AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON MAY 30, 2003
REGISTRATION NO. 333-
REGISTRATION NO. 333-
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM S-4
REGISTRATION STATEMENT UNDER
THE SECURITIES ACT OF 1933
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ISSUER OF DEBT SECURITIES REGISTERED HEREBY:
VALERO LOGISTICS OPERATIONS, L.P. DELAWARE 74-2958817
(Exact name of Registrant (State or other jurisdiction of (I.R.S. Employer
as specified in its charter) incorporation or organization) Identification No.)
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GUARANTOR OF DEBT SECURITIES REGISTERED HEREBY:
VALERO L.P. DELAWARE 74-2956831
(Exact Name of Co-Registrant (State or other jurisdiction of (I.R.S. Employer
as specified in its Charter) incorporation or organization) Identification No.)
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CURTIS V. ANASTASIO
PRESIDENT AND CHIEF EXECUTIVE
OFFICER
VALERO GP, LLC
ONE VALERO PLACE ONE VALERO PLACE
SAN ANTONIO, TEXAS 78212 SAN ANTONIO, TEXAS 78212
(210) 370-2000 4610 (210) 370-2000
(Address, including zip code,
and telephone number, including area (Name, address, including zip code,
code, (Registrants' Primary and telephone number, including area
of registrants' principal executive Standard Industrial code,
offices) Classification Code Number) of agent for service)
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COPY TO:
ANDREWS & KURTH L.L.P.
600 TRAVIS, SUITE 4200
HOUSTON, TEXAS 77002
(713) 220-4200
ATTN: GISLAR DONNENBERG
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APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE OF THE SECURITIES TO THE
PUBLIC: As soon as practicable following the effectiveness of this registration
statement.
If the securities being registered on this Form are being offered in
connection with the formation of a holding company and there is compliance with
General Instruction G, check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
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CALCULATION OF REGISTRATION FEE
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PROPOSED PROPOSED
AMOUNT MAXIMUM MAXIMUM AMOUNT OF
TITLE OF EACH CLASS OF TO BE OFFERING PRICE AGGREGATE REGISTRATION
SECURITIES TO BE REGISTERED REGISTERED(1) PER NOTE OFFERING PRICE FEE(1)
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6.05% Senior Notes Due March 15, 2013.............. $250,000,000 100% $250,000,000 $20,225
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Guarantee of 6.05% Senior Notes due March 15, 2013
by Valero L.P.(2)................................ -- -- -- --
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(1) Determined in accordance with Rule 457(f) promulgated under the Securities
Act of 1933, as amended.
(2) The 6.05% Senior Notes are guaranteed by Valero L.P. No separate
consideration will be paid in respect of the guarantees. Pursuant to Rule
457(n) promulgated under the Securities Act, as amended, no separate filing
fee is required for the guarantees.
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EACH REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANTS
SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING
PURSUANT TO SAID SECTION 8(a), MAY DETERMINE.
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THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY
NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER
TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE
SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
SUBJECT TO COMPLETION, DATED MAY 30, 2003
(VALERO L.P. LOGO)
VALERO LOGISTICS OPERATIONS, L.P.
OFFER TO EXCHANGE UP TO $250,000,000 OF
6.05% SENIOR NOTES DUE 2013 THAT
HAVE BEEN REGISTERED UNDER THE
SECURITIES ACT OF 1933
FOR $250,000,000 OF 6.05% SENIOR NOTES
DUE 2013 THAT HAVE NOT BEEN REGISTERED
UNDER THE SECURITIES ACT OF 1933.
THIS EXCHANGE OFFER WILL EXPIRE AT 5:00 P.M., NEW YORK CITY TIME ON ,
2003 UNLESS WE EXTEND THE DATE.
If you decide to participate in this exchange offer, you will receive exchange
notes that will be the same as the outstanding notes, except the exchange notes
will be registered with the Securities and Exchange Commission. This is
beneficial to you since your notes are not registered with the Securities and
Exchange Commission and you may not offer or sell the notes without registration
or an exemption from registration under federal securities laws. However,
following the exchange offer, some holders may still not be able to sell their
exchange notes without registering them and delivering a prospectus.
There is no public market for the outstanding notes or the exchange notes.
The exchange notes will rank equally in contractual right of payment with all of
our other material indebtedness.
PLEASE READ "RISK FACTORS" BEGINNING ON PAGE 23 FOR A DISCUSSION OF FACTORS YOU
SHOULD CONSIDER BEFORE PARTICIPATING IN THE EXCHANGE OFFER.
Neither the Securities and Exchange Commission nor any State Securities
Commission has approved or disapproved of these securities or passed upon the
adequacy or accuracy of this prospectus. Any representation to the contrary is a
criminal offense.
The date of this prospectus is , 2003.
This prospectus is part of a registration statement we filed with the Securities
and Exchange Commission (also referred to herein as the Commission, or the SEC).
In making your decision to participate in the exchange offer, you should rely
only on the information contained in this prospectus and in the accompanying
letter of transmittal included in this prospectus as Annex A. We have not
authorized anyone to provide you with any other information. If you receive any
unauthorized information, you must not rely on it. We are not making an offer to
sell these securities in any state where the offer is not permitted. You should
not assume that the information contained in this prospectus, or the documents
incorporated by reference into this prospectus, is accurate as of any date other
than the date on the front cover of this prospectus or the date of such
document, as the case may be.
THIS PROSPECTUS INCORPORATES BY REFERENCE IMPORTANT BUSINESS AND FINANCIAL
INFORMATION ABOUT OUR PARTNERSHIP THAT HAS NOT BEEN INCLUDED IN OR DELIVERED
WITH THIS PROSPECTUS. WE WILL PROVIDE WITHOUT CHARGE TO EACH PERSON TO WHOM THIS
PROSPECTUS IS DELIVERED, UPON WRITTEN OR ORAL REQUEST, A COPY OF ANY DOCUMENT
INCORPORATED BY REFERENCE IN THIS PROSPECTUS. REQUESTS FOR SUCH COPIES SHOULD BE
DIRECTED TO INVESTOR RELATIONS, VALERO L.P., ONE VALERO PLACE, SAN ANTONIO,
TEXAS 78212; TELEPHONE NUMBER: (210) 370-2000. TO OBTAIN TIMELY DELIVERY, YOU
SHOULD REQUEST THE DOCUMENTS AND INFORMATION NO LATER THAN , 2003.
TABLE OF CONTENTS
PAGE
Summary..................................................... 1
Valero Logistics Operations, L.P......................... 1
Recent developments...................................... 5
Partnership structure and management..................... 10
Exchange offer........................................... 12
Terms of the exchange notes.............................. 14
Risk factors............................................. 15
Summary financial and operating data..................... 16
Risk factors................................................ 23
Risks related to the exchange............................ 23
You may have difficulty selling the notes which you do
not exchange, since outstanding notes will continue
to have restrictions on transfer and cannot be sold
without registration under securities laws or
exemptions from registration......................... 23
If you exchange your outstanding notes, you may not be
able to resell the exchange notes you receive in the
exchange offer without registering them and
delivering a prospectus.............................. 23
Risks related to the notes............................... 24
We may not be able to repurchase the exchange notes
upon a change of control............................. 24
Risks inherent in our business........................... 24
Our future financial and operating flexibility may be
adversely affected by restrictions in our credit
agreement and by our leverage and Valero Energy's
leverage............................................. 24
We may not be able to generate sufficient cash from
operations to enable us to pay the required payments
to holders of our notes.............................. 25
Cost reimbursements and fees due the general partner
of Valero L.P. and its affiliates will be substantial
and could aversely affect our ability to make
payments to holders of our notes..................... 26
We depend upon Valero Energy for the crude oil and
refined product transported in our pipelines and
handled at our terminals and storage tanks, and any
reduction in those quantities could reduce our
ability to make payments to holders of our notes..... 26
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PAGE
Payments to holders of our notes could be adversely
affected by a significant decrease in demand for
refined products in the markets served by our
pipelines............................................ 27
Our ability to make payments to holders of our notes
could be reduced by a material decline in production
by any of Valero Energy's refineries that are served
by us................................................ 28
Valero Energy's seven-year agreement to use our
pipelines and terminals will be suspended if material
changes in market conditions occur that have a
material adverse effect on Valero Energy, which could
adversely affect our ability to make payments to
holders of our notes................................. 28
Any loss by Valero Energy of customers in the markets
served by our refined product pipelines may adversely
affect our ability to make payments to holders of our
notes................................................ 29
Continued high natural gas prices could adversely
affect our ability to make payments to holders of our
notes................................................ 29
Terrorist attacks, threats of war or terrorist attacks
or political or other disruptions that limit crude
oil production could have a material adverse effect
on our business...................................... 29
If our assumptions concerning population growth are
inaccurate or Valero Energy's growth strategy is not
successful, our ability to make payments to holders
of our notes may be adversely affected............... 30
New competing refined product pipelines could cause
downward pressure on market prices, and as a result,
Valero Energy might decrease the volumes transported
in our pipelines..................................... 30
If one or more of our tariff rates is reduced, if
future increases in our tariff rates do not allow us
to recover future increases in our costs, or if
ratemaking methodologies are altered, our ability to
make payments to holders of our notes may be
adversely affected................................... 31
A material decrease in the supply, or a material
increase in the price, of crude oil available for
transport through our pipelines and through our
storage tanks to Valero Energy's refineries, could
materially reduce our ability to make payments to
holders of our notes................................. 32
If we are not able to successfully acquire, expand and
build pipelines and other logistics assets or attract
shippers in addition to Valero Energy, the growth of
our business will be limited......................... 32
Any reduction in the capacity of, or the allocations
to, our shippers in interconnecting third party
pipelines could cause a reduction of volumes
transported in our pipelines and could negatively
affect our ability to make payments to holders of our
notes................................................ 33
Valero Energy and its affiliates have conflicts of
interest and limited fiduciary responsibilities,
which may permit them to favor their own interests to
the detriment of holders of our notes................ 33
The transportation and storage of crude oil and
refined products is subject to federal and state laws
relating to environmental protection and operational
safety and results in a risk that crude oil and other
hydrocarbons may be released into the environment,
potentially causing substantial expenditures that
could limit our ability to make payments to holders
of our notes......................................... 35
Our former use of Arthur Andersen LLP as our
independent public accountants may limit your ability
to seek potential recoveries from them related to
their work........................................... 35
Use of proceeds............................................. 36
Ratio of earnings to fixed charges.......................... 36
Capitalization.............................................. 37
Description of other indebtedness........................... 38
Management's discussion and analysis of financial condition
and results of operations................................ 40
Business.................................................... 66
Exchange offer.............................................. 97
Purpose and effect of the exchange offer................. 97
Resale of exchange notes................................. 100
Terms of the exchange offer.............................. 101
Expiration date.......................................... 101
Extensions, delays in acceptance, termination or
amendment.............................................. 102
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PAGE
Conditions to the exchange offer......................... 102
Procedures for tendering................................. 103
Determinations under the exchange offer.................. 104
When we will issue exchange notes........................ 104
Return of outstanding notes not accepted or exchanged.... 104
Your representations to us............................... 104
Withdrawal of tenders.................................... 105
Fees and expenses........................................ 105
Transfer taxes........................................... 106
Consequences of failure to exchange...................... 106
Accounting treatment..................................... 106
Other.................................................... 106
Description of the exchange notes and the guarantees........ 106
Brief description of the notes and the guarantees........ 107
General............................................... 107
The notes................................................ 107
The Valero L.P. guarantee............................. 108
Principal, maturity and interest...................... 108
Optional redemption................................... 109
No sinking fund....................................... 111
Covenants............................................. 111
Limitation on liens................................... 111
Restrictions on sale-leasebacks....................... 114
Consolidation, merger or asset sale................... 115
Future subsidiary guarantors.......................... 115
Addition and release of guarantors.................... 116
Repurchase upon a change of control................... 116
Events of default..................................... 117
Modification of the indenture............................ 118
Discharging our obligations.............................. 119
The trustee.............................................. 120
Global securities; book-entry system........................ 121
Material federal income tax consequences.................... 125
Plan of distribution........................................ 128
Legal matters............................................... 129
Independent accountants..................................... 129
Where you can find more information......................... 130
Cautionary statement regarding forward-looking
information.............................................. 131
Form of letter of transmittal............................... Annex A
Index to Financial Statements............................... F-1
Our parent, Valero L.P., is a publicly traded limited partnership that conducts
all of its business through us. Unless the context otherwise indicates,
references in this prospectus to the terms "Valero Logistics" and "we," "us,"
"our" and similar terms mean Valero Logistics Operations, L.P. When we are
referring to "Valero L.P." or "guarantor," we are referring to Valero L.P., the
guarantor of the outstanding notes and the exchange notes. The term "Valero
Energy" means, depending on the context, Valero Energy Corporation, one or more
of its consolidated subsidiaries or all of them taken as a whole, but excluding
us and Valero L.P.
