UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_________________________________________________________________
FORM 10-Q
_________________________________________________________________
(Mark One)
☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended June 30, 2020
OR
☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from __________ to ____________
Commission File Number 1-3876
_________________________________________________________________
HOLLYFRONTIER CORPORATION
(Exact name of registrant as specified in its charter)
Delaware | 75-1056913 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |
2828 N. Harwood, Suite 1300 | ||
Dallas | ||
Texas | 75201 | |
(Address of principal executive offices) | (Zip Code) | |
(214) 871-3555
(Registrant’s telephone number, including area code)
_________________________________________________________________
(Former name, former address and former fiscal year, if changed since last report)
Securities registered pursuant to 12(b) of the Securities Exchange Act of 1934: | ||
Title of each class | Trading Symbol(s) | Name of each exchange on which registered |
Common Stock $0.01 par value | HFC | New York Stock Exchange |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer | ☒ | Accelerated filer | ☐ | Non-accelerated filer | ☐ | Smaller reporting company | ☐ |
Emerging growth company | ☐ | ||||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
162,015,416 shares of Common Stock, par value $.01 per share, were outstanding on July 31, 2020.
HOLLYFRONTIER CORPORATION
INDEX
Page | |
PART I. FINANCIAL INFORMATION | |
June 30, 2020 (Unaudited) and December 31, 2019 | |
Three and Six Months Ended June 30, 2020 and 2019 | |
Three and Six Months Ended June 30, 2020 and 2019 | |
Six Months Ended June 30, 2020 and 2019 | |
Three and Six Months Ended June 30, 2020 and 2019 | |
Index to Exhibits | |
Signatures | |
FORWARD-LOOKING STATEMENTS
References herein to HollyFrontier Corporation (“HollyFrontier”) include HollyFrontier and its consolidated subsidiaries. In accordance with the Securities and Exchange Commission’s (“SEC”) “Plain English” guidelines, this Quarterly Report on Form 10-Q has been written in the first person. In this document, the words “we,” “our,” “ours” and “us” refer only to HollyFrontier and its consolidated subsidiaries or to HollyFrontier or an individual subsidiary and not to any other person with certain exceptions. Generally, the words “we,” “our,” “ours” and “us” include Holly Energy Partners, L.P. (“HEP”) and its subsidiaries as consolidated subsidiaries of HollyFrontier, unless when used in disclosures of transactions or obligations between HEP and HollyFrontier or its other subsidiaries. This document contains certain disclosures of agreements that are specific to HEP and its consolidated subsidiaries and do not necessarily represent obligations of HollyFrontier. When used in descriptions of agreements and transactions, “HEP” refers to HEP and its consolidated subsidiaries.
This Quarterly Report on Form 10-Q contains certain “forward-looking statements” within the meaning of the federal securities laws. All statements, other than statements of historical fact included in this Form 10-Q, including, but not limited to, those under “Results of Operations,” “Liquidity and Capital Resources” and “Risk Management” in Part I, Item 2 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and those in Part II, Item 1 “Legal Proceedings” are forward-looking statements. Forward-looking statements use words such as “anticipate,” “project,” “expect,” “plan,” “goal,” “forecast,” “intend,” “should,” “would,” “could,” “believe,” “may,” and similar expressions and statements regarding our plans and objectives for future operations. These statements are based on management’s beliefs and assumptions using currently available information and expectations as of the date hereof, are not guarantees of future performance and involve certain risks and uncertainties. All statements concerning our expectations for future results of operations are based on forecasts for our existing operations and do not include the potential impact of any future acquisitions. Although we believe that the expectations reflected in these forward-looking statements are reasonable, we cannot assure you that our expectations will prove to be correct. Therefore, actual outcomes and results could materially differ from what is expressed, implied or forecast in these statements. Any differences could be caused by a number of factors including, but not limited to:
• | the extraordinary market environment and effects of the COVID-19 pandemic, including the continuation of a material decline in demand for refined petroleum products in markets we serve; |
• | risks and uncertainties with respect to the actions of actual or potential competitive suppliers and transporters of refined petroleum products or lubricant and specialty products in our markets; |
• | the spread between market prices for refined products and market prices for crude oil; |
• | the possibility of constraints on the transportation of refined products or lubricant and specialty products; |
• | the possibility of inefficiencies, curtailments or shutdowns in refinery operations or pipelines, whether due to infection in the workforce or in response to reductions in demand; |
• | effects of governmental and environmental regulations and policies, including the effects of current restrictions on various commercial and economic activities in response to the COVID-19 pandemic; |
• | the availability and cost of our financing; |
• | the effectiveness of our capital investments and marketing strategies; |
• | our efficiency in carrying out and consummating construction projects, including our ability to complete announced capital projects, such as the conversion of the Cheyenne Refinery to a renewable diesel facility and the construction of the Artesia renewable diesel unit and pretreatment unit, on time and within budget; |
• | our ability to timely obtain or maintain permits, including those necessary for operations or capital projects, |
• | our ability to acquire refined or lubricant product operations or pipeline and terminal operations on acceptable terms and to integrate any existing or future acquired operations; |
• | the possibility of terrorist or cyberattacks and the consequences of any such attacks; |
• | general economic conditions, including uncertainty regarding the timing, pace and extent of an economic recovery in the United States; |
• | further deterioration in gross margins or a prolonged economic slowdown due to the COVID-19 pandemic which could result in an impairment of goodwill and / or additional long-lived asset impairments; and |
• | other financial, operational and legal risks and uncertainties detailed from time to time in our SEC filings. |
Cautionary statements identifying important factors that could cause actual results to differ materially from our expectations are set forth in this Form 10-Q, including without limitation the forward-looking statements that are referred to above. When considering forward-looking statements, you should keep in mind the risk factors and other cautionary statements set forth under the heading “Risk Factors” included in Item 1A in our Annual Report on Form 10-K for the year ended December 31, 2019 and in conjunction
3
with the discussion in this Form 10-Q in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” under the heading “Liquidity and Capital Resources” and Part II, Item 1A, “Risk Factors.” All forward-looking statements included in this Form 10-Q and all subsequent written or oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by these cautionary statements. The forward-looking statements speak only as of the date made and, other than as required by law, we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
4
DEFINITIONS
Within this report, the following terms have these specific meanings:
“BPD” means the number of barrels per calendar day of crude oil or petroleum products.
“BPSD” means the number of barrels per stream day (barrels of capacity in a 24 hour period) of crude oil or petroleum products.
“Base oil” is a lubricant grade oil initially produced from refining crude oil or through chemical synthesis that is used in producing lubricant products such as lubricating greases, motor oil and metal processing fluids.
“Black wax crude oil” is a low sulfur, low gravity crude oil produced in the Uintah Basin in Eastern Utah that has certain characteristics that require specific facilities to transport, store and refine into transportation fuels.
“Cracking” means the process of breaking down larger, heavier and more complex hydrocarbon molecules into simpler and lighter molecules.
“Crude oil distillation” means the process of distilling vapor from liquid crudes, usually by heating, and condensing the vapor slightly above atmospheric pressure turning it back to liquid in order to purify, fractionate or form the desired products.
“FCC,” or fluid catalytic cracking, means a refinery process that breaks down large complex hydrocarbon molecules into smaller more useful ones using a circulating bed of catalyst at relatively high temperatures.
“LPG” means liquid petroleum gases.
“Lubricant” or “lube” means a solvent neutral paraffinic product used in commercial heavy duty engine oils, passenger car oils and specialty products for industrial applications such as heat transfer, metalworking, rubber and other general process oil.
“MMBTU” means one million British thermal units.
“Rack back” represents the portion of our Lubricants and Specialty Products business operations that entails the processing of feedstocks into base oils.
“Rack forward” represents the portion of our Lubricants and Specialty Products business operations that entails the processing of base oils into finished lubricants and the packaging, distribution and sale to customers.
“Refinery gross margin” means the difference between average net sales price and average cost per barrel sold. This does not include the associated depreciation and amortization costs.
“RINs” means renewable identification numbers and refers to serial numbers assigned to credits generated from renewable fuel production under the Environmental Protection Agency’s Renewable Fuel Standard (“RFS”) regulations, which require blending renewable fuels into the nation’s fuel supply. In lieu of blending, refiners may purchase these transferable credits in order to comply with the regulations.
“Sour crude oil” means crude oil containing quantities of sulfur greater than 0.4 percent by weight, while “sweet crude oil” means crude oil containing quantities of sulfur equal to or less than 0.4 percent by weight.
