to the partners or at least a time when we could expect an update on that.

Speaker 19

Thanks.

Speaker 2

Listen. Okay.

Speaker 10

Yes, this is Jason. I'll start off and then maybe Eric can chime in. You all know how DGD was. The business was built. We used cash flows to the business.

Speaker 10

It's funded all the growth or largely funded the growth till now. We will have BGB 3 coming online in Q4, so there should be some excess

Speaker 13

Yes. So obviously, we do expect listen. There to be a positive cash flow next year with BGT3 starting up and capital finishing on that project. And so obviously we'll have to work with our partner on what we want to do with that cash. And so like we've said, We're going to take a pause after DGD 3 starts up and kind of take a look on the market of a lot of things we've talked about today between feedstocks and new product outlets.

Speaker 13

And then with the recent policy discussions that came out last night, what do we want to do with the cash? But obviously, there should be a cash flow to discuss in 2023 associated with DGD.

Speaker 19

All right. Thanks. Thanks a lot for the answers.

Operator

Listen. Thank you. The next question is coming from Matthew Blair of Tudor, Pickering, Holt. Please go ahead.

Speaker 2

Listen. Hey, good morning. If this potential VTC for SAF goes through, would you think about adding SAF capability a at DGD 3? And if so, what kind of yields should we be thinking about?

Speaker 13

Yes. So, obviously, there's a lot of things we got to still get the details of before, a But we certainly have a project in the wings that is waiting to see how this SAF credit is going to play out. And so There is a project that we've looked at for that we continue to do engineering on that would bolt on SAF capability to DGD3 of the U. S, obviously the largest producer of SAF. It does look like it could be a possibility, but like I said, a lot of details to work through from a policy standpoint and then as well that has to be discussed with our partner.

Speaker 2

Sounds good. And then could you walk us through the Q2 hedging impacts at DGD? I think in Q1, it was a headwind of $119,000,000 What does that look like for Q2? And is this like an inventory hedge are on a margin hedge, any details there?

Speaker 13

Yes. Those details will be in the queue. And what I would say is really it's all just a product of backwardation Being more severe in the Q2 than the Q1. So it was a larger impact and that's why, as we said earlier, margin capture We see that probably looking a little more favorable in the back half of the year, but that's all going to really be tied to how the USD market plays out. But it Currently looks better.

Speaker 13

We'll have to see how the rest of the year plays out.

Speaker 9

Great. Thank you.

Operator

Listen. Thank you. That brings us to the end of the question and answer session. I would like to turn the floor back over to Mr. Bohler for closing comments.

Speaker 1

Listen. Great. Thank you. We appreciate everyone joining us today. Obviously, feel free to contact the IR team if you have any additional questions.

Speaker 1

Thank you, everyone, and have a great day.

Operator

Ladies and gentlemen, thank you for your participation. This concludes today's event.

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Earnings Conference Call
Valero Energy Q2 2022
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