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SUMMARY
The summary highlights information contained elsewhere in this prospectus. It
does not contain all of the information that you should consider before deciding
to participate in the exchange offer. You should read the entire prospectus
carefully, including the historical financial statements and notes to those
financial statements included in this prospectus. Please read "Risk factors"
beginning on page 23 for more information about important risks that you should
consider before making an investment decision.
VALERO LOGISTICS OPERATIONS, L.P.
We are a Delaware limited partnership formed in 1999 and a 100%-owned direct and
indirect subsidiary of Valero L.P., a publicly traded Delaware limited
partnership. Our operations are controlled and managed by our general partner, a
wholly owned subsidiary of Valero L.P. Valero L.P. is controlled and managed by
its general partner, an indirect wholly owned subsidiary of Valero Energy, a
publicly traded Delaware corporation.
We own and operate most of the crude oil and refined product pipeline,
terminalling and storage assets located in Texas, Oklahoma, New Mexico and
Colorado that support Valero Energy's McKee, Three Rivers and Ardmore
refineries. We transport crude oil and other feedstocks to these refineries and
transport refined products from these refineries to our terminals or to
interconnections with third party pipelines for further distribution to Valero
Energy's company-operated convenience stores or wholesale customers located in
Texas, Oklahoma, Colorado, New Mexico, Arizona and other midcontinent states. On
March 18, 2003, Valero Energy contributed to us 58 crude oil storage and
intermediate storage tanks located at Valero Energy's Corpus Christi, Texas,
Texas City, Texas and Benicia, California refineries and the South Texas
pipeline system for an aggregate of $350 million. The South Texas pipeline
system consists of the Houston, Valley and San Antonio pipeline systems, which
connect the Corpus Christi refinery to the Houston and Rio Grande Valley, Texas
markets and the Three Rivers refinery to the San Antonio, Texas market and to
Valero Energy's Corpus Christi refinery. Following these contributions, our
pipeline, terminalling and storage assets consist of:
- approximately 783 miles of crude oil pipelines, including approximately
31 miles jointly owned with third parties, and five major crude oil
storage facilities with a total storage capacity of approximately 3.3
million barrels;
- approximately 3,314 miles of refined product pipelines, including
approximately 1,996 miles jointly owned with third parties, and 18
refined product terminals (including two asphalt terminals and one idle
terminal), one of which is jointly owned, with a total storage capacity
of approximately 3.9 million barrels;
- 58 crude oil and intermediate feedstock storage tanks located at Valero
Energy's Corpus Christi (West plant), Texas City, and Benicia refineries,
with a total storage capacity of 11.0 million barrels; and
- a 25-mile crude hydrogen pipeline connected to Valero Energy's Texas
City refinery.
We generate revenues by charging tariffs for transporting crude oil and refined
products through our pipelines and by charging a fee for use of our terminals
and the services provided by our storage tanks. We do not own any of the crude
oil or refined products transported through our pipelines or stored in our
terminals or storage tanks, and we do not engage in the trading of crude oil or
refined products. As a result, we are not directly exposed to any risks
1
associated with fluctuating commodity prices, although these risks indirectly
influence our activities and results of operations.
During the year ended December 31, 2002, we transported an average of 348,023
barrels per day through our crude oil pipelines and an average of 295,456
barrels per day through our refined product pipelines, and we handled an average
of 175,559 barrels per day in our refined product terminals. Our revenues for
the year ended December 31, 2002 were $118.5 million, a 20% increase from our
revenues for the year ended December 31, 2001 of $98.8 million. Operating income
for the year ended December 31, 2002 was $57.2 million, a 23% increase from our
operating income for the year ended December 31, 2001 of $46.5 million.
During the quarter ended March 31, 2003, we transported an average of 332,760
barrels per day through our crude oil pipelines, an average of 296,816 barrels
per day through our refined product pipelines, an average of 77,458 barrels per
day through our crude oil storage tanks and we handled an average of 176,797
barrels per day in our refined product terminals. Our revenues for the quarter
ended March 31, 2003 were $31.8 million, representing a 22% increase from our
revenues of $26.0 million for the first quarter ended March 31, 2002.
BUSINESS STRATEGIES
The primary objective of our business strategies is to increase our
distributions to Valero L.P. to enable Valero L.P. to increase the cash
available for distribution to its unitholders. We intend to achieve this primary
objective by:
- sustaining high levels of volumes in our pipeline, terminalling and
storage tank assets;
- increasing volumes in our existing pipelines and shifting volumes to
higher tariff pipelines;
- increasing our pipeline and terminal capacity through expansions and
new construction;
- pursuing selective strategic and accretive acquisitions that complement
our existing asset base; and
- continuing to improve our operating efficiency.
COMPETITIVE STRENGTHS
We believe we are well positioned to successfully execute our business
strategies due to the following competitive strengths:
- Our pipelines provide the principal access to and from Valero Energy's
McKee, Three Rivers and Corpus Christi refineries in Texas and Valero
Energy's Ardmore refinery in Oklahoma.
- Our refined product pipelines serve Valero Energy's marketing
operations in South Texas as well as the southwestern and Rocky Mountain
regions of the United States. These operations are concentrated in
fast-growing metropolitan areas in the states of Texas, Colorado, New
Mexico, Arizona and other mid-continent states.
- We believe our pipeline, terminalling and storage tank assets are
modern, efficient and well maintained.
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- Our pipelines have available capacity that provides us the opportunity
to increase volumes and cash available for distribution to Valero L.P.
from existing assets.
- Our revolving credit facility, coupled with Valero L.P.'s ability to
issue new partnership units, provides us with financial flexibility to
pursue expansion and acquisition opportunities.
OUR RELATIONSHIP WITH VALERO ENERGY
Our operations are strategically located within Valero Energy's refining and
marketing supply chain for Texas, Oklahoma, California, Colorado, New Mexico,
Arizona and other mid-continent states of the United States, but we do not own
or operate any refining or marketing operations. Valero Energy is dependent upon
us to provide transportation and storage services that support the refining and
marketing operations in the markets served by Valero Energy's Corpus Christi,
Texas City, Benicia, McKee, Three Rivers and Ardmore refineries. At the same
time, we are dependent on the continued use of our pipelines, terminals and
storage tanks by Valero Energy and the ability of Valero Energy's refineries to
maintain their production of refined products. Valero Energy accounted for 99%
of our revenues for the year ended December 31, 2002 and the quarter ended March
31, 2003. Although we intend to pursue third party business as opportunities may
arise, we expect to continue to derive most of our revenues from Valero Energy
for the foreseeable future. Valero Energy has advised us that it currently does
not intend to close or dispose of the refineries currently served by our
pipelines, terminals and storage tank assets or to cause any changes that would
have a material adverse effect on these refineries' operations.
Description of Valero Energy's Business. Valero Energy is one of the top three
U.S. refining companies in terms of refining capacity. Valero Energy owns and
operates 12 refineries, six of which are served by our pipelines, terminals and
storage tanks:
- the Corpus Christi (West Plant) refinery, which has a current total
capacity to process 225,000 barrels per day of crude oil and other
feedstocks;
- the Texas City refinery, which has a current total capacity to process
243,000 barrels per day of crude oil and other feedstocks;
- the Benicia refinery, which has a current total capacity to process
180,000 barrels per day of crude oil and other feedstocks;
- the McKee refinery, which has a current total capacity to process
170,000 barrels per day of crude oil and other feedstocks;
- the Three Rivers refinery, which has a current total capacity to
process 98,000 barrels per day of crude oil and other feedstocks; and
- the Ardmore refinery, which has a current total capacity to process
85,000 barrels per day of crude oil and other feedstocks.
The Corpus Christi refinery consists of two plants, the West plant and the East
plant, with a combined total capacity to process 340,000 barrels per day of
crude oil and other feedstocks. Since June 1, 2001 (the date Valero Energy began
operating the East plant), Valero Energy has operated both plants as one
refinery. Unless otherwise indicated, references to the Corpus Christi refinery
include both the West and the East plants.
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Valero Energy markets the refined products produced by these refineries
primarily in Texas, Oklahoma, California, Colorado, New Mexico, Arizona and
other mid-continent states through a network of company-operated and
dealer-operated convenience stores, as well as through other wholesale and spot
market sales and exchange agreements.