“Vacuum distillation” means the process of distilling vapor from liquid crudes, usually by heating, and condensing the vapor below atmospheric pressure turning it back to a liquid in order to purify, fractionate or form the desired products.
“White oil” is an extremely pure, highly-refined petroleum product that has a wide variety of applications ranging from pharmaceutical to cosmetic products.
“WTI” means West Texas Intermediate and is a grade of crude oil used as a common benchmark in oil pricing. WTI is a sweet crude oil and has a relatively low density.
5
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
HOLLYFRONTIER CORPORATION
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
June 30, 2020 | December 31, 2019 | |||||||
(Unaudited) | ||||||||
ASSETS | ||||||||
Current assets: | ||||||||
Cash and cash equivalents (HEP: $18,913 and $13,287, respectively) | $ | 902,509 | $ | 885,162 | ||||
Accounts receivable: Product and transportation (HEP: $14,929 and $18,732, respectively) | 540,818 | 834,771 | ||||||
Crude oil resales | 52,567 | 44,914 | ||||||
593,385 | 879,685 | |||||||
Inventories: Crude oil and refined products | 977,851 | 1,282,789 | ||||||
Materials, supplies and other (HEP: $935 and $833, respectively) | 195,850 | 191,413 | ||||||
1,173,701 | 1,474,202 | |||||||
Income taxes receivable | 77,729 | 5,478 | ||||||
Prepayments and other (HEP: $6,970 and $6,795, respectively) | 56,210 | 61,662 | ||||||
Total current assets | 2,803,534 | 3,306,189 | ||||||
Properties, plants and equipment, at cost (HEP: $2,053,174 and $2,047,674, respectively) | 7,052,866 | 7,237,297 | ||||||
Less accumulated depreciation (HEP: $(584,651) and $(552,786), respectively) | (2,567,686 | ) | (2,414,585 | ) | ||||
4,485,180 | 4,822,712 | |||||||
Operating lease right-of-use assets (HEP: $3,377 and $2,652, respectively) | 390,497 | 467,109 | ||||||
Other assets: Turnaround costs | 359,203 | 521,278 | ||||||
Goodwill (HEP: $312,873 and $312,873, respectively) | 2,373,912 | 2,373,907 | ||||||
Intangibles and other (HEP: $350,056 and $319,569, respectively) | 651,494 | 673,646 | ||||||
3,384,609 | 3,568,831 | |||||||
Total assets | $ | 11,063,820 | $ | 12,164,841 | ||||
LIABILITIES AND EQUITY | ||||||||
Current liabilities: | ||||||||
Accounts payable (HEP: $14,888 and $18,050, respectively) | $ | 870,695 | $ | 1,215,555 | ||||
Income taxes payable | 18,759 | 27,965 | ||||||
Operating lease liabilities (HEP: $3,766 and $3,608, respectively) | 102,336 | 104,415 | ||||||
Accrued liabilities (HEP: $30,886 and $30,418, respectively) | 341,252 | 337,993 | ||||||
Total current liabilities | 1,333,042 | 1,685,928 | ||||||
Long-term debt (HEP: $1,486,648 and $1,462,031, respectively) | 2,480,746 | 2,455,640 | ||||||
Noncurrent operating lease liabilities (HEP: $70,167 and $72,000, respectively) | 318,955 | 364,420 | ||||||
Deferred income taxes (HEP: $432 and $424, respectively) | 765,572 | 889,270 | ||||||
Other long-term liabilities (HEP: $58,351 and $59,021, respectively) | 250,994 | 260,157 | ||||||
Equity: | ||||||||
HollyFrontier stockholders’ equity: | ||||||||
Preferred stock, $1.00 par value – 5,000,000 shares authorized; none issued | — | — | ||||||
Common stock $.01 par value – 320,000,000 shares authorized; 256,042,554 shares issued as of June 30, 2020 and December 31, 2019 | 2,560 | 2,560 | ||||||
Additional capital | 4,215,894 | 4,204,547 | ||||||
Retained earnings | 4,148,390 | 4,744,120 | ||||||
Accumulated other comprehensive income | 2,225 | 14,774 | ||||||
Common stock held in treasury, at cost – 94,144,334 and 94,196,029 shares as of June 30, 2020 and December 31, 2019, respectively | (2,986,487 | ) | (2,987,808 | ) | ||||
Total HollyFrontier stockholders’ equity | 5,382,582 | 5,978,193 | ||||||
Noncontrolling interest | 531,929 | 531,233 | ||||||
Total equity | 5,914,511 | 6,509,426 | ||||||
Total liabilities and equity | $ | 11,063,820 | $ | 12,164,841 | ||||
Parenthetical amounts represent asset and liability balances attributable to Holly Energy Partners, L.P. (“HEP”) as of June 30, 2020 and December 31, 2019. HEP is a variable interest entity.
See accompanying notes.
6
HOLLYFRONTIER CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(In thousands, except per share data)
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2020 | 2019 | 2020 | 2019 | |||||||||||||
Sales and other revenues | $ | 2,062,930 | $ | 4,782,615 | $ | 5,463,475 | $ | 8,679,862 | ||||||||
Operating costs and expenses: | ||||||||||||||||
Cost of products sold (exclusive of depreciation and amortization): | ||||||||||||||||
Cost of products sold (exclusive of lower of cost or market inventory valuation adjustment) | 1,576,996 | 3,704,884 | 4,270,722 | 6,904,089 | ||||||||||||
Lower of cost or market inventory valuation adjustment | (269,904 | ) | 47,801 | 290,560 | (184,545 | ) | ||||||||||
1,307,092 | 3,752,685 | 4,561,282 | 6,719,544 | |||||||||||||
Operating expenses (exclusive of depreciation and amortization) | 303,359 | 333,252 | 631,704 | 664,844 | ||||||||||||
Selling, general and administrative expenses (exclusive of depreciation and amortization) | 75,369 | 85,317 | 163,106 | 173,351 | ||||||||||||
Depreciation and amortization | 130,178 | 126,908 | 270,753 | 248,329 | ||||||||||||
Long-lived asset and goodwill impairments | 436,908 | 152,712 | 436,908 | 152,712 | ||||||||||||
Total operating costs and expenses | 2,252,906 | 4,450,874 | 6,063,753 | 7,958,780 | ||||||||||||
Income (loss) from operations | (189,976 | ) | 331,741 | (600,278 | ) | 721,082 | ||||||||||
Other income (expense): | ||||||||||||||||
Earnings of equity method investments | 2,156 | 1,783 | 3,870 | 3,883 | ||||||||||||
Interest income | 1,506 | 4,588 | 5,579 | 10,963 | ||||||||||||
Interest expense | (32,695 | ) | (34,264 | ) | (55,334 | ) | (70,911 | ) | ||||||||
Gain on sales-type leases | 33,834 | — | 33,834 | — | ||||||||||||
Loss on early extinguishment of debt | — | — | (25,915 | ) | — | |||||||||||
Gain (loss) on foreign currency transactions | 2,285 | 2,213 | (1,948 | ) | 4,478 | |||||||||||
Other, net | 1,572 | 92 | 3,422 | 649 | ||||||||||||
8,658 | (25,588 | ) | (36,492 | ) | (50,938 | ) | ||||||||||
Income (loss) before income taxes | (181,318 | ) | 306,153 | (636,770 | ) | 670,144 | ||||||||||
Income tax expense (benefit): | ||||||||||||||||
Current | (65,607 | ) | 63,364 | (77,047 | ) | 118,648 | ||||||||||
Deferred | 34,696 | 25,972 | (116,030 | ) | 58,193 | |||||||||||
(30,911 | ) | 89,336 | (193,077 | ) | 176,841 | |||||||||||
Net income (loss) | (150,407 | ) | 216,817 | (443,693 | ) | 493,303 | ||||||||||
Less net income attributable to noncontrolling interest | 26,270 | 19,902 | 37,607 | 43,333 | ||||||||||||
Net income (loss) attributable to HollyFrontier stockholders | $ | (176,677 | ) | $ | 196,915 | $ | (481,300 | ) | $ | 449,970 | ||||||
Earnings (loss) per share attributable to HollyFrontier stockholders: | ||||||||||||||||
Basic | $ | (1.09 | ) | $ | 1.16 | $ | (2.97 | ) | $ | 2.64 | ||||||
Diluted | $ | (1.09 | ) | $ | 1.15 | $ | (2.97 | ) | $ | 2.62 | ||||||
Average number of common shares outstanding: | ||||||||||||||||
Basic | 161,889 | 169,356 | 161,882 | 170,100 | ||||||||||||
Diluted | 161,889 | 170,547 | 161,882 | 171,264 | ||||||||||||
See accompanying notes.
