One industry that has a possibility of seeing the largest changes under the Trump administration is the refining business. Tax rates, border adjustment taxes, oil pipelines, and EPA renewable fuels regulations are all on the table. For Valero Energy (NYSE: VLO), that's a lot of change to address. Of course, analysts had lots of questions about these issues on Valero's most recent conference call. Here's what management had to say.
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Ensuring a return of capital to shareholders
One of the things that Valero did take a bit of flack for this past quarter was its very high payout ratio. The amount paid in dividends and share repurchases for the year was well above its total net income. While that may be a concern for some shorter-term thinking, CEO Joseph Gorder wanted to remind everyone that this past year was exceptional and that the company's operational abilities still support its payout to shareholders:
[W]e set the 75% target because it's easy to see and cash flow can move around, obviously. And Mike's right. Looking at net income in a low-margin environment, we set an expectation and we consider it to be kind of the floor. It's our commitment to our shareholders to the extent we can do more and if it's the best use for the cash, we'll go ahead and continue to buy back shares. I think, the move we made with the dividend this quarter clearly reflects our comfort level and our board's comfort level with the earnings capability of the company in a down market. And so obviously, if you look at a $2.80 dividend, it's going to continue to be a more significant component of the 75% payout ratio. We're very comfortable with that. But we will continue to buy back shares and the guys will do it the way they've done it in the past, to some extent ratably and to some extent opportunistically.
Could a border adjustment tax impact the bottom line?
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Something else that is very much at the forefront of investors' minds is the Trump administration's proposed policies on trade, especially those related to border adjustment taxes. For a company like Valero that imports a decent amount of Mexican crude oil, this could be a concern. As Gorder pointed out, though, Valero has the option to buy from other places other than just Mexico, and having that flexibility should be able to offset any huge changes in that regard. He said:
The big question around this whole border adjustment is how are the markets going to react to it? And frankly, we've read every one of the sell side reports on this and then consulting reports, as Jason mentioned, and it's got a lot of moving parts. Some people look at it on a static basis. Some have looked at it when you take into consideration the markets adjusting, and some have taken into consideration the currency adjustment also. So right now, there's a skeleton out there that they're trying to put flesh on and we don't know exactly what it's going to look like. But I think, it's fair to say that we're going to continue to optimize our operation. And if you recall, Gary, I don't remember how long ago, but we are running over 1 million barrels a day of light sweet crude and there's been times when we've run 600,000 or 700,000 barrels a day of light sweet crude. So, Phil, we've got the flexibility in the system.
Restarting the pipeline debate
Another question asked was the potential impact the company could see from the Keystone XL pipeline getting approval. When originally developed, Valero was considered an anchor customer for the pipeline, as it would take a large volume commitment for the project. Gary Simmons, senior VP of supply, international operations and systems optimization, reiterated the benefits this could mean for Valero and how it's not expecting for the project to be completed, but would certainly be happy if it is. Said Simmons:
Well, so we are shipper. We're still a strong supporter of Keystone. We don't have the ability to actually be an owner in the line. So we're working with TransCanada as they try to better understand the executive order and drum up customer support. Our belief is that the direct connection from the Western Canadian production to the U.S. Gulf Coast is a good thing because we have the most efficient capacity to really process those growing areas of production. Our intent, again, would be to process those barrels in our system, not to export the barrels.
The refining business has been a hotbed of merger and acquisition activity lately as the industry goes through a big wave of consolidation. So far, Valero has been pretty quiet on this front. It sniffed at aLyondellBasell (NYSE: LYB) refinery in the Houston area that was taking offers, but Lyondell decided to hold onto it. So when asked about some other opportunities it's looking at, Gorder talked about how the company may go in a different direction:
The Lyondellrefinery is a nice opportunity, but they chose not to sell it. And we're just not seeing a lot of refining assets that are for sale that would add any value to Valero's portfolio. So from an acquisition perspective, what do you focus on? You focus on the opportunities in logistics and other areas where you can improve the earnings capability of the company by improving your logistics, your feeds in, your products out, and that's potentially upgrading your stream. So we're not in a position -- we don't believe we're in a position where we've got to go do a deal to balance our portfolio. We'll look at this a little differently in that we continue to seek ways to try to improve the quality of the portfolio we've got in place.
We actually saw this play out in January when Valero used its subsidiary partnership Valero Energy Partners (NYSE: VLP) to acquire an interest in a crude oil pipeline from Plains All American Pipeline. This is a different strategy than most refiner-related MLPs because they have historically been used to drop down midstream assets from the parent company. It appears, though, that Valero may be looking to use midstream to really grow the business efficiently.
Unleash the capital
Valero has some refining assets overseas, and as a result the company has quite a bit of cash sitting abroad. This, of course, raised the question among analysts during the call about repatriation taxes and how the company could benefit. While there would be some obvious benefits, Gorder was quick to point out that the company didn't see getting that cash back quickly changing much:
The need to get it back? I don't think we have a sense of need to get it back. It would be nice to have access to it. And Jason and the team are looking at the repatriation implications of the border tax adjustment. You always want to have your cash totally accessible to you, so it will be great to get it back. But I would tell you that this -- let's just assume that we're able to bring it back and bring it back in good shape. The question is then what do you do with it? Do you reinvest it in the business? I don't see us changing our approach to capital if we had the cash back, OK? I mean, I don't think [Executive Vice President of Refining Operations and Engineering]Lane [Riggs] is going to say, gee whiz now I can do a whole bunch more because we're not holding back on things that we're doing today. So it would be wonderful to have access to it without paying any tax on it. That's not likely. But I don't think it changes anything we're doing.
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