Our Pipelines and Terminals Usage Agreement with Valero Energy. Under the terms
of the Pipelines and Terminals Usage Agreement, Valero Energy has agreed to
transport, until April 1, 2008, at least 75% of the aggregate volumes of crude
oil shipped to, and at least 75% of the aggregate volumes of refined products
shipped from, the McKee, Three Rivers and Ardmore refineries in our crude oil
pipelines and refined product pipelines, respectively, and to use our refined
product terminals for terminalling services for at least 50% of the refined
products shipped from these refineries. For the year ended December 31, 2002,
Valero Energy used our pipelines to transport 97% of its crude oil and other
feedstocks shipped to, and 80% of the refined products shipped from, the McKee,
Three Rivers and Ardmore refineries, and used our terminalling services for 59%
of all refined products shipped from these refineries. In addition, Valero
Energy has agreed, until April 1, 2008, to remain the shipper for its crude oil
and other feedstocks and refined products transported in these pipelines, and
not to challenge the tariff rates for the transportation of crude oil and
refined products in these pipelines.
Valero Energy's obligation to use these pipelines and terminals will be
suspended if Valero Energy ceases to own the McKee, Three Rivers or Ardmore
refineries, if material changes in market conditions occur that have a material
adverse effect on Valero Energy or if we are unable to handle the volumes due to
operational difficulties with our pipelines or terminals.
Tank Asset Handling and Throughput Agreement. In connection with the recent
contribution of the crude oil and intermediate feedstock storage tanks at Valero
Energy's Texas City, Corpus Christi (West Plant) and Benicia refineries, Valero
Energy has agreed to pay us a fee for an initial period of ten years for 100% of
specified feedstocks delivered to each of these refineries and to use our
services for handling all deliveries to these refineries as long as we are able
to provide the handling and throughput services. Please read "Business--Crude
oil storage tank contribution" on page 77 of this prospectus.
Throughput Commitment Agreement and Terminalling Agreements. In connection with
the recent South Texas pipeline system contribution, Valero Energy committed,
for an initial period of seven years with respect to gasoline, distillate and
raffinate only, to transport in these pipelines specified percentages of refined
product production and to use the related terminals for specified percentages of
throughput in these pipelines. Please read "Business--South Texas pipeline
system contribution" on page 81 of this prospectus.
Valero Energy owns Valero L.P.'s general partner. We are a 100%-owned direct and
indirect subsidiary of Valero L.P. Valero Energy owns and controls Riverwalk
Logistics, L.P., which serves as the general partner of Valero L.P. with a 2%
general partner interest. Valero Energy also indirectly owns an aggregate 46.2%
limited partner interest in Valero L.P.
As a result of Valero Energy's ownership of Valero L.P.'s general partner,
conflicts of interest are inherent in our relationship with Valero Energy.
Please read "Risk factors--Risks inherent in our business--Valero Energy and its
affiliates have conflicts of interest and limited fiduciary responsibilities,
which may permit them to favor their own interests to the detriment of holders
of our notes" on page 33 of this prospectus.
Omnibus Agreement. At the closing of Valero L.P.'s initial public offering, we
entered into an omnibus agreement with Valero Energy that governs potential
competition between us and
4
Valero Energy. Valero Energy has agreed, for so long as it controls Valero
L.P.'s general partner, not to engage in, whether by acquisition or otherwise,
the business of transporting crude oil and other feedstocks or refined products,
including petrochemicals, or operating crude oil storage or refined product
terminalling assets in the United States. This restriction does not apply to:
- any business retained by Ultramar Diamond Shamrock Corporation (and now
part of Valero Energy) at the closing of the initial public offering of
Valero L.P. or any business owned by Valero Energy at the date of its
acquisition of Ultramar Diamond Shamrock on December 31, 2001;
- any business with a fair market value of less than $10 million;
- any business acquired by Valero Energy in the future that constitutes
less than 50% of the fair market value of a larger acquisition, provided
that Valero L.P. has been offered and declined the opportunity to
purchase this business; or
- any newly constructed pipeline, terminalling or storage assets that
Valero L.P. has not offered to purchase within one year of construction
at fair market value.
Also under the Omnibus Agreement, Valero Energy has agreed to indemnify us for
environmental liabilities related to assets transferred to us in connection with
Valero L.P.'s initial public offering that arose prior to April 16, 2001 and are
discovered within 10 years after April 16, 2001, excluding liabilities resulting
from any changes in law after April 16, 2001.
In connection with the South Texas pipeline system contribution, Valero Energy
has agreed to indemnify us from environmental liabilities that are known as of
March 18, 2003 or are discovered within 10 years after March 18, 2003 related
to:
- the South Texas pipelines and terminals that arose as a result of
events occurring or conditions existing prior to March 18, 2003; and
- any real or personal property on which the South Texas pipelines and
terminals are located that arose prior to March 18, 2003.
In connection with the crude oil storage tank contribution, Valero Energy has
agreed to indemnify us from environmental liabilities related to:
- the crude oil storage tanks that arose as a result of events occurring
or conditions existing prior to March 18, 2003;
- any real or personal property on which the crude oil storage tanks are
located that arose prior to March 18, 2003; and
- any actions taken by Valero Energy before, on or after March 18, 2003,
in connection with the ownership, use or operation of the West plant of
the Corpus Christi refinery, the Texas City refinery and the Benicia
refinery or the property on which the crude oil storage tanks are
located, or any accident or occurrence in connection therewith.
RECENT DEVELOPMENTS
CRUDE OIL STORAGE TANK AND SOUTH TEXAS PIPELINE SYSTEM CONTRIBUTIONS
On March 18, 2003, Valero Energy contributed 58 crude oil and intermediate
feedstock storage tanks and related assets with approximately 11.0 million
barrels (aggregate) of storage capacity to us for $200 million. The tank assets
consist of all of the tank shells, foundations, tank valves,
5
tank gauges, pressure equipment, temperature equipment, corrosion protection,
leak detection, tank lighting and related equipment and appurtenances associated
with the specified crude oil storage tanks and intermediate feedstock storage
tanks located at the West plant of Valero Energy's Corpus Christi refinery, and
its Texas City and Benicia refineries.
Valero Energy also contributed the South Texas pipeline system, comprised of the
Houston pipeline system, the San Antonio pipeline system and the Valley pipeline
system and related terminalling assets, to us for $150 million. The three
pipeline systems that make up the South Texas pipeline system are intrastate
common carrier refined product pipelines that connect Valero Energy's Corpus
Christi and Three Rivers refineries to the Houston, San Antonio and Rio Grande
Valley, Texas markets.
For a more detailed discussion of the crude oil storage tank and South Texas
pipeline system contributions, please read "Business--Crude oil storage tank
contribution" and "Business--South Texas pipeline system contribution" beginning
on pages 77 and 81 of this prospectus.
VALERO L.P. COMMON UNIT OFFERING
Concurrently with the offering of the outstanding notes on March 18, 2003,
Valero L.P. issued and sold 5,750,000 common units in a public offering and on
April 16, 2003, Valero L.P. issued and sold an additional 581,000 common units
pursuant to the underwriters' overallotment option, for aggregate net proceeds
to Valero L.P., before offering expenses, of $223 million. Riverwalk Logistics
made a $4.7 million capital contribution to Valero L.P. to maintain its 2%
general partner interest.
REDEMPTION OF COMMON UNITS OWNED BY VALERO ENERGY AND AMENDMENT TO VALERO L.P.'S
PARTNERSHIP AGREEMENT
Common Unit Redemption. Immediately following Valero L.P.'s common unit offering
and our offering of the outstanding notes, Valero L.P. redeemed from Valero
Energy 3,809,750 common units for approximately $134.1 million or $35.19 per
unit, which is equal to the net proceeds per unit, before expenses, received by
Valero L.P. in its public offering of common units. Immediately following the
redemption, Valero L.P. canceled the common units redeemed from Valero Energy.
Valero L.P. also redeemed the corresponding portion of Valero Energy's general
partner interest so that it maintained its 2% general partner interest for $2.9
million.
Amendment to Partnership Agreement. Immediately upon the closing of the
offerings, Valero L.P. amended its partnership agreement to reduce the
percentage of the vote of holders of Valero L.P.'s outstanding common units and
subordinated units necessary to remove the general partner from 66 2/3% to 58%.
The amendment also excludes the common units and subordinated units held by
affiliates of Valero L.P.'s general partner from the removal vote. Previously,
Valero Energy and its affiliates were allowed to vote their units and thus
effectively block removal of the general partner. Valero L.P. also amended its
partnership agreement to provide that the election of a successor general
partner upon any such removal be approved by the holders of a majority of the
common units, excluding the common units held by affiliates of Valero L.P.'s
general partner.
For a more detailed discussion of the common unit redemption and partnership
agreement amendment, please read "Redemption of common units owned by Valero
Energy and amendment to Valero L.P.'s partnership agreement" beginning on page
88 of this prospectus.
6
CONFLICTS COMMITTEE APPROVAL
The conflicts committee of the board of directors of Valero GP, LLC, the general
partner of Valero L.P.'s general partner, approved the crude oil storage tank
and the South Texas pipeline system contributions based in part on an opinion
from its independent financial advisor that the consideration to be paid
pursuant to the transaction agreements related to each of the contributions was
fair from a financial point of view to Valero L.P. and its public unitholders.
The conflicts committee also concluded that the pricing mechanism in the common
unit offering would produce a fair price for the redemption.
EXPECTED CASH AVAILABLE FOR DISTRIBUTION
Management expects that the crude oil storage tank and the South Texas pipeline
system contributions in connection with the common unit redemption and the
adjustment to terminalling fees discussed below will result in an increase in
cash available for distribution that we believe will be sufficient to enable
management to make a recommendation to the board of directors of Valero GP, LLC
to increase the Valero L.P. quarterly distribution to $0.75 per unit commencing
with the distribution with respect to the second quarter of 2003 which will be
payable in August 2003. However, any increase in the cash distribution to Valero
L.P.'s unitholders must be approved by the board of directors of Valero GP, LLC
based on the actual amount of cash available for distribution at the time.
Management's expectations with respect to cash available for distribution and
distribution levels are based on the following assumptions:
- Average daily throughput volumes for 2003 for the crude oil storage
tanks will be 7% higher than average daily throughput volumes for those
assets in 2002 due to higher refining margins and no turnarounds at the
related refineries;
- Average daily throughput volumes for 2003 in the South Texas pipelines
and terminals will be 4% higher than average daily throughput volumes for
those assets in 2002 as a result of the October 2002 expansion of the
Corpus Christi to Houston refined product pipeline;
- The tariffs and terminalling fees charged for services related to the
crude oil storage tanks and South Texas pipelines and terminals will be
at least those set forth in the contractual arrangements with Valero
Energy;
- Annual operating expenses related to the crude oil storage tanks will
be equal to the $4.2 million in service and leasing fees that we have
agreed to pay Valero Energy plus $6.3 million of additional expenses,
including maintenance capital expenditures;
- Annual operating and general and administrative expenses related to the
South Texas pipelines and terminals will be approximately $2 million less
than those for the year ended December 31, 2002, mainly as a result of
the exclusion of volumetric gains and losses and allocation of overhead;
- Average daily throughput volumes in, and annual operating expenses
related to, our existing assets will be substantially similar to those
for the year ended December 31, 2002; and
- Our business will not be materially adversely affected by refinery
shutdowns, labor disturbances, general economic conditions, terrorist
actions, environmental releases, changes in laws, accidents or similar
factors.