7
HOLLYFRONTIER CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(In thousands)
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2020 | 2019 | 2020 | 2019 | |||||||||||||
Net income (loss) | $ | (150,407 | ) | $ | 216,817 | $ | (443,693 | ) | $ | 493,303 | ||||||
Other comprehensive income (loss): | ||||||||||||||||
Foreign currency translation adjustment | 11,710 | 9,160 | (9,876 | ) | 13,523 | |||||||||||
Hedging instruments: | ||||||||||||||||
Change in fair value of cash flow hedging instruments | 1,513 | (693 | ) | (5,235 | ) | 14,897 | ||||||||||
Reclassification adjustments to net income (loss) on settlement of cash flow hedging instruments | 5,401 | (5,321 | ) | (1,175 | ) | (6,963 | ) | |||||||||
Net unrealized gain (loss) on hedging instruments | 6,914 | (6,014 | ) | (6,410 | ) | 7,934 | ||||||||||
Pension and other post-retirement benefit obligations: | ||||||||||||||||
Actuarial gain (loss) on pension plans | — | 72 | (45 | ) | — | |||||||||||
Actuarial gain on post-retirement healthcare plans | — | 2 | 3 | — | ||||||||||||
Net change in pension and other post-retirement benefit obligations | — | 74 | (42 | ) | — | |||||||||||
Other comprehensive income (loss) before income taxes | 18,624 | 3,220 | (16,328 | ) | 21,457 | |||||||||||
Income tax expense (benefit) | 4,250 | 416 | (3,779 | ) | 4,878 | |||||||||||
Other comprehensive income (loss) | 14,374 | 2,804 | (12,549 | ) | 16,579 | |||||||||||
Total comprehensive income (loss) | (136,033 | ) | 219,621 | (456,242 | ) | 509,882 | ||||||||||
Less noncontrolling interest in comprehensive income | 26,270 | 19,902 | 37,607 | 43,333 | ||||||||||||
Comprehensive income (loss) attributable to HollyFrontier stockholders | $ | (162,303 | ) | $ | 199,719 | $ | (493,849 | ) | $ | 466,549 | ||||||
See accompanying notes.
8
HOLLYFRONTIER CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
Six Months Ended June 30, | ||||||||
2020 | 2019 | |||||||
Cash flows from operating activities: | ||||||||
Net income (loss) | $ | (443,693 | ) | $ | 493,303 | |||
Adjustments to reconcile net income to net cash provided by operating activities: | ||||||||
Depreciation and amortization | 270,753 | 248,329 | ||||||
Long-lived asset and goodwill impairments | 436,908 | 152,712 | ||||||
Lower of cost or market inventory valuation adjustment | 290,560 | (184,545 | ) | |||||
Earnings of equity method investments, inclusive of distributions | (1,298 | ) | — | |||||
Loss on early extinguishment of debt | 25,915 | — | ||||||
Gain on sales-type leases | (33,834 | ) | — | |||||
(Gain) loss on sale of assets | (357 | ) | 73 | |||||
Deferred income taxes | (116,030 | ) | 58,193 | |||||
Equity-based compensation expense | 14,289 | 21,562 | ||||||
Change in fair value – derivative instruments | (9,377 | ) | 31,454 | |||||
(Increase) decrease in current assets: | ||||||||
Accounts receivable | 281,011 | (72,300 | ) | |||||
Inventories | (764 | ) | (6,708 | ) | ||||
Income taxes receivable | (72,382 | ) | (26,835 | ) | ||||
Prepayments and other | 9,704 | 14,020 | ||||||
Increase (decrease) in current liabilities: | ||||||||
Accounts payable | (314,892 | ) | 292,893 | |||||
Income taxes payable | (9,268 | ) | 7,826 | |||||
Accrued liabilities | 3,340 | 38,003 | ||||||
Turnaround expenditures | (49,248 | ) | (110,273 | ) | ||||
Other, net | 27,965 | 11,843 | ||||||
Net cash provided by operating activities | 309,302 | 969,550 | ||||||
Cash flows from investing activities: | ||||||||
Additions to properties, plants and equipment | (98,996 | ) | (102,717 | ) | ||||
Additions to properties, plants and equipment – HEP | (30,740 | ) | (17,752 | ) | ||||
Purchase of Sonneborn, net of cash acquired | — | (662,665 | ) | |||||
Investment in equity company - HEP | (2,400 | ) | — | |||||
Other, net | 470 | 825 | ||||||
Net cash used for investing activities | (131,666 | ) | (782,309 | ) | ||||
Cash flows from financing activities: | ||||||||
Borrowings under credit agreements | 168,000 | 175,000 | ||||||
Repayments under credit agreements | (138,500 | ) | (156,500 | ) | ||||
Proceeds from issuance of senior notes - HEP | 500,000 | — | ||||||
Redemption of senior notes - HEP | (522,500 | ) | — | |||||
Purchase of treasury stock | (1,243 | ) | (266,996 | ) | ||||
Dividends | (114,430 | ) | (113,508 | ) | ||||
Distributions to noncontrolling interests | (51,008 | ) | (66,703 | ) | ||||
Contributions from noncontrolling interests | 13,263 | — | ||||||
Payments on finance leases | (843 | ) | (783 | ) | ||||
Deferred financing costs | (8,714 | ) | — | |||||
Other, net | 456 | (374 | ) | |||||
Net cash used for financing activities | (155,519 | ) | (429,864 | ) | ||||
Effect of exchange rate on cash flow | (4,770 | ) | 2,515 | |||||
Cash and cash equivalents: | ||||||||
Increase (decrease) for the period | 17,347 | (240,108 | ) | |||||
Beginning of period | 885,162 | 1,154,752 | ||||||
End of period | $ | 902,509 | $ | 914,644 | ||||
Supplemental disclosure of cash flow information: | ||||||||
Cash paid during the period for: | ||||||||
Interest | $ | (64,003 | ) | $ | (67,620 | ) | ||
Income taxes, net | $ | (4,738 | ) | $ | (138,587 | ) | ||
See accompanying notes.