7
While management believes these assumptions are reasonable in light of
management's current beliefs concerning future events, these assumptions are
inherently uncertain and are subject to significant business, economic,
regulatory and competitive risks and uncertainties that could cause actual
results to differ materially from those management anticipates. If our
assumptions are not realized, then actual cash available for distribution could
be insufficient to enable Valero L.P. to increase its distribution.
Consequently, any statements about cash available for distribution or
distribution levels should not be regarded as a representation by us that we
will have sufficient cash available for distribution to make these distributions
or that Valero L.P. will increase its current distribution levels to its
unitholders.
ADJUSTMENT TO TERMINALLING FEES
In conjunction with the crude oil storage tank and South Texas pipeline system
contributions, we reviewed our existing pipeline tariff rates and terminalling
fees, including the additive blending fee that we charge for blending additives
into gasoline and diesel fuel. Based on this review, we reached agreement with
Valero Energy, effective January 1, 2003, to increase the additive blending fee
that we charge for blending additives into gasoline and diesel fuel at our 12
refined product terminals included in the Pipelines and Terminals Usage
Agreement to $0.12 per barrel for the remaining term of that agreement. Assuming
that this additional additive blending fee had been in effect during the year
ended December 31, 2002, and assuming no change in the number of barrels of
refined product that we blended, we would have generated an additional $1.5
million in operating income.
ACQUISITION OF THE TELFER ASPHALT TERMINAL
In January 2003, we purchased an asphalt terminal in Pittsburg, California from
Telfer Oil Company for $15.1 million. The asphalt terminal assets include two
storage tanks with a combined storage capacity of 350,000 barrels, six
5,000-barrel polymer modified asphalt tanks, a truck rack, rail facilities and
various other tanks and equipment. In conjunction with the Telfer acquisition,
we entered into a six-year terminal storage and throughput agreement with Valero
Energy. The agreement includes an exclusive lease by Valero Energy of the
asphalt storage tanks and related equipment for a monthly fee per barrel of
storage capacity, Valero Energy's right to move asphalt through the terminal for
a per barrel throughput fee with a guaranteed minimum annual throughput of
280,000 barrels, and Valero Energy's reimbursement to us of related costs,
including utilities.
RATING AGENCY ACTION
On March 6, 2003, Moody's Investors Service downgraded our 6.875% senior notes
due 2012 from Baa2 to Baa3, with a stable outlook. The downgrade was prompted by
Moody's downgrade of the ratings of Valero Energy's debt from Baa2 to Baa3 on
the same date. Moody's stated that our ratings were tied to Valero Energy's
ratings because of Valero Energy's ownership interest in and control of us and
Valero L.P., the strong operational links between Valero Energy and us and our
reliance on Valero Energy for over 90% of our revenues. On March 7, 2003,
Standard & Poor's affirmed the debt rating of our 6.875% senior notes at BBB,
with a negative outlook.
AMENDED REVOLVING CREDIT FACILITY
On March 6, 2003, we entered into an amended revolving credit facility for up to
$175 million with JPMorgan Chase Bank and other lenders. The amended revolving
credit facility is currently
8
scheduled to expire January 15, 2006. As of April 30, 2003, there was $5.0
million outstanding under the revolving credit facility.
Borrowings under the credit facility may be used for working capital and general
partnership purposes. The revolving credit facility also allows us to issue
letters of credit for an aggregate amount of $75 million.
For a more detailed description of our amended revolving credit facility, please
read "Management's discussion and analysis of financial condition and results of
operations--Liquidity and capital resources" beginning on page 54 of this
prospectus.
9
PARTNERSHIP STRUCTURE AND MANAGEMENT
We are a 100%-owned direct and indirect subsidiary of Valero L.P. Valero Energy
owns and controls Riverwalk Logistics, which serves as the general partner of
Valero L.P. Valero Energy also currently indirectly owns an aggregate 48.2%
ownership interest in Valero L.P. and us.
- Valero L.P. currently owns a 99.99% limited partner interest in us and
100% of Valero GP, Inc., which is our sole general partner with a 0.01%
general partner interest. Valero GP, Inc. performs all management and
operating functions for us;
- Riverwalk Logistics, the general partner of Valero L.P. and an indirect
wholly owned subsidiary of Valero Energy, currently owns a 2% general
partner interest in Valero L.P. and the incentive distribution rights
pursuant to Valero L.P.'s partnership agreement;
- UDS Logistics, the sole limited partner of Riverwalk Logistics and an
indirect wholly owned subsidiary of Valero Energy, owns an aggregate
45.9% limited partner interest in Valero L.P.; and
- Valero GP, LLC, an indirect wholly owned subsidiary of Valero Energy,
is the general partner of Riverwalk Logistics and currently owns a 0.3%
non-voting limited partner interest in Valero L.P. Valero GP, LLC
performs all management and operating functions for Valero L.P.
The chart on the following page depicts our organization and ownership
structure.
10
(Valero Logistics Operations Chart)
--------------------------------------------------------------------------------
(1) Valero GP, LLC does not have voting rights with respect to these 73,319
common units.
(2) Valero Logistics Operations, L.P. owns a 50% interest in Skelly-Belvieu
Pipeline Company, L.L.C. The remaining 50% interest is owned by ConocoPhillips.
11
EXCHANGE OFFER
On March 18, 2003, we sold $250 million aggregate principal amount of our 6.05%
senior notes due 2013, which we refer to as the outstanding notes. As part of
the private offering, we entered into a registration rights agreement with the
initial purchasers of the outstanding notes in which we agreed, among other
things, to deliver this prospectus to you and to use our best efforts to
complete the exchange offer within 210 days of the issue date of the outstanding
notes. The following is a summary of the exchange offer.
EXCHANGE OFFER..........We are offering the exchange notes for outstanding
notes.
EXPIRATION DATE.........The exchange offer will expire at 5:00 p.m., New York
City time, on , 2003, unless we decide to
extend it.
CONDITION TO THE
EXCHANGE OFFER..........The registration rights agreement does not require us to
accept outstanding notes for exchange if the exchange
offer or the making of any exchange by a holder of
outstanding notes would violate any applicable law or
interpretation of the staff of the Securities and
Exchange Commission. A minimum aggregate principal
amount of outstanding notes being tendered is not a
condition to the exchange offer.
PROCEDURES FOR TENDERING
OUTSTANDING NOTES.......To participate in the exchange offer, you must follow
the automatic tender offer program, or ATOP, procedures
established by The Depositary Trust Company, or DTC, for
tendering outstanding notes held in book-entry form. The
ATOP procedures require that the exchange agent receive,
prior to the expiration date of the exchange offer, a
computer generated message known as an "agent's message"
that is transmitted through ATOP and that DTC confirm
that:
- DTC has received instructions to exchange your
outstanding notes; and
- you agree to be bound by the terms of the letter of
transmittal.
For more details, please read "Exchange offer--Terms of
the exchange offer" and "Exchange offer--Procedures for
tendering."
GUARANTEED DELIVERY
PROCEDURES..............None.
WITHDRAWAL OF
TENDERS.................You may withdraw your tender of outstanding notes at any
time prior to the expiration date. To withdraw, you must
submit a notice of withdrawal to the exchange agent
using ATOP procedures before 5:00 p.m., New York City
time, on the expiration date of the exchange offer.
Please read "Exchange offer--Withdrawal of tenders."
12
ACCEPTANCE OF
OUTSTANDING NOTES AND
DELIVERY OF EXCHANGE
NOTES...................If you fulfill all conditions required for proper
acceptance of outstanding notes, we will accept any and
all outstanding notes that you properly tender in the
exchange offer on or before 5:00 p.m., New York City
time, on the expiration date. We will return any
outstanding note that we do not accept for exchange to
you without expense promptly after the expiration date.
We will deliver the exchange notes promptly after the
expiration date and acceptance of the outstanding notes
for exchange. Please read "Exchange offer--Terms of the
exchange offer."
FEES AND EXPENSES.......We will bear all expenses related to the exchange offer.
Please read "Exchange offer--Fees and expenses."
USE OF PROCEEDS.........The issuance of the exchange notes will not provide us
with any new proceeds. We are making this exchange offer
solely to satisfy our obligations under the registration
rights agreement.
CONSEQUENCES OF FAILURE
TO EXCHANGE OUTSTANDING
NOTES...................If you do not exchange your outstanding notes in this
exchange offer, you will no longer be able to require us
to register the outstanding notes under the Securities
Act, except in the limited circumstances provided under
the registration rights agreement. In addition, you will
not be able to resell, offer to resell or otherwise
transfer the outstanding notes unless we have registered
the outstanding notes under the Securities Act, or
unless you resell, offer to resell or otherwise transfer
them under an exemption from the registration
requirements of, or in a transaction not subject to, the
Securities Act.
U.S. FEDERAL INCOME TAX
CONSEQUENCES............The exchange of exchange notes for outstanding notes in
the exchange offer will not be a taxable event for U.S.
federal income tax purposes. Please read "Material
federal income tax consequences."
EXCHANGE AGENT..........We have appointed The Bank of New York as exchange agent
for the exchange offer. You should direct questions and
requests for assistance and requests for additional
copies of this prospectus (including the letter of
transmittal) to the exchange agent addressed as follows:
The Bank of New York
Attn: Carolle Montreuil
Corporate Trust Operations
Reorganization Unit
101 Barclay Street--7 East
New York, NY 10286
Telephone: 212-815-5920
Eligible institutions may make requests by facsimile at
212-298-1915.
13
TERMS OF THE EXCHANGE NOTES
The exchange notes will be identical to the outstanding notes, except that the
exchange notes are registered under the Securities Act and will not have
restrictions on transfer, registration rights or provisions for additional
interest. The exchange notes will evidence the same debt as the outstanding
notes, and the same indenture will govern the exchange notes and the outstanding
notes.
The following is a summary of the terms of the exchange notes. It may not
contain all the information that is important to you. For a more detailed
description of the exchange notes, please read "Description of the exchange
notes and the guarantees" on page 106 of this prospectus.
ISSUER..................Valero Logistics Operations, L.P.
SECURITIES OFFERED......$250 million principal amount of 6.05% Exchange Notes
due 2013.
INTEREST PAYMENT
DATES...................Interest on the exchange notes will be paid
semi-annually in arrears on March 15 and September 15 of
each year, beginning on September 15, 2003.
MATURITY................March 15, 2013.
GUARANTEE...............Valero L.P. will fully and unconditionally guarantee the
payment of all principal and interest under the exchange
notes.
OPTIONAL REDEMPTION.....We may redeem some or all of the exchange notes at any
time, at a redemption price which includes a make-whole
premium, plus accrued and unpaid interest, if any, to
the redemption date. Please read "Description of the
exchange notes and the guarantees--optional redemption."
RANKING.................The exchange notes will be our senior unsecured
obligations and will rank equally with all of our other
existing and future senior unsecured indebtedness,
including indebtedness under our revolving credit
facility and our existing 6.875% senior notes due 2012.
The guarantee by Valero L.P. will rank equally with all
of Valero L.P.'s unsecured senior obligations. Valero
L.P. currently has no outstanding indebtedness for
borrowed money.
The indenture does not limit the amount of unsecured
debt we may incur. The indenture contains restrictions
on our ability to incur secured indebtedness unless the
same security is also provided for the benefit of the
holders of the exchange notes.
CERTAIN COVENANTS.......We issued the outstanding notes, and we will issue the
exchange notes under an indenture with The Bank of New
York, as trustee. The indenture contains limitations on,
among other things, our ability to:
- incur indebtedness secured by certain liens; and
- engage in certain sale-leaseback transactions.
14
Each covenant is subject to a number of important
exceptions, limitations and qualifications that are
described under "Description of the exchange notes and
the guarantees--Covenants."
The indenture provides for certain events of default,
including default on certain other indebtedness. Please
read "Description of the exchange notes and the
guarantees--Covenants."
ABSENCE OF A PUBLIC
MARKET FOR THE EXCHANGE
NOTES...................The exchange notes will be freely transferable, but will
also be new issues of securities for which there is no
established market. Accordingly, there can be no
assurance that a market for the exchange notes will
develop or as to the liquidity of any market that may
develop. The initial purchasers have advised us that
they currently intend to make a market in the exchange
notes. However, they are not obligated to do so, and any
market making with respect to the exchange notes may be
discontinued without notice.
FORM OF EXCHANGE
NOTES...................The exchange notes will be represented by one global
note. The global exchange note will be deposited with
the trustee, as custodian for DTC.
The global exchange note will be shown on, and transfers
of such global exchange note will be effected only
through, records maintained in book-entry form by DTC
and its direct and indirect participants.
SAME-DAY SETTLEMENT.....The exchange notes will trade in DTC's Same Day Funds
Settlement System until maturity or redemption.
Therefore, secondary market trading activity in the
exchange notes will be settled in immediately available
funds.
TRADING.................We do not expect to list the exchange notes for trading
on any securities exchange.
TRUSTEE, REGISTRAR AND
EXCHANGE AGENT..........The Bank of New York
GOVERNING LAW...........The exchange notes and the indenture will be governed
by, and construed in accordance with, the laws of the
State of New York.
RISK FACTORS
Please read "Risk factors" beginning on page 23 of this prospectus for a
discussion of factors you should consider carefully before participating in the
exchange offer.
15
SUMMARY FINANCIAL AND OPERATING DATA
The following table provides selected financial data and operating data of
Valero L.P. and subsidiaries from July 1, 2000 through March 31, 2003. The
selected financial data and operating data from January 1, 1998 through June 30,
2000 relates to the Ultramar Diamond Shamrock Logistics Business, the
predecessor to Valero L.P. and subsidiaries. The following table should be read
together with, and is qualified in its entirety by reference to, the historical
financial statements and the accompanying notes included elsewhere in this
prospectus. The table should be read together with "Management's discussion and
analysis of financial condition and results of operations."
Prior to July 1, 2000, our pipeline, terminalling and storage assets were owned
and operated by Ultramar Diamond Shamrock Corporation (now Valero Energy), and
such assets serviced Ultramar Diamond Shamrock's McKee and Three Rivers
refineries located in Texas, and the Ardmore refinery located in Oklahoma. These
assets and their related operations were referred to as the Ultramar Diamond
Shamrock Logistics Business. Effective July 1, 2000, Ultramar Diamond Shamrock
Corporation transferred the Ultramar Diamond Shamrock Logistics Business, along
with certain liabilities, to Shamrock Logistics Operations, L.P. (now Valero
Logistics Operations, L.P.), a wholly owned subsidiary of Shamrock Logistics,
L.P. (now Valero L.P.). We were wholly owned by Ultramar Diamond Shamrock. Data
in the following table prior to the July 1, 2000 transfer is indicated as
"Predecessor" and data subsequent thereto is indicated as "Successor." On April
16, 2001, Valero L.P. closed on its initial public offering of common units,
which represented 26.4% of its outstanding partnership interests.
On May 7, 2001, Valero Energy announced that it had entered into an Agreement
and Plan of Merger with Ultramar Diamond Shamrock whereby Ultramar Diamond
Shamrock agreed to be acquired by Valero Energy for total consideration of
approximately $4.3 billion and the assumption of approximately $2.0 billion of
debt. The acquisition of Ultramar Diamond Shamrock by Valero Energy became
effective on December 31, 2001. This acquisition included the acquisition of
Ultramar Diamond Shamrock's majority ownership interest in us. Valero L.P.'s
consolidated balance sheet as of December 31, 2001 was not adjusted to fair
value due to the significant level of public ownership interest in Valero L.P.
Effective January 1, 2002, we changed our name to Valero Logistics Operations,
L.P., and Shamrock Logistics, L.P. changed its name to Valero L.P.
On February 1, 2002, we acquired the Wichita Falls Business from Valero Energy
for $64 million.
On January 7, 2003, we acquired an asphalt terminal from Telfer Oil Company for
$15.1 million.
On March 18, 2003, Valero Energy contributed 58 crude oil storage tanks and the
South Texas pipelines and terminals to us for an aggregate amount of $350.0
million. In conjunction with the contributions, Valero L.P. consummated a public
offering of 5,750,000 common units for net proceeds of $204.7 million (including
the general partner interest contribution) and we issued in a private placement
$250.0 million of 6.05% senior notes for net proceeds of $247.8 million and
borrowed $25.0 million under our revolving credit facility.
Also on March 18, 2003, subsequent to Valero L.P.'s common unit offering and our
private placement of 6.05% senior notes, Valero L.P. redeemed from UDS
Logistics, LLC, 3,809,750 common units and a portion of Riverwalk Logistics'
general partner interest for $137.0 million. As a result of these common unit
transactions, Valero Energy's aggregate ownership interest in Valero L.P. was
reduced to 49.5%. In April of 2003, Valero Energy's aggregate ownership in
16
Valero L.P. was further reduced to 48.2% as a result of the exercise by the
underwriters of a portion of the overallotment option.
The selected financial data and operating data for the years ended December 31,
1998 and 1999, and for the six months ended June 30, 2000, reflect the
operations of the Ultramar Diamond Shamrock Logistics Business (the predecessor
to Valero Logistics) as if it had existed as a single separate entity from
Ultramar Diamond Shamrock. The transfer of the Ultramar Diamond Shamrock
Logistics Business to Valero Logistics represented a reorganization of entities
under common control and was recorded at historical cost. The selected financial
data and operating data for the six months ended December 31, 2000, and for the
years ended December 31, 2001 and 2002, represent the consolidated operations of
Valero L.P. and subsidiaries. The selected financial data as of December 31,
2001, includes the acquisition of the Wichita Falls Business because we and the
Wichita Falls Business came under the common control of Valero Energy commencing
on December 31, 2001, and thus, represented a reorganization of entities under
common control. The selected financial data and operating data for the year
ended December 31, 2002, reflects the operations of the Wichita Falls Business
for the entire year.
The selected financial data and operating data as of and for the years ended
December 31, 1998 and 1999 and as of and for the six months ended June 30, 2000
was derived from the audited financial statements of the Ultramar Diamond
Shamrock Logistics Business. The selected financial data and operating data as
of and for the six months ended December 31, 2000 and as of and for the years
ended December 31, 2001 and 2002 were derived from the audited consolidated
financial statements of Valero L.P. and subsidiaries. The selected financial
data and operating data as of March 31, 2002 and 2003 and for the three months
ended March 31, 2002 and 2003 was derived from the unaudited consolidated
financial statements of Valero L.P. and subsidiaries.