9
HOLLYFRONTIER CORPORATION
CONSOLIDATED STATEMENTS OF EQUITY
(Unaudited)
(In thousands except per share data)
HollyFrontier Stockholders' Equity | |||||||||||||||||||||||||||
Common Stock | Additional Capital | Retained Earnings | Accumulated Other Comprehensive Income (Loss) | Treasury Stock | Non-controlling Interest | Total Equity | |||||||||||||||||||||
Balance at December 31, 2019 | $ | 2,560 | $ | 4,204,547 | $ | 4,744,120 | $ | 14,774 | $ | (2,987,808 | ) | $ | 531,233 | $ | 6,509,426 | ||||||||||||
Net income (loss) | — | — | (304,623 | ) | — | — | 11,337 | (293,286 | ) | ||||||||||||||||||
Dividends ($0.35 declared per common share) | — | — | (57,248 | ) | — | — | — | (57,248 | ) | ||||||||||||||||||
Distributions to noncontrolling interest holders | — | — | — | — | — | (33,918 | ) | (33,918 | ) | ||||||||||||||||||
Other comprehensive loss, net of tax | — | — | — | (26,923 | ) | — | — | (26,923 | ) | ||||||||||||||||||
Issuance of common stock under incentive compensation plans, net of forfeitures | — | (2,037 | ) | — | — | 2,037 | — | — | |||||||||||||||||||
Equity-based compensation | — | 5,824 | — | — | — | 506 | 6,330 | ||||||||||||||||||||
Purchase of treasury stock | — | — | — | — | (1,062 | ) | — | (1,062 | ) | ||||||||||||||||||
Purchase of HEP units for restricted grants | — | — | — | — | — | (145 | ) | (145 | ) | ||||||||||||||||||
Contributions from noncontrolling interests | — | — | — | — | — | 7,304 | 7,304 | ||||||||||||||||||||
Balance at March 31, 2020 | $ | 2,560 | $ | 4,208,334 | $ | 4,382,249 | $ | (12,149 | ) | $ | (2,986,833 | ) | $ | 516,317 | $ | 6,110,478 | |||||||||||
Net income (loss) | — | — | (176,677 | ) | — | — | 26,270 | (150,407 | ) | ||||||||||||||||||
Dividends ($0.35 declared per common share) | — | — | (57,182 | ) | — | — | — | (57,182 | ) | ||||||||||||||||||
Distributions to noncontrolling interest holders | — | — | — | — | — | (17,090 | ) | (17,090 | ) | ||||||||||||||||||
Other comprehensive income, net of tax | — | — | — | 14,374 | — | — | 14,374 | ||||||||||||||||||||
Issuance of common stock under incentive compensation plans, net of forfeitures | — | (527 | ) | — | — | 527 | — | — | |||||||||||||||||||
Equity-based compensation | — | 7,484 | — | — | — | 475 | 7,959 | ||||||||||||||||||||
Purchase of treasury stock | — | — | — | — | (181 | ) | — | (181 | ) | ||||||||||||||||||
Purchase of HEP units for restricted grants | — | — | — | — | — | (2 | ) | (2 | ) | ||||||||||||||||||
Contributions from noncontrolling interests | — | — | — | — | — | 5,959 | 5,959 | ||||||||||||||||||||
Reclamation of stockholder short-swing profit | — | 603 | — | — | — | — | 603 | ||||||||||||||||||||
Balance at June 30, 2020 | $ | 2,560 | $ | 4,215,894 | $ | 4,148,390 | $ | 2,225 | $ | (2,986,487 | ) | $ | 531,929 | $ | 5,914,511 | ||||||||||||
10
HollyFrontier Stockholders' Equity | |||||||||||||||||||||||||||
Common Stock | Additional Capital | Retained Earnings | Accumulated Other Comprehensive Income | Treasury Stock | Non-controlling Interest | Total Equity | |||||||||||||||||||||
Balance at December 31, 2018 | $ | 2,560 | $ | 4,196,125 | $ | 4,196,902 | $ | 13,623 | $ | (2,490,639 | ) | $ | 540,488 | $ | 6,459,059 | ||||||||||||
Net income | — | — | 253,055 | — | — | 23,431 | 276,486 | ||||||||||||||||||||
Dividends ($0.33 declared per common share) | — | — | (56,849 | ) | — | — | — | (56,849 | ) | ||||||||||||||||||
Distributions to noncontrolling interest holders | — | — | — | — | — | (33,673 | ) | (33,673 | ) | ||||||||||||||||||
Other comprehensive income, net of tax | — | — | — | 13,775 | — | — | 13,775 | ||||||||||||||||||||
Issuance of common stock under incentive compensation plans, net of forfeitures | — | 3 | — | — | (3 | ) | — | — | |||||||||||||||||||
Equity-based compensation | — | 8,713 | — | — | — | 661 | 9,374 | ||||||||||||||||||||
Purchase of treasury stock | — | — | — | — | (73,225 | ) | — | (73,225 | ) | ||||||||||||||||||
Purchase of HEP units for restricted grants | — | — | — | — | — | (373 | ) | (373 | ) | ||||||||||||||||||
Balance at March 31, 2019 | $ | 2,560 | $ | 4,204,841 | $ | 4,393,108 | $ | 27,398 | $ | (2,563,867 | ) | $ | 530,534 | $ | 6,594,574 | ||||||||||||
Net income | — | — | 196,915 | — | — | 19,902 | 216,817 | ||||||||||||||||||||
Dividends ($0.33 declared per common share) | — | — | (56,659 | ) | — | — | — | (56,659 | ) | ||||||||||||||||||
Distributions to noncontrolling interest holders | — | — | — | — | — | (33,030 | ) | (33,030 | ) | ||||||||||||||||||
Other comprehensive income, net of tax | — | — | — | 2,804 | — | — | 2,804 | ||||||||||||||||||||
Equity attributable to HEP common unit issuances, net of tax | — | — | — | — | — | (140 | ) | (140 | ) | ||||||||||||||||||
Issuance of common stock under incentive compensation plans, net of forfeitures | — | (138 | ) | — | — | 138 | — | — | |||||||||||||||||||
Equity-based compensation | — | 11,602 | — | — | — | 586 | 12,188 | ||||||||||||||||||||
Purchase of treasury stock | — | — | — | — | (205,555 | ) | — | (205,555 | ) | ||||||||||||||||||
Balance at June 30, 2019 | $ | 2,560 | $ | 4,216,305 | $ | 4,533,364 | $ | 30,202 | $ | (2,769,284 | ) | $ | 517,852 | $ | 6,530,999 | ||||||||||||
See accompanying notes.
11
HOLLYFRONTIER CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1: | Description of Business and Presentation of Financial Statements |
References herein to HollyFrontier Corporation (“HollyFrontier”) include HollyFrontier and its consolidated subsidiaries. In accordance with the Securities and Exchange Commission’s (“SEC”) “Plain English” guidelines, this Quarterly Report on Form 10-Q has been written in the first person. In these financial statements, the words “we,” “our,” “ours” and “us” refer only to HollyFrontier and its consolidated subsidiaries or to HollyFrontier or an individual subsidiary and not to any other person, with certain exceptions. Generally, the words “we,” “our,” “ours” and “us” include Holly Energy Partners, L.P. (“HEP”) and its subsidiaries as consolidated subsidiaries of HollyFrontier, unless when used in disclosures of transactions or obligations between HEP and HollyFrontier or its other subsidiaries. These financial statements contain certain disclosures of agreements that are specific to HEP and its consolidated subsidiaries and do not necessarily represent obligations of HollyFrontier. When used in descriptions of agreements and transactions, “HEP” refers to HEP and its consolidated subsidiaries.
We are an independent petroleum refiner and marketer that produces high-value light products such as gasoline, diesel fuel, jet fuel and other specialty products. We own and operate petroleum refineries that serve markets throughout the Mid-Continent, Southwest and Rocky Mountain regions of the United States. In addition, we produce base oils and other specialized lubricants in the United States, Canada and the Netherlands, with retail and wholesale marketing of our products through a global sales network with locations in Canada, the United States, Europe, China and Latin America.
As of June 30, 2020, we:
• | owned and operated a petroleum refinery in El Dorado, Kansas (the “El Dorado Refinery”), two refinery facilities located in Tulsa, Oklahoma (collectively, the “Tulsa Refineries”), a refinery in Artesia, New Mexico that is operated in conjunction with crude oil distillation and vacuum distillation and other facilities situated 65 miles away in Lovington, New Mexico (collectively, the “Navajo Refinery”), a refinery located in Cheyenne, Wyoming (the “Cheyenne Refinery”) and a refinery in Woods Cross, Utah (the “Woods Cross Refinery”); |
• | owned and operated Petro-Canada Lubricants Inc. (“PCLI”) located in Mississauga, Ontario, which produces base oils and other specialized lubricant products; |
• | owned and operated Sonneborn (as defined below) with manufacturing facilities in Petrolia, Pennsylvania and the Netherlands, which produce specialty lubricant products, such as white oils, petrolatums and waxes; |
• | owned and operated Red Giant Oil Company LLC (“Red Giant Oil”), which supplies locomotive engine oil and has storage and distribution facilities in Iowa, Kansas, Utah and Wyoming, along with a blending and packaging facility in Texas; |
• | owned and operated HollyFrontier Asphalt Company LLC (“HFC Asphalt”), which operates various asphalt terminals in Arizona, New Mexico and Oklahoma; and |
• | owned a 57% limited partner interest and a non-economic general partner interest in HEP, a variable interest entity (“VIE”). HEP owns and operates logistic assets consisting of petroleum product and crude oil pipelines, terminals, tankage, loading rack facilities and refinery processing units that principally support our refining and marketing operations in the Mid-Continent, Southwest and Rocky Mountain regions of the United States. |
On June 1, 2020, we announced plans to permanently cease petroleum refining operations at our Cheyenne Refinery and to convert certain assets at our Cheyenne Refinery to renewable diesel production. We subsequently began winding down refining operations at our Cheyenne Refinery on August 3, 2020. This decision was primarily based on a positive outlook on the market for renewable diesel and the expectation that future free cash flow generation at our Cheyenne Refinery would be challenged due to lower gross margins resulting from the economic impact of the COVID-19 pandemic and compressed crude differentials due to dislocations in the crude oil market. Additional factors included uncompetitive operating and maintenance costs forecasted for our Cheyenne Refinery and the anticipated loss of the Environmental Protection Agency’s (“EPA”) small refinery exemption. Approximately 200 employees at our Cheyenne Refinery are expected to be impacted by this decision.
12
During the second quarter of 2020, we recorded a long-lived asset impairment of $232.2 million and accelerated depreciation of $2.2 million related to our Cheyenne Refinery asset groups. We expect to record additional non-cash charges of $3.7 million for accelerated depreciation in the third quarter of 2020. Additionally, during the second quarter of 2020, we recorded $1.1 million in employee severance costs related to the conversion of our Cheyenne Refinery. Also, during the second quarter of 2020, we recorded a reserve of $6.2 million against our repair and maintenance supplies inventory. These severance costs and the inventory reserve charge were recognized in operating expenses and were reported in our Refining segment.
During the second quarter of 2020, we initiated and completed a corporate restructuring. As a result of this restructuring, we recorded $3.7 million in employee severance costs, which were recognized primarily as operating expenses in our Refining segment and selling, general and administrative expenses in our Corporate and Other segment.
On November 12, 2018, we entered into an equity purchase agreement to acquire 100% of the issued and outstanding capital stock of Sonneborn US Holdings Inc. and 100% of the membership rights in Sonneborn Coöperatief U.A. (collectively, “Sonneborn”). The acquisition closed on February 1, 2019. Aggregate consideration totaled $701.6 million and consisted of $662.7 million in cash paid at acquisition, net of cash acquired. Sonneborn is a producer of specialty hydrocarbon chemicals such as white oils, petrolatums and waxes with manufacturing facilities in the United States and Europe.
This transaction was accounted for as a business combination using the acquisition method of accounting, with the purchase price allocated to the fair value of the acquired Sonneborn assets and liabilities as of the February 1, 2019 acquisition date, with the excess purchase price recorded as goodwill assigned to our Lubricants and Specialty Products segment. This goodwill is not deductible for income tax purposes. Fair values are as follows: cash and cash equivalents $38.9 million, current assets $139.4 million, properties, plants and equipment $168.2 million, goodwill $282.3 million, intangibles and other noncurrent assets $231.5 million, current liabilities $47.9 million and deferred income tax and other long-term liabilities $110.8 million.
We incurred $0.6 million and $3.6 million for the three months ended June 30, 2020 and 2019, respectively, and $1.9 million and $16.2 million for the six months ended June 30, 2020 and 2019, respectively, in incremental direct integration and regulatory costs that principally relate to legal, advisory and other professional fees and are presented as selling, general and administrative expenses.
We have prepared these consolidated financial statements without audit. In management’s opinion, these consolidated financial statements include all normal recurring adjustments necessary for a fair presentation of our consolidated financial position as of June 30, 2020, the consolidated results of operations, comprehensive income and statements of equity for the three and six months ended June 30, 2020 and 2019 and consolidated cash flows for the six months ended June 30, 2020 and 2019 in accordance with the rules and regulations of the SEC. Although certain notes and other information required by generally accepted accounting principles in the United States (“GAAP”) have been condensed or omitted, we believe that the disclosures in these consolidated financial statements are adequate to make the information presented not misleading. These consolidated financial statements should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2019 that has been filed with the SEC.
Our results of operations for the six months ended June 30, 2020 are not necessarily indicative of the results of operations to be realized for the year ending December 31, 2020.
Accounts Receivable: Our accounts receivable consist of amounts due from customers that are primarily companies in the petroleum industry. Credit is extended based on our evaluation of the customer’s financial condition, and in certain circumstances collateral, such as letters of credit or guarantees, is required. We reserve for doubtful accounts based on our historical loss experience as well as expected credit losses from current economic conditions and management’s expectations of future economic conditions. Credit losses are charged to the allowance for doubtful accounts when an account is deemed uncollectible. Our allowance for doubtful accounts was $3.4 million at June 30, 2020 and $4.5 million at December 31, 2019.
13
Inventories: Inventories related to our refining operations are stated at the lower of cost, using the last-in, first-out (“LIFO”) method for crude oil and unfinished and finished refined products, or market. In periods of rapidly declining prices, LIFO inventories may have to be written down to market value due to the higher costs assigned to LIFO layers in prior periods. In addition, the use of the LIFO inventory method may result in increases or decreases to cost of sales in years that inventory volumes decline as the result of charging cost of sales with LIFO inventory costs generated in prior periods. An actual valuation of inventory under the LIFO method is made at the end of each year based on the inventory levels at that time. Accordingly, interim LIFO calculations are based on management’s estimates of expected year-end inventory levels and are subject to the final year-end LIFO inventory valuation.
Inventories of our Petro-Canada Lubricants and Sonneborn businesses are stated at the lower of cost, using the first-in, first-out (“FIFO”) method, or net realizable value.
Inventories consisting of process chemicals, materials and maintenance supplies and renewable identification numbers (“RINs”) are stated at the lower of weighted-average cost or net realizable value.
Leases: At inception, we determine if an arrangement is or contains a lease. Right-of-use (“ROU”) assets represent our right to use an underlying asset for the lease term and lease liabilities represent our payment obligation under the leasing arrangement. ROU assets and lease liabilities are recognized at the commencement date based on the present value of lease payments over the lease term. We use our estimated incremental borrowing rate (“IBR”) to determine the present value of lease payments as most of our leases do not contain an implicit rate. Our IBR represents the interest rate which we would pay to borrow, on a collateralized basis, an amount equal to the lease payments over a similar term in a similar economic environment. We use the implicit rate when readily determinable.
Operating leases are recorded in operating lease right-of-use assets and current and noncurrent operating lease liabilities on our consolidated balance sheet. Finance leases are included in properties, plants and equipment and accrued liabilities and other long-term liabilities on our consolidated balance sheet.
Our lease term includes an option to extend the lease when it is reasonably certain that we will exercise that option. Leases with a term of 12 months or less are not recorded on our balance sheet. For certain equipment leases, we apply a portfolio approach for the operating lease ROU assets and liabilities. Also, as a lessee, we separate non-lease components that are identifiable and exclude them from the determination of net present value of lease payment obligations. In addition, HEP, as a lessor, does not separate the non-lease (service) component in contracts in which the lease component is the dominant component. HEP treats these combined components as an operating lease.
Goodwill and Long-lived Assets: As of June 30, 2020, our goodwill balance was $2.4 billion, with goodwill assigned to our Refining, Lubricants and Specialty Products and HEP segments of $1,733.5 million, $327.6 million and $312.9 million, respectively. See Note 15 for additional information on our segments. The carrying amount of our goodwill may fluctuate from period to period due to the effects of foreign currency translation adjustments on goodwill assigned to our Lubricants and Specialty Products segment. Goodwill represents the excess of the cost of an acquired entity over the fair value of the assets acquired and liabilities assumed. Goodwill is not subject to amortization and is tested annually or more frequently if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. Our goodwill impairment testing first entails either a quantitative assessment or an optional qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If we determine that based on the qualitative factors that it is more likely than not that the fair value of the reporting unit is greater than its carrying amount, a quantitative test is performed in which we estimate the fair value of the related reporting unit. If the carrying amount of a reporting unit exceeds its fair value, the goodwill of that reporting unit is impaired, and we measure goodwill impairment as the excess of the carrying amount of the reporting unit over the related fair value.
For purposes of long-lived asset impairment evaluation, we have grouped our long-lived assets as follows: (i) our refinery asset groups, which include certain HEP logistics assets, (ii) our Lubricants and Specialty Products asset groups and (iii) our HEP asset groups, which comprises HEP assets not included in our refinery asset groups. These asset groups represent the lowest level for which independent cash flows can be identified. Our long-lived assets are evaluated for impairment by identifying whether indicators of impairment exist and if so, assessing whether the long-lived assets are recoverable from estimated future undiscounted cash flows. The actual amount of impairment loss measured, if any, is equal to the amount by which the asset group’s carrying value exceeds its fair value.
14
Indicators of goodwill and long-lived asset impairment
Due to the recent economic slowdown caused by the COVID-19 pandemic, we determined that indicators of potential goodwill impairment for our Refining and Lubricants and Specialty Products reporting units were present. In addition, we determined that these indicators were also evidence of potential long-lived asset impairments. These indicators included reductions in the prices of our finished goods and raw materials and the related decrease in our gross margins, as well as the recent decline in our common share price which has resulted in a decrease in our market capitalization. Additionally, our recent announcement of the conversion of our Cheyenne Refinery to renewable diesel production was also considered a triggering event requiring assessment of potential impairments to the carrying value of our Cheyenne Refinery asset group. During the second quarter of 2020, we performed interim goodwill and long-lived asset impairment testing as of May 31, 2020.