17
---------------------------------------------------------------------------------------------------------------
PREDECESSOR SUCCESSOR
--------------------------------- ----------------------------------
YEARS ENDED SIX MONTHS SIX MONTHS YEARS ENDED
DECEMBER 31, ENDED ENDED DECEMBER 31,
(IN THOUSANDS, EXCEPT PER UNIT DATA AND -------------------- JUNE 30, DECEMBER 31, -------------------
BARREL/DAY INFORMATION) 1998 1999 2000 2000 2001 2002
---------------------------------------------------------------------------------------------------------------
STATEMENT OF INCOME DATA:
Revenues(1).......................... $ 97,883 $109,773 $ 44,503 $ 47,550 $ 98,827 $118,458
----------------------------------------------------------------------
Costs and expenses:
Operating expenses................ 32,179 29,013 17,912 15,593 33,583 37,838
General and administrative
expenses....................... 4,552 4,698 2,590 2,549 5,349 6,950
Depreciation and amortization..... 12,451 12,318 6,336 5,924 13,390 16,440
----------------------------------------------------------------------
Total costs and expenses.... 49,182 46,029 26,838 24,066 52,322 61,228
Gain on sale of property, plant and
equipment(2)................... 7,005 2,478 -- -- -- --
----------------------------------------------------------------------
Operating income..................... 55,706 66,222 17,665 23,484 46,505 57,230
Equity income from Skelly-Belvieu
Pipeline Company.................. 3,896 3,874 1,926 1,951 3,179 3,188
Interest expense, net................ (796) (777) (433) (4,748) (3,811) (4,880)
----------------------------------------------------------------------
Income before income tax expense
(benefit)......................... 58,806 69,319 19,158 20,687 45,873 55,538
Income tax expense (benefit)(3)...... 22,517 26,521 (30,812) -- -- 395
----------------------------------------------------------------------
Net income........................... $ 36,289 $ 42,798 $ 49,970 $ 20,687 $ 45,873 $ 55,143
----------------------------------------------------------------------
Basic and diluted net income per unit
applicable to limited partners(4)... $ 1.82 $ 2.72
----------------------------------------------------------------------
Cash distributions per unit applicable
to limited partners............... $ 1.70 $ 2.75
----------------------------------------------------------------------
OTHER FINANCIAL DATA:
EBITDA(5)............................ $ 72,053 $ 82,414 $ 25,927 $ 31,359 $ 63,074 $ 76,858
Distributable cash flow(5)........... 62,258 77,841 25,091 26,393 56,172 68,437
Distributions from Skelly-Belvieu
Pipeline Company.................. 3,692 4,238 2,306 2,352 2,874 3,590
Net cash provided by operating
activities........................ 48,642 54,054 20,247 1,870 77,132 77,656
Net cash provided by (used in)
investing activities.............. 14,703 2,787 (4,505) (1,736) (17,926) (80,607)
Net cash provided by (used in)
financing activities.............. (63,345) (56,841) (15,742) (133) (51,414) 28,688
Maintenance capital expenditures..... 2,345 2,060 1,699 619 2,786 3,943
Expansion capital expenditures....... 9,952 7,313 3,186 1,518 4,340 1,761
Acquisitions......................... -- -- -- -- 10,800 75,000
Total capital expenditures........... 12,297 9,373 4,885 2,137 17,926 80,704
OPERATING DATA (barrels/day):
Crude oil pipeline throughput........ 265,243 280,041 294,037 295,524 303,811 348,023
Refined product pipeline throughput... 268,064 297,397 312,759 306,877 308,047 295,456
Refined product terminal throughput... 144,093 161,340 168,433 162,904 176,771 175,559
---------------------------------------------------------------------------------------------------------------
18
------------------------------------------------------------------------------------------
PREDECESSOR SUCCESSOR
------------------- ------------------------------
DECEMBER 31, DECEMBER 31,
------------------- ------------------------------
(IN THOUSANDS) 1998 1999 2000 2001 2002
------------------------------------------------------------------------------------------
BALANCE SHEET DATA:
Property, plant and equipment, net.. $297,121 $284,954 $280,017 $349,012 $349,276
Total assets........................ 321,002 308,214 329,484 387,070 415,508
Long-term debt, including current
portion and debt due to parent... 11,455 11,102 118,360 26,122 109,658
Partners' equity/net parent
investment(6).................... 268,497 254,807 204,838 342,166 293,895
------------------------------------------------------------------------------------------
---------------------------------------------------------------------------------
THREE MONTHS ENDED
MARCH 31,
-------------------
(UNAUDITED, IN THOUSANDS, EXCEPT PER UNIT DATA) 2002 2003
---------------------------------------------------------------------------------
STATEMENT OF INCOME DATA:
Revenues.................................................... $26,024 $ 31,816
-------------------
Costs and expenses:
Operating expenses....................................... 9,184 11,661
General and administrative expenses...................... 1,788 1,844
Depreciation and amortization............................ 4,356 4,283
-------------------
Total costs and expenses........................... 15,328 17,788
-------------------
Operating income............................................ 10,696 14,028
Equity income from Skelly-Belvieu Pipeline Company.......... 678 731
Interest expense, net....................................... (556) (2,377)
-------------------
Income before income tax expense............................ 10,818 12,382
Income tax expense(3)....................................... 395 --
-------------------
Net income.................................................. $10,423 $ 12,382
-------------------
Basic and diluted net income per unit applicable to limited
partners(4).............................................. $ 0.50 $ 0.60
-------------------
Cash distributions per unit applicable to limited
partners.................................................. $ 0.65 $ 0.70
-------------------
19
---------------------------------------------------------------------------------
THREE MONTHS ENDED
MARCH 31,
-------------------
(UNAUDITED, IN THOUSANDS, EXCEPT BARREL/DAY INFORMATION) 2002 2003
---------------------------------------------------------------------------------
OTHER FINANCIAL DATA:
EBITDA(5)................................................... $15,730 $ 19,042
Distributable cash flow(5).................................. 14,478 15,490
Distributions from Skelly-Belvieu Pipeline Company.......... 771 748
Net cash provided by operating activities................... 14,037 20,298
Net cash used in investing activities....................... (65,798) (366,922)
Net cash provided by financing activities................... 51,654 326,133
Maintenance capital expenditures............................ 789 1,192
Expansion capital expenditures.............................. 1,009 940
Acquisitions................................................ 64,000 364,807
Total capital expenditures.................................. 65,798 366,939
OPERATING DATA (barrels/day):
Crude oil pipeline throughput............................... 312,387 332,760
Refined product pipeline throughput(7)...................... 262,872 296,816
Refined product terminal throughput(7)...................... 175,816 176,797
Crude oil storage tanks throughput(7)....................... -- 77,458
---------------------------------------------------------------------------------
---------------------------------------------------------------------------------
MARCH 31,
-------------------
(UNAUDITED, IN THOUSANDS) 2002 2003
---------------------------------------------------------------------------------
BALANCE SHEET DATA:
Property, plant and equipment, net.......................... $346,455 $711,481
Total assets................................................ 385,025 764,933
Long-term debt, including current portion................... 90,076 383,891
Partners' equity............................................ 289,652 362,590
---------------------------------------------------------------------------------
(1) Effective January 1, 2000, the Ultramar Diamond Shamrock Logistics
Business (predecessor) filed revised tariff rates on many of its crude oil
and refined product pipelines to reflect the total cost of the pipeline, the
current throughput capacity, the current throughput utilization and other
market conditions. Prior to 1999, the Ultramar Diamond Shamrock Logistics
Business did not charge a separate terminalling fee for terminalling services
at its refined product terminals. These costs were charged back to the
related refinery. Beginning January 1, 1999, the Ultramar Diamond Shamrock
Logistics Business began charging a separate terminalling fee at its refined
product terminals. If the revised tariff rates and the terminalling fee had
been implemented effective January 1, 1998, revenues would have been as
follows for the years presented. The revised tariff rates and terminalling
fee were in effect throughout the years ended December 31, 2000, 2001 and
2002 and the three months ended March 31, 2003.
---------------------------------------------------------------------------------
YEARS ENDED
DECEMBER 31,
-------------------
(IN THOUSANDS) 1998 1999
---------------------------------------------------------------------------------
Revenues--historical........................................ $ 97,883 $109,773
-------------------
Decrease in tariff revenues.............................. (17,067) (21,892)
Increase in terminalling revenues........................ 1,649 --
-------------------
Net decrease............................................. (15,418) (21,892)
-------------------
Revenues--as adjusted.................................... $ 82,465 $ 87,881
---------------------------------------------------------------------------------
(2) In March 1998, the Ultramar Diamond Shamrock Logistics Business
recognized a gain on the sale of a 25% interest in the McKee to El Paso
refined product pipeline and the El Paso refined product terminal to
ConocoPhillips (previously Phillips Petroleum Company). In August 1999, the
Ultramar Diamond Shamrock Logistics Business recognized a gain on the sale of
an additional 8.33% interest in the McKee to El Paso refined product pipeline
and terminal to ConocoPhillips.
20
(3) Effective July 1, 2000, Ultramar Diamond Shamrock transferred the
Ultramar Diamond Shamrock Logistics Business (predecessor) to Valero
Logistics. As a limited partnership, Valero Logistics is not subject to
federal or state income taxes. Due to this change in tax status, the deferred
income tax liability of $38,217,000 as of June 30, 2000 was written off in
the statement of income of the Ultramar Diamond Shamrock Logistics Business
for the six months ended June 30, 2000. The resulting income tax benefit of
$30,812,000 for the six months ended June 30, 2000, includes the write-off of
the deferred income tax liability less the provision for income tax expense
of $7,405,000 for the six months ended June 30, 2000. The income tax expense
for periods prior to July 1, 2000 was based on the effective income tax rate
for the Ultramar Diamond Shamrock Logistics Business of 38%. The effective
income tax rate exceeds the U.S. federal statutory income tax rate due to
state income taxes.
Income tax expense for the year ended December 31, 2002 represents income tax
expense incurred by the Wichita Falls Business during the month ended January
31, 2002, prior to the acquisition of the Wichita Falls Business by us on
February 1, 2002.
(4) Net income per unit applicable to limited partners is computed by
dividing net income applicable to limited partners, after deduction of the
general partner's 2% interest and incentive distributions, by the weighted
average number of limited partnership units outstanding for each class of
unitholder. Basic and diluted net income per unit applicable to limited
partners is the same. Net income per unit applicable to limited partners for
the periods prior to April 16, 2001 is not shown as units had not been
issued.
----------------------------------------------------------------------------------------------------------------------
FOR THE PERIOD THREE MONTHS ENDED
APRIL 16, 2001 MARCH 31,
THROUGH YEAR ENDED -------------------------
(IN THOUSANDS, EXCEPT PER UNIT DATA) DECEMBER 31, 2001 DECEMBER 31, 2002 2002 2003
----------------------------------------------------------------------------------------------------------------------
Net income......................................... $ 45,873 $ 55,143 $ 10,423 $ 12,382
Less net income applicable to the period from
January 1, 2001 through April 15, 2001.......... (10,126) -- -- --
Less net income applicable to the Wichita Falls
Business for the month ended January 31, 2002... -- (650) (650) --
Less net income applicable to general partner's
interest, including incentive distributions..... (715) (2,187) (195) (624)
-----------------------------------------------------------------
Net income applicable to limited partners'
interest........................................ $ 35,032 $ 52,306 $ 9,578 $ 11,758
-----------------------------------------------------------------
Basic and diluted net income per unit applicable to
limited partners................................ $ 1.82 $ 2.72 $ 0.50 $ 0.60
-----------------------------------------------------------------
Weighted average number of units outstanding, basic
and diluted..................................... 19,198,644 19,250,867 19,241,617 19,556,486
----------------------------------------------------------------------------------------------------------------------
21
(5) The following is a reconciliation of income before income tax expense
(benefit) to EBITDA and distributable cash flow. Beginning July 1, 2000, the
impact of volumetric expansions, contractions and measurement discrepancies
in the pipelines has been borne by the shippers in our pipelines and is
therefore not reflected in operating expenses subsequent to July 1, 2000. The
effect of volumetric expansions, contractions and measurement discrepancies
in the pipelines was a net reduction to income before income tax expense
(benefit).