Long-lived asset impairment testing
As a result of our long-lived asset impairment testing, we determined that the carrying value of the long-lived assets of our Cheyenne Refinery and PCLI asset groups were not recoverable, and thus recorded long-lived asset impairment charges of $232.2 million and $204.7 million, respectively, in the second quarter of 2020. Our testing did not result in any other impairment of long-lived assets.
The estimated fair values of the Cheyenne Refinery and PCLI asset groups were determined using a combination of the income and cost approaches. The income approach was based on management’s best estimates of the expected future cash flows over the remaining useful life of the asset group. The cost approach utilized assumptions for the current replacement costs of similar assets adjusted for estimated depreciation and economic obsolescence. These fair value measurements involve significant unobservable inputs (Level 3 inputs). See Note 4 for further discussion of Level 3 inputs.
Goodwill impairment testing
The estimated fair values of our Refining and Lubricants and Specialty Products reporting units were derived using a combination of income and market approaches. The income approach reflects expected future cash flows based on estimated forecasted production levels, selling prices, gross margins, operating costs and capital expenditures. Our market approaches include both the guideline public company and guideline transaction methods. Both methods utilize pricing multiples derived from historical market transactions of other like-kind assets. These fair value measurements involve significant unobservable inputs (Level 3 inputs). See Note 4 for further discussion of Level 3 inputs.
Our interim goodwill impairment testing indicated that the fair values of our Refining and Lubricants and Specialty Products reporting units were in excess of their respective carrying amounts ranging from 9% to 283%; therefore, there was no impairment of goodwill at our Refining and Lubricants and Specialty Products reporting units.
A reasonable expectation exists that further deterioration in our operating results or overall economic conditions could result in an impairment of goodwill and / or additional long-lived assets impairments at some point in the future. Future impairment charges could be material to our results of operations and financial condition. Our annual goodwill impairment testing is performed on July 1.
During the second quarter of 2019, we recorded a goodwill impairment charge of $152.7 million to fully impair the goodwill of the PCLI reporting unit included in our Lubricants and Specialty Products segment.
Revenue Recognition: Revenue on refined product and excess crude oil sales are recognized when delivered (via pipeline, in-tank or rack) and the customer obtains control of such inventory, which is typically when title passes and the customer is billed. All revenues are reported inclusive of shipping and handling costs billed and exclusive of any taxes billed to customers. Shipping and handling costs incurred are reported as cost of products sold.
Our lubricants and specialty products business has sales agreements with marketers and distributors that provide certain rights of return or provisions for the repurchase of products previously sold to them. Under these agreements, revenues and cost of revenues are deferred until the products have been sold to end customers. Our lubricants and specialty products business also has agreements that create an obligation to deliver products at a future date for which consideration has already been received and recorded as deferred revenue. This revenue is recognized when the products are delivered to the customer.
15
HEP recognizes revenues as products are shipped through its pipelines and terminals and as other services are rendered. Additionally, HEP has certain throughput agreements that specify minimum volume requirements, whereby HEP bills a customer for a minimum level of shipments in the event a customer ships below their contractual requirements. If there are no future performance obligations, HEP recognizes these deficiency payments as revenue. In certain of these throughput agreements, a customer may later utilize such shortfall billings as credit towards future volume shipments in excess of its minimum levels within its respective contractual shortfall make-up period. Such amounts represent an obligation to perform future services, which may be initially deferred and later recognized as revenue based on estimated future shipping levels, including the likelihood of a customer’s ability to utilize such amounts prior to the end of the contractual shortfall make-up period. HEP recognizes the service portion of these deficiency payments as revenue when HEP does not expect it will be required to satisfy these performance obligations in the future based on the pattern of rights exercised by the customer. Payment terms under our contracts with customers are consistent with industry norms and are typically payable within 30 days of the date of invoice.
Foreign Currency Translation: Assets and liabilities recorded in foreign currencies are translated into U.S. dollars using exchange rates in effect as of the balance sheet date. Revenue and expense accounts are translated using the weighted-average exchange rates during the period presented. Foreign currency translation adjustments are recorded as a component of accumulated other comprehensive income.
In connection with our PCLI acquisition, we issued intercompany notes to initially fund certain of our foreign businesses. Remeasurement adjustments resulting from the conversion of such intercompany financing amounts to functional currencies are recorded as gains and losses as a component of other income (expense) in the income statement. Such adjustments are not recorded to the Lubricants and Specialty Products segment operations, but to Corporate and Other. See Note 15 for additional information on our segments.
Income Taxes: Provisions for income taxes include deferred taxes resulting from temporary differences in income for financial and tax purposes, using the liability method of accounting for income taxes. The liability method requires the effect of tax rate changes on deferred income taxes to be reflected in the period in which the rate change was enacted. The liability method also requires that deferred tax assets be reduced by a valuation allowance unless it is more likely than not that the assets will be realized.
Potential interest and penalties related to income tax matters are recognized in income tax expense. We believe we have appropriate support for the income tax positions taken and to be taken on our income tax returns and that our accruals for tax liabilities are adequate for all open years based on an assessment of many factors, including past experience and interpretations of tax law applied to the facts of each matter.
For the six months ended June 30, 2020, we recorded an income tax benefit of $193.1 million compared to income tax expense of $176.8 million for the six months ended June 30, 2019. This decrease was due principally to a pre-tax loss during the six months ended June 30, 2020 compared to pre-tax earnings in the same period of 2019. Our effective tax rates were 30.3% and 26.4% for the six months ended June 30, 2020 and 2019, respectively. The year-over-year increase in the effective tax rate is due principally to the relationship between the pre-tax results and the earnings attributable to the noncontrolling interest that is not included in income for tax purposes.
Inventory Repurchase Obligations: We periodically enter into same-party sell / buy transactions, whereby we sell certain refined product inventory and subsequently repurchase the inventory in order to facilitate delivery to certain locations. Such sell / buy transactions are accounted for as inventory repurchase obligations under which proceeds received under the initial sell is recognized as an inventory repurchase obligation that is subsequently reversed when the inventory is repurchased. For the six months ended June 30, 2020 and 2019, we received proceeds of $20.4 million and $12.6 million, respectively, and subsequently repaid $21.7 million and $12.9 million, respectively, under these sell / buy transactions.
Accounting Pronouncements - Recently Adopted
Income Tax Accounting
In December 2019, Accounting Standards Update (“ASU”) 2019-12, “Simplifying the Accounting for Income Taxes,” was issued which eliminates some exceptions to the general approach in ASC Topic 740 “Income Taxes” and also provides clarification of other aspects of ASC 740. We adopted this standard effective January 1, 2020 on a prospective basis, and recognized an income tax benefit for the six months ended June 30, 2020 based upon the application of our estimated annual effective tax rate to our pre-tax loss.
16
Credit Losses Measurement
In June 2016, ASU 2016-13, “Measurement of Credit Losses on Financial Instruments,” was issued requiring measurement of all expected credit losses for certain types of financial instruments, including trade receivables, held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. We adopted this standard effective January 1, 2020, at which time our review of historic and expected credit losses resulted in a decrease of $3.2 million in our reserve for doubtful accounts. Based upon our assessment of the potential impact of current and forecasted conditions, we increased our reserve for doubtful accounts by $2.1 million during the six months ended June 30, 2020. Assumptions about the potential effects of the COVID-19 pandemic on our estimate of expected credit losses are inherently subjective and difficult to forecast. However, we believe that our current estimate of allowance for doubtful accounts to be reasonable based upon current information and forecasts.
NOTE 2: | Holly Energy Partners |
HEP is a publicly held master limited partnership that owns and operates logistic assets consisting of petroleum product and crude oil pipelines, terminals, tankage, loading rack facilities and refinery processing units that principally support our refining and marketing operations, as well as other third-party refineries, in the Mid-Continent, Southwest and Rocky Mountain regions of the United States. Additionally, as of June 30, 2020, HEP owned a 75% interest in UNEV Pipeline, LLC (“UNEV”), the owner of a pipeline running from Woods Cross, Utah to Las Vegas, Nevada (the “UNEV Pipeline”) and associated product terminals, and a 50% ownership interest in each of Osage Pipe Line Company, LLC, the owner of a pipeline running from Cushing, Oklahoma to El Dorado, Kansas (the “Osage Pipeline”); Cheyenne Pipeline, LLC, the owner of a pipeline running from Fort Laramie, Wyoming to Cheyenne, Wyoming (the “Cheyenne Pipeline”) and Cushing Connect Pipeline & Terminal LLC (“Cushing Connect”), the owner of a crude oil storage terminal in Cushing, Oklahoma and a to-be-constructed pipeline that will run from Cushing, Oklahoma to our Tulsa Refineries.
At June 30, 2020, we owned a 57% limited partner interest and a non-economic general partner interest in HEP. As the general partner of HEP, we have the sole ability to direct the activities that most significantly impact HEP’s financial performance, and therefore as HEP's primary beneficiary, we consolidate HEP.
HEP has two primary customers (including us) and generates revenues by charging tariffs for transporting petroleum products and crude oil through its pipelines, by charging fees for terminalling refined products and other hydrocarbons, and by storing and providing other services at its storage tanks and terminals. Under our long-term transportation agreements with HEP (discussed further below), we accounted for 81% of HEP’s total revenues for the six months ended June 30, 2020. We do not provide financial or equity support through any liquidity arrangements and / or debt guarantees to HEP.
HEP has outstanding debt under a senior secured revolving credit agreement and its senior notes. HEP’s creditors have no recourse to our assets. Furthermore, our creditors have no recourse to the assets of HEP and its consolidated subsidiaries. See Note 9 for a description of HEP’s debt obligations.
HEP has risk associated with its operations. If a major customer of HEP were to terminate its contracts or fail to meet desired shipping or throughput levels for an extended period of time, revenue would be reduced and HEP could suffer substantial losses to the extent that a new customer is not found. In the event that HEP incurs a loss, our operating results will reflect HEP’s loss, net of intercompany eliminations, to the extent of our ownership interest in HEP at that point in time.
Cushing Connect Joint Venture
In October 2019, HEP Cushing LLC (“HEP Cushing”), a wholly-owned subsidiary of HEP, and Plains Marketing, L.P. (“PMLP”), a wholly-owned subsidiary of Plains All American Pipeline, L.P. (“Plains”), formed a 50/50 joint venture, Cushing Connect, for (i) the development and construction of a new 160,000 barrel per day common carrier crude oil pipeline (the “Cushing Connect Pipeline”) that will connect the Cushing, Oklahoma crude oil hub to our Tulsa Refineries and (ii) the ownership and operation of 1.5 million barrels of crude oil storage in Cushing, Oklahoma (the “Cushing Connect Terminal”). The Cushing Connect Terminal was fully in service beginning in April 2020, and the Cushing Connect Pipeline is expected to be placed in service during the first quarter of 2021. Long-term commercial agreements have been entered into to support the Cushing Connect assets.
17
Cushing Connect will contract with an affiliate of HEP to manage the construction and operation of the Cushing Connect Pipeline and with an affiliate of Plains to manage the operation of the Cushing Connect Terminal. The total investment in Cushing Connect will be shared proportionately among the partners, and HEP estimates its share of the cost of the Cushing Connect Terminal contributed by Plains and Cushing Connect Pipeline construction costs are approximately $65.0 million.
Cushing Connect and its two subsidiaries, Cushing Connect Pipeline and Cushing Connect Terminal, are each VIE’s because they do not have sufficient equity at risk to finance their activities without additional financial support. HEP is the primary beneficiary of two of these entities as HEP is constructing and will operate the Cushing Connect Pipeline, and HEP has more ability to direct the activities that most significantly impact the financial performance of Cushing Connect and Cushing Connect Pipeline. Therefore, HEP consolidates these two entities. HEP is not the primary beneficiary of Cushing Connect Terminal, which HEP accounts for using the equity method of accounting.
Transportation Agreements
HEP serves our refineries under long-term pipeline, terminal and tankage throughput agreements and refinery processing tolling agreements expiring from 2021 through 2036. Under these agreements, we pay HEP fees to transport, store and process throughput volumes of refined products, crude oil and feedstocks on HEP’s pipeline, terminals, tankage, loading rack facilities and refinery processing units that result in minimum annual payments to HEP including UNEV (a consolidated subsidiary of HEP). Under these agreements, the agreed upon tariff rates are subject to annual tariff rate adjustments on July 1 at a rate based upon the percentage change in Producer Price Index or Federal Energy Regulatory Commission index. As of July 1, 2020, these agreements result in minimum annualized payments to HEP of $351.1 million.
Our transactions with HEP and fees paid under our transportation agreements with HEP and UNEV are eliminated and have no impact on our consolidated financial statements.
Lessor Accounting
Our consolidated statements of income reflect lease revenue recognized by HEP for contracts with third parties in which HEP is the lessor.
One of HEP’s throughput agreements with Delek US Holdings, Inc. (“Delek”) was renewed during the three months ended June 30, 2020. Certain components of this agreement met the criteria of sales-type leases since the underlying assets are not expected to have an alternative use at the end of the lease term to anyone other than Delek. Under sales-type lease accounting, at the commencement date, the lessor recognizes a net investment in the lease, based on the estimated fair value of the underlying leased assets at contract inception, and derecognizes the underlying assets with the difference recorded as selling profit or loss arising from the lease. Therefore, HEP recognized a gain on sales-type leases totaling $33.8 million, during the three months ended June 30, 2020. This sales-type lease transaction, including the related gain, was a non-cash transaction.
Lease income recognized was as follows:
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2020 | 2019 | 2020 | 2019 | |||||||||||||
(In thousands) | ||||||||||||||||
Operating lease revenues | $ | 5,442 | $ | 8,267 | $ | 13,732 | $ | 16,466 | ||||||||
Gain on sales-type leases | $ | 33,834 | $ | — | $ | 33,834 | $ | — | ||||||||
Sales-type lease interest income | $ | 642 | $ | — | $ | 642 | $ | — | ||||||||
Lease revenues relating to variable lease payments not included in measurement of the sales-type lease receivable | $ | 286 | $ | — | $ | 286 | $ | — | ||||||||
HEP Common Unit Continuous Offering Program
In May 2016, HEP established a continuous offering program under which HEP may issue and sell common units from time to time, representing limited partner interests, up to an aggregate gross sales amount of $200 million. During the six months ended June 30, 2020, HEP did not issue any common units under this program. As of June 30, 2020, HEP has issued 2,413,153 common units under this program, providing $82.3 million in gross proceeds.
18
NOTE 3: | Revenues |
Substantially all revenue-generating activities relate to sales of refined product and excess crude oil inventories sold at market prices (variable consideration) under contracts with customers. Additionally, we have revenues attributable to HEP logistics services provided under petroleum product and crude oil pipeline transportation, processing, storage and terminalling agreements with third parties.
Disaggregated revenues were as follows:
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2020 | 2019 | 2020 | 2019 | |||||||||||||
(In thousands) | ||||||||||||||||
Revenues by type | ||||||||||||||||
Refined product revenues | ||||||||||||||||
Transportation fuels (1) | $ | 1,385,246 | $ | 3,633,966 | $ | 3,863,593 | $ | 6,441,407 | ||||||||
Specialty lubricant products (2) | 340,284 | 507,183 | 811,237 | 951,525 | ||||||||||||
Asphalt, fuel oil and other products (3) | 145,298 | 248,861 | 346,641 | 467,718 | ||||||||||||
Total refined product revenues | 1,870,828 | 4,390,010 | 5,021,471 | 7,860,650 | ||||||||||||
Excess crude oil revenues (4) | 163,394 | 350,683 | 363,173 | 733,313 | ||||||||||||
Transportation and logistic services | 19,244 | 28,382 | 45,670 | 59,520 | ||||||||||||
Other revenues (5) | 9,464 | 13,540 | 33,161 | 26,379 | ||||||||||||
Total sales and other revenues | $ | 2,062,930 | $ | 4,782,615 | $ | 5,463,475 | $ | 8,679,862 | ||||||||
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2020 | 2019 | 2020 | 2019 | |||||||||||||
(In thousands) | ||||||||||||||||
Refined product revenues by market | ||||||||||||||||
United States | ||||||||||||||||
Mid-Continent | $ | 867,660 | $ | 2,361,969 | $ | 2,400,584 | $ | 4,092,474 | ||||||||
Southwest | 436,073 | 1,008,806 | 1,170,248 | 1,858,955 | ||||||||||||
Rocky Mountains | 274,973 | 613,063 | 743,752 | 1,128,398 | ||||||||||||
Northeast | 110,909 | 148,116 | 270,733 | 276,007 | ||||||||||||
Canada | 120,870 | 174,772 | 303,523 | 352,127 | ||||||||||||
Europe, Asia and Latin America | 60,343 | 83,284 | 132,631 | 152,689 | ||||||||||||
Total refined product revenues | $ | 1,870,828 | $ | 4,390,010 | $ | 5,021,471 | $ | 7,860,650 | ||||||||
(1) | Transportation fuels consist of gasoline, diesel and jet fuel. |
(2) | Specialty lubricant products consist of base oil, waxes, finished lubricants and other specialty fluids. |
(3) | Asphalt, fuel oil and other products revenue include revenues attributable to our Refining and Lubricants and Specialty Products segments of $131.9 million and $13.4 million, respectively, for the three months ended June 30, 2020, $280.7 million and $65.9 million, respectively for the six months ended June 30, 2020, $210.7 million and $38.2 million, respectively, for the three months ended June 30, 2019, and $380.6 million and $87.2 million, respectively, for the six months ended June 30, 2019. |
(4) | Excess crude oil revenues represent sales of purchased crude oil inventory that at times exceeds the supply needs of our refineries. |
(5) | Other revenues are principally attributable to our Refining segment. |
19
Our consolidated balance sheet reflects contract liabilities related to unearned revenues attributable to future service obligations under HEP’s third-party transportation agreements and production agreements from the acquisition of Sonneborn on February 1, 2019. The following table presents changes to our contract liabilities during the six months ended June 30, 2020 and 2019.