----------------------------------------------------------------------------------------------------------------------
PREDECESSOR SUCCESSOR
------------------------------- ----------------------------------------------------
YEARS ENDED SIX MONTHS SIX MONTHS YEARS ENDED THREE MONTHS
DECEMBER 31, ENDED ENDED DECEMBER 31, ENDED MARCH 31,
----------------- JUNE 30, DECEMBER 31, ----------------- -----------------
(IN THOUSANDS) 1998 1999 2000 2000 2001 2002 2002 2003
----------------------------------------------------------------------------------------------------------------------
Income before income tax
expense (benefit).......... $58,806 $69,319 $ 19,158 $ 20,687 $45,873 $55,538 $10,818 $12,382
Plus interest expense, net.... 796 777 433 4,748 3,811 4,880 556 2,377
Plus depreciation and
amortization............... 12,451 12,318 6,336 5,924 13,390 16,440 4,356 4,283
--------------------------------------------------------------------------------------
EBITDA........................ 72,053 82,414 25,927 31,359 63,074 76,858 15,730 19,042
Less equity income from
Skelly-Belvieu Pipeline
Company................. (3,896) (3,874) (1,926) (1,951) (3,179) (3,188) (678) (731)
Less interest expense,
net..................... (796) (777) (433) (4,748) (3,811) (4,880) (556) (2,377)
Less maintenance capital
expenditures............ (2,345) (2,060) (1,699) (619) (2,786) (3,943) (789) (1,192)
Less gain on sale of
property, plant and
equipment............... (7,005) (2,478) -- -- -- -- -- --
Plus distributions from
Skelly-Belvieu Pipeline
Company................. 3,692 4,238 2,306 2,352 2,874 3,590 771 748
Plus impact of volumetric
variances............... 555 378 916 -- -- -- -- --
--------------------------------------------------------------------------------------
Distributable cash flow....... $62,258 $77,841 $ 25,091 $ 26,393 $56,172 $68,437 $14,478 $15,490
----------------------------------------------------------------------------------------------------------------------
We utilize two financial measures, earnings before interest, income taxes,
depreciation and amortization (EBITDA) and distributable cash flow, which are
not defined in United States generally accepted accounting principles.
Management presents both EBITDA and distributable cash flow in our filings
under the Securities Exchange Act of 1934. Management uses these financial
measures because they are widely accepted financial indicators used by some
investors and analysts to analyze and compare partnerships on the basis of
operating performance. In addition, distributable cash flow is used to
determine the amount of cash distributions to Valero L.P.'s unitholders.
Neither EBITDA nor distributable cash flow are intended to represent cash
flows for the period, nor are they presented as an alternative to operating
income or income before income tax expense (benefit). They should not be
considered in isolation or as substitutes for a measure of performance
prepared in accordance with United States generally accepted accounting
principles. Our method of computation for both EBITDA and distributable cash
flow may or may not be comparable to other similarly titled measures used by
other partnerships.
(6) The partners' equity amount as of December 31, 2001 includes $50,631,000
of net parent investment resulting from our acquisition of the Wichita Falls
Business on February 1, 2002, which represented a transfer between entities
under common control and therefore required a restatement of our December 31,
2001 consolidated balance sheet to include the Wichita Falls Business as if
it had been combined with us as of December 31, 2001. Upon execution of the
acquisition on February 1, 2002, partners' equity/net parent investment was
reduced by $51,281,000.
(7) On March 18, 2003, we acquired the South Texas pipeline system and the
crude oil storage tanks from Valero Energy. The throughput related to these
newly acquired assets is included in the barrel per day throughput amounts
and is calculated based on throughput for the period from March 19, 2003 to
March 31, 2003 divided by the 90 days in the quarter.
22
RISK FACTORS
Before you decide to participate in the exchange offer, you should read
carefully the following risks, uncertainties and factors relating to our notes
and our business along with "Management's discussion and analysis of financial
condition and results of operations" beginning on page 40 of this prospectus.
RISKS RELATED TO THE EXCHANGE
YOU MAY HAVE DIFFICULTY SELLING THE NOTES WHICH YOU DO NOT EXCHANGE, SINCE
OUTSTANDING NOTES WILL CONTINUE TO HAVE RESTRICTIONS ON TRANSFER AND CANNOT BE
SOLD WITHOUT REGISTRATION UNDER SECURITIES LAWS OR EXEMPTIONS FROM REGISTRATION.
If a large number of outstanding notes are exchanged for exchange notes issued
in the exchange offer, it may be difficult for holders of outstanding notes that
are not exchanged in the exchange offer to sell their notes, since those
outstanding notes may not be offered or sold unless they are registered or there
are exemptions from registration requirements under the Securities Act or state
laws that apply to them. In addition, if there are only a small number of notes
outstanding, there may not be a very liquid market in those notes. There may be
few investors that will purchase unregistered securities in which there is not a
liquid market.
In addition, if you do not tender your outstanding notes or if we do not accept
some outstanding notes, those notes will continue to be subject to the transfer
and exchange provisions of the indenture and the existing transfer restrictions
of the notes that are described in the legend on the notes and in the prospectus
relating to the notes.
IF YOU EXCHANGE YOUR OUTSTANDING NOTES, YOU MAY NOT BE ABLE TO RESELL THE
EXCHANGE NOTES YOU RECEIVE IN THE EXCHANGE OFFER WITHOUT REGISTERING THEM AND
DELIVERING A PROSPECTUS.
You may not be able to resell exchange notes you receive in the exchange offer
without registering those exchange notes or delivering a prospectus. Based on
interpretations by the Commission in no-action letters, we believe, with respect
to exchange notes issued in the exchange offer, that:
- holders who are not our "affiliates" within the meaning of Rule 405 of
the Securities Act;
- holders who acquire their exchange notes in the ordinary course of
business; and
- holders who do not engage in, intend to engage in, or have arrangements
to participate in a distribution (within the meaning of the Securities
Act) of the exchange notes;
do not have to comply with the registration and prospectus delivery requirements
of the Securities Act.
Holders described in the preceding sentence must tell us in writing at our
request that they meet these criteria. Holders that do not meet these criteria
could not rely on interpretations of the Commission in no-action letters, and
would have to register the exchange notes they receive in the exchange offer and
deliver a prospectus for them. In addition, holders that are broker-dealers may
be deemed "underwriters" within the meaning of the Securities Act in connection
with any resale of exchange notes acquired in the exchange offer. Holders that
are broker-dealers must acknowledge that they acquired their outstanding
exchange notes in
23
market-making activities or other trading activities and must deliver a
prospectus when they resell notes they acquire in the exchange offer in order
not to be deemed an underwriter.
RISKS RELATED TO THE NOTES
WE MAY NOT BE ABLE TO REPURCHASE THE NOTES UPON A CHANGE OF CONTROL.
If Valero Energy or an investment grade entity owns less than 51% of the general
partner of Valero L.P. or if Valero L.P. or an investment grade entity owns less
than all of our general partner or less than all of the limited partner interest
in us, a change of control will occur under the indenture and we must offer to
repurchase the notes. The same conditions will also cause a change of control
under the indenture for our existing 6.875% senior notes due 2012, requiring us
to offer to repurchase the $100 million aggregate principal amount of the 6.875%
senior notes. We may not have sufficient funds at the time of the change of
control to make the required repurchases of the notes and the 6.875% senior
notes. Additionally, it is a change of control under our revolving credit
facility if Valero Energy ceases to own at least 51% of Valero L.P.'s general
partner or Valero Energy and/or Valero L.P. cease to own at least 100% of the
general partner interest in us or at least 100% of the limited partner interest
in us or a third party owns 20% or more of the outstanding units of Valero L.P.
Any of these change of control events would cause an event of default under our
revolving credit facility that would, should it occur, permit the lenders to
accelerate the debt outstanding under our revolving credit facility, which in
turn would cause an event of default under the indenture for the notes and the
6.875% senior notes.
RISKS INHERENT IN OUR BUSINESS
OUR FUTURE FINANCIAL AND OPERATING FLEXIBILITY MAY BE ADVERSELY AFFECTED BY
RESTRICTIONS IN OUR CREDIT AGREEMENT AND BY OUR LEVERAGE AND VALERO ENERGY'S
LEVERAGE.
Our leverage is significant in relation to our consolidated partners' equity.
Our total outstanding debt as of March 31, 2003 was $383.9 million, representing
approximately 51.4% of our total capitalization.
Debt service obligations, restrictive covenants in our debt agreements and
maturities resulting from this leverage may adversely affect our ability to
finance future operations, pursue acquisitions and fund other capital needs and
Valero L.P.'s ability to pay cash distributions to unitholders, and may make our
results of operations more susceptible to adverse economic or operating
conditions. Our ability to repay, extend or refinance our existing debt
obligations and to obtain future credit will depend primarily on our operating
performance, which will be affected by general economic, financial, competitive,
legislative, regulatory, business and other factors, many of which are beyond
our control. Valero L.P. is prohibited from making cash distributions to its
unitholders during an event of default under any of our debt agreements.
We currently expect to meet our anticipated future cash requirements, including
scheduled debt repayments, through operating cash flows and the proceeds of one
or more future debt offerings or equity offerings by Valero L.P. However, our
ability to access the capital markets for future offerings may be limited by
adverse market conditions resulting from, among other things, general economic
conditions, contingencies and uncertainties, which are difficult to predict and
beyond our control. If we were unable to access the capital markets for future
offerings, we might be forced to seek extensions for some of our short-term
maturities or to refinance some of our debt obligations through bank credit, as
opposed to long-term public debt securities or equity securities of Valero L.P.
The price and terms upon which we might
24
receive such extensions or additional bank credit could be more onerous than
those contained in our existing debt agreements. Any such arrangement could, in
turn, increase the risk that our leverage may adversely affect our future
financial and operating flexibility.
Our revolving credit facility contains restrictive covenants that limit our
ability to incur additional debt and to engage in some types of transactions.
These limitations could reduce our ability to capitalize on business
opportunities that arise. Any subsequent refinancing of our current indebtedness
or any new indebtedness could have similar or greater restrictions.
Our revolving credit facility contains provisions relating to changes in
ownership. If these provisions are triggered, the outstanding debt may become
due. If that happens, we may not be able to pay the debt. Valero L.P.'s general
partner and its direct and indirect owners are not prohibited by the partnership
agreement from entering into a transaction that would trigger these
change-in-ownership provisions.
On March 6, 2003 Moody's Investors Service downgraded our 6.875% senior notes
due 2012 from Baa2 to Baa3, with a stable outlook. The downgrade was prompted by
Moody's downgrade of the ratings of Valero Energy's debt from Baa2 to Baa3 on
the same date. Moody's stated that our ratings were tied to Valero Energy's
ratings because of Valero Energy's ownership interest in and control of us and
Valero L.P., the strong operational links between Valero Energy and us and our
reliance on Valero Energy for over 90% of our revenues. On March 7, 2003,
Standard and Poor's affirmed the debt rating of our 6.875% senior notes at BBB,
with a negative outlook.
If one or more credit rating agencies were to further downgrade the outstanding
indebtedness of Valero Energy, we could experience a similar downgrade of our
outstanding indebtedness, an increase in our borrowing costs or difficulty
accessing capital markets. Such a development could adversely affect our ability
to finance acquisitions and refinance existing indebtedness.
WE MAY NOT BE ABLE TO GENERATE SUFFICIENT CASH FROM OPERATIONS TO ENABLE US TO
PAY THE REQUIRED PAYMENTS TO HOLDERS OF OUR NOTES.