Six Months Ended June 30, | ||||||||
2020 | 2019 | |||||||
(In thousands) | ||||||||
Balance at January 1 | $ | 4,652 | $ | 132 | ||||
Sonneborn acquisition | — | 6,463 | ||||||
Increase | 16,115 | 10,813 | ||||||
Recognized as revenue | (14,980 | ) | (12,906 | ) | ||||
Balance at June 30 | $ | 5,787 | $ | 4,502 | ||||
As of June 30, 2020, we have long-term contracts with customers that specify minimum volumes of gasoline, diesel, lubricants and specialty products to be sold ratably at market prices through 2024. Such volumes are typically nominated in the month preceding delivery and delivered ratably throughout the following month. Future prices are subject to market fluctuations and therefore, we have elected the exemption to exclude variable consideration under these contracts under Accounting Standards Codification 606-10-50-14A. Aggregate minimum volumes expected to be sold (future performance obligations) under our long-term product sales contracts with customers are as follows:
Remainder of 2020 | 2021 | 2022 | Thereafter | Total | |||||||||||
(In thousands) | |||||||||||||||
Refined product sales volumes (barrels) | 10,398 | 15,958 | 12,799 | 24,465 | 63,620 | ||||||||||
Additionally, HEP has long-term contracts with third-party customers that specify minimum volumes of product to be transported through its pipelines and terminals that result in fixed-minimum annual revenues through 2025. Annual minimum revenues attributable to HEP’s third-party contracts as of June 30, 2020 are presented below:
Remainder of 2020 | 2021 | 2022 | Thereafter | Total | ||||||||||||||||
(In thousands) | ||||||||||||||||||||
HEP contractual minimum revenues | $ | 13,164 | $ | 21,942 | $ | 10,954 | $ | 20,293 | $ | 66,353 | ||||||||||
NOTE 4: | Fair Value Measurements |
Our financial instruments measured at fair value on a recurring basis consist of derivative instruments and RINs credit obligations.
Fair value measurements are derived using inputs (assumptions that market participants would use in pricing an asset or liability, including assumptions about risk). GAAP categorizes inputs used in fair value measurements into three broad levels as follows:
• | (Level 1) Quoted prices in active markets for identical assets or liabilities. |
• | (Level 2) Observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets, similar assets and liabilities in markets that are not active or can be corroborated by observable market data. |
• | (Level 3) Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. This includes valuation techniques that involve significant unobservable inputs. |
20
The carrying amounts of derivative instruments and RINs credit obligations at June 30, 2020 and December 31, 2019 were as follows:
Fair Value by Input Level | ||||||||||||||||
Carrying Amount | Level 1 | Level 2 | Level 3 | |||||||||||||
(In thousands) | ||||||||||||||||
June 30, 2020 | ||||||||||||||||
Assets: | ||||||||||||||||
Commodity price swaps | $ | 3,561 | $ | — | $ | 3,561 | $ | — | ||||||||
Commodity forward contracts | 4,219 | — | 4,219 | — | ||||||||||||
Foreign currency forward contracts | 7,361 | — | 7,361 | — | ||||||||||||
Total assets | $ | 15,141 | $ | — | $ | 15,141 | $ | — | ||||||||
Liabilities: | ||||||||||||||||
NYMEX futures contracts | $ | 6,987 | $ | 6,987 | $ | — | $ | — | ||||||||
Commodity price swaps | 395 | — | 395 | — | ||||||||||||
Commodity forward contracts | 6,156 | — | 6,156 | — | ||||||||||||
RINs credit obligations (1) | 5,349 | — | 5,349 | — | ||||||||||||
Total liabilities | $ | 18,887 | $ | 6,987 | $ | 11,900 | $ | — | ||||||||
Fair Value by Input Level | ||||||||||||||||
Carrying Amount | Level 1 | Level 2 | Level 3 | |||||||||||||
(In thousands) | ||||||||||||||||
December 31, 2019 | ||||||||||||||||
Assets: | ||||||||||||||||
Commodity price swaps | $ | 13,455 | $ | — | $ | 13,455 | $ | — | ||||||||
Commodity forward contracts | 4,133 | — | 4,133 | $ | — | |||||||||||
Total assets | $ | 17,588 | $ | — | $ | 17,588 | $ | — | ||||||||
Liabilities: | ||||||||||||||||
NYMEX futures contracts | $ | 2,578 | $ | 2,578 | $ | — | $ | — | ||||||||
Commodity price swaps | 1,230 | — | 1,230 | — | ||||||||||||
Commodity forward contracts | 3,685 | — | 3,685 | — | ||||||||||||
Foreign currency forward contracts | 6,722 | — | 6,722 | — | ||||||||||||
Total liabilities | $ | 14,215 | $ | 2,578 | $ | 11,637 | $ | — | ||||||||
(1) Represent obligations for RINs credits for which we did not have sufficient quantities at June 30, 2020 to satisfy our EPA regulatory blending requirements.
Level 1 Instruments
Our NYMEX futures contracts are exchange traded and are measured and recorded at fair value using quoted market prices, a Level 1 input.
Level 2 Instruments
Derivative instruments consisting of foreign currency forward contracts, commodity price swaps and forward sales and purchase contracts are measured and recorded at fair value using Level 2 inputs. The fair value of the commodity price swap contracts is based on the net present value of expected future cash flows related to both variable and fixed rate legs of the respective swap agreements. The measurements are computed using market-based observable input and quoted forward commodity prices with respect to our commodity price swaps. RINs credit obligations are valued based on current market RINs prices. The fair value of foreign currency forward contracts are based on values provided by a third party, which were derived using market quotes for similar type instruments, a Level 2 input.
21
Nonrecurring Fair Value Measurements
During the three months ended June 30, 2020, we recognized long-lived asset impairment charges based on fair value measurements utilized during our goodwill and long-lived asset impairment testing (see Note 1). The fair value measurements were based on a combination of valuation methods including discounted cash flows, the guideline public company and guideline transaction methods and obsolescence adjusted replacement costs, all of which are Level 3 inputs.
During the three months ended June 30, 2020, HEP recognized a gain on sales-type leases (see Note 2). The estimated fair value of the underlying leased assets at contract inception and the present value of the estimated unguaranteed residual asset at the end of the lease term were used in determining the net investment in leases and related recognized gain on sales-type leases. The asset valuation estimates included Level 3 inputs based on a replacement cost valuation method.
NOTE 5: | Earnings Per Share |
Basic earnings per share is calculated as net income (loss) attributable to HollyFrontier stockholders divided by the average number of shares of common stock outstanding. Diluted earnings per share assumes, when dilutive, the issuance of the net incremental shares from restricted stock units and performance share units. The following is a reconciliation of the denominators of the basic and diluted per share computations for net income (loss) attributable to HollyFrontier stockholders:
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2020 | 2019 | 2020 | 2019 | |||||||||||||
(In thousands, except per share data) | ||||||||||||||||
Net income (loss) attributable to HollyFrontier stockholders | $ | (176,677 | ) | $ | 196,915 | $ | (481,300 | ) | $ | 449,970 | ||||||
Participating securities’ (restricted stock) share in earnings | — | 283 | — | 647 | ||||||||||||
Net income (loss) attributable to common shares | $ | (176,677 | ) | $ | 196,632 | $ | (481,300 | ) | ||||||||