Because the amount of cash we are able to pay to holders of our notes is
principally dependent on the amount of cash we are able to generate from
operations, which will fluctuate from quarter to quarter based on our
performance, we may not be able to pay all our debt for each quarter. The amount
of cash flow we generate from operations is in turn principally dependent on the
average daily volumes of crude oil and refined products transported through our
pipelines, the tariff rates, terminalling and storage tank fees we charge, and
the level of operating costs we incur.
Other factors affecting the actual amount of cash that we will have available
include the following:
- required principal and interest payments on our debt;
- the costs of acquisitions;
- restrictions contained in our debt instruments;
- issuances of debt securities;
- fluctuations in working capital;
- capital expenditures; and
- adjustments in reserves made by the general partner in its discretion.
25
Payments to holders of our notes are dependent primarily on cash flow, including
cash flow from financial reserves and working capital borrowings, and not solely
on profitability, which is affected by non-cash items. Therefore, we may make
payments during periods when we record losses and may not make payments during
periods when we record net income.
COST REIMBURSEMENTS AND FEES DUE THE GENERAL PARTNER OF VALERO L.P. AND ITS
AFFILIATES WILL BE SUBSTANTIAL AND COULD ADVERSELY AFFECT OUR ABILITY TO MAKE
PAYMENTS TO HOLDERS OF OUR NOTES.
We have agreed to pay Valero Energy an administrative fee that currently equals
$5.2 million on an annualized basis in exchange for providing corporate, general
and administrative services to us. Valero L.P.'s general partner, with approval
and consent of the conflicts committee of its general partner, will have the
right to increase the annual administrative fee by up to 1.5% each year, as
further adjusted for inflation, during the eight-year term of the services
agreement and may agree to further increases in connection with expansions of
our operations through the acquisition or construction of new logistics assets
that require additional administrative services. In addition to the
administrative fee, we have agreed to pay Valero Energy $3.5 million on an
annualized basis for services provided under the services and secondment
agreements we entered into in connection with the crude oil storage tank
contribution. During the first five years of these services and secondment
agreements, these fees may be increased by Valero Energy based on increases in
the consumer price index. After five years, these fees may be increased or
decreased to more accurately reflect the actual costs to Valero Energy for the
services being provided at that time. Additionally, we reimburse Valero Energy
for direct expenses it incurs to provide all other services to us (for example,
salaries for pipeline operations personnel). The direct expenses we reimbursed
to Valero Energy were approximately $13.8 million in 2002. The payment of the
annual administrative fee, the fees under the services and secondment agreements
and the reimbursement of direct expenses could adversely affect our ability to
make payments to holders of our notes.
WE DEPEND UPON VALERO ENERGY FOR THE CRUDE OIL AND REFINED PRODUCT TRANSPORTED
IN OUR PIPELINES AND HANDLED AT OUR TERMINALS AND STORAGE TANKS, AND ANY
REDUCTION IN THOSE QUANTITIES COULD REDUCE OUR ABILITY TO MAKE PAYMENTS TO
HOLDERS OF OUR NOTES.
Because of the geographic location of our pipelines, terminals, and storage
tanks, we depend almost exclusively upon Valero Energy to provide throughput for
our pipelines, terminals and storage tanks. If Valero Energy were to decrease
the throughput of crude oil and/or refined products for these assets for any
reason, we would experience great difficulty in replacing those lost barrels.
For example, during January and February of 2002, Valero Energy initiated
economic-based refinery production cuts as a result of significantly lower
refining margins industry-wide, resulting in a decrease in throughput barrels
and revenues for some of our pipelines. Because our operating costs are
primarily fixed, a reduction in throughput would result in not only a reduction
of revenues but a decline in net income and cash flow of similar or greater
magnitude, which would reduce our ability to make payments to holders of our
notes.
Valero Energy may reduce throughput in our pipelines and utilization of our
terminals and storage tanks either because of market conditions that affect
refineries generally or because of factors that specifically affect Valero
Energy. These conditions and factors include the following:
- a decrease in demand for refined products in the markets served by our
pipelines;
- a temporary or permanent decline in the ability of the Corpus Christi,
Texas City, Benicia, McKee, Three Rivers or Ardmore refineries to produce
refined products;
26
- a decision by Valero Energy to redirect refined products transported in
our pipelines to markets not served by our pipelines or to transport
crude oil by means other than our pipelines;
- a decision by Valero Energy to sell one or more of the Corpus Christi,
Texas City, Benicia, McKee, Three Rivers or Ardmore refineries to a
purchaser that elects not to use our assets that serve these refineries;
- a loss of customers by Valero Energy in the markets served by our
pipelines or a failure to gain additional customers in growing markets;
and
- the completion of competing refined product pipelines in the western,
southwestern, and Rocky Mountain market regions.
Valero Energy does not have an obligation to utilize our assets for a fixed
amount of volumes under either the existing throughput agreements or the
throughput agreements for the storage tank assets and South Texas pipelines and
terminals. Rather, the throughput commitments are generally a function of
production levels at the refineries. Accordingly, if refinery throughput is
suspended or reduced for any reason, Valero Energy's throughput commitments to
us with respect to our assets that serve that refinery will be suspended or
proportionately reduced. If, as a result, Valero Energy suspends or reduces its
usage of any of our assets, that could have a material adverse effect on us and
on our ability to make payments to holders of our notes. Operations at a
refinery could be partially or completely shut down, temporarily or permanently,
as a result of a number of circumstances, none of which are within our control.
PAYMENTS TO HOLDERS OF OUR NOTES COULD BE ADVERSELY AFFECTED BY A SIGNIFICANT
DECREASE IN DEMAND FOR REFINED PRODUCTS IN THE MARKETS SERVED BY OUR PIPELINES.
Any sustained decrease in demand for refined products in the markets served by
our pipelines could result in a significant reduction in throughput in our crude
oil and refined product pipelines and therefore in our cash flow, reducing our
ability to make payments to holders of our notes. Factors that could lead to a
decrease in market demand include:
- a recession or other adverse economic condition that results in lower
spending by consumers on gasoline, diesel, and travel;
- higher fuel taxes or other governmental or regulatory actions that
increase, directly or indirectly, the cost of gasoline or diesel;
- an increase in fuel economy, whether as a result of a shift by
consumers to more fuel-efficient vehicles or technological advances by
manufacturers;
- an increase in the market price of crude oil that leads to higher
refined product prices, which may reduce demand for gasoline or diesel.
Market prices for crude oil and refined products are subject to wide
fluctuation in response to changes in global and regional supply over
which neither we nor Valero Energy have any control, and recent
significant increases in the price of crude oil may result in a lower
demand for refined products; and
- the increased use of alternative fuel sources, such as battery-powered
engines. Several state and federal initiatives mandate this increased
use. For example, the Energy Policy Act of 1992 requires 75% of all new
vehicles purchased by federal agencies since 1999, 75% of all new
vehicles purchased by state governments since 2000, and 70% of all new
vehicles purchased for private fleets in 2006 and thereafter to use
alternative
27
fuels. Additionally, California has enacted a regulation requiring that
by the year 2003, 10% of all fleets delivered to California for sale be
zero-emissions vehicles.
OUR ABILITY TO MAKE PAYMENTS TO HOLDERS OF OUR NOTES COULD BE REDUCED BY A
MATERIAL DECLINE IN PRODUCTION BY ANY OF VALERO ENERGY'S REFINERIES THAT ARE
SERVED BY US.
Any significant curtailing of production at the Corpus Christi, Texas City,
Benicia, McKee, Three Rivers or Ardmore refineries could, by reducing throughput
in our pipelines, terminals and storage tanks, result in us realizing materially
lower levels of revenues and cash flow for the duration of the shutdown.
Operations at a refinery could be partially or completely shut down, temporarily
or permanently, as the result of a number of circumstances, none of which are
within our control, such as:
- scheduled turnarounds or unscheduled maintenance or catastrophic events
at a refinery;
- labor difficulties that result in a work stoppage or slowdown at a
refinery;
- environmental proceedings or other litigation that compel the cessation
of all or a portion of the operations at a refinery;
- increasingly stringent environmental regulations, such as the
Environmental Protection Agency's Gasoline Sulfur Control Requirements
and Diesel Fuel Sulfur Control Requirements which limit the concentration
of sulfur in gasoline and diesel;
- a disruption in the supply of crude oil to a refinery; and
- a governmental ban or other limitation on the use of an important
product of a refinery.
The magnitude of the effect on us of any shutdown will depend on the length of
the shutdown and the extent of the refinery operations affected by the shutdown.
Furthermore, we have no control over the factors that may lead to a shutdown or
the measures Valero Energy may take in response to a shutdown. Valero Energy
will make all decisions at the refineries concerning levels of production,
regulatory compliance, refinery turnarounds, labor relations, environmental
remediation, and capital expenditures.
VALERO ENERGY'S SEVEN-YEAR AGREEMENT TO USE OUR PIPELINES AND TERMINALS WILL BE
SUSPENDED IF MATERIAL CHANGES IN MARKET CONDITIONS OCCUR THAT HAVE A MATERIAL
ADVERSE EFFECT ON VALERO ENERGY, WHICH COULD ADVERSELY AFFECT OUR ABILITY TO
MAKE PAYMENTS TO HOLDERS OF OUR NOTES.
If market conditions with respect to the transportation of crude oil or refined
products or with respect to the end markets in which Valero Energy sells refined
products change in a material manner such that Valero Energy would suffer a
material adverse effect if it were to continue to use our pipelines and
terminals at the required levels, Valero Energy's obligation to us will be
suspended during the period of the change in market conditions to the extent
required to avoid the material adverse effect. Any suspension of Valero Energy's
obligation could adversely affect throughput in our pipelines and terminals and
therefore our ability to make payments to holders of our notes.
The concepts of a material change in market conditions and material adverse
effect on Valero Energy are not defined in the agreement. However, situations
that might constitute a material change in market conditions having a material
adverse effect on Valero Energy include the cost of transporting crude oil or
refined products by our pipelines becoming materially more
28
expensive than transporting crude oil or refined products by other means or a
material change in refinery profit that makes it materially more advantageous
for Valero Energy to shift large volumes of refined products from markets served
by our pipelines to pipelines retained by Valero Energy or owned by third
parties. Valero Energy may suspend obligations by presenting a certificate from
its chief financial officer that there has been a material change in market
conditions having a material adverse effect on Valero Energy. If we disagree
with Valero Energy, we have the right to refer the matter to an independent
accounting firm for resolution.
ANY LOSS BY VALERO ENERGY OF CUSTOMERS IN THE MARKETS SERVED BY OUR REFINED
PRODUCT PIPELINES MAY ADVERSELY AFFECT OUR ABILITY TO MAKE PAYMENTS TO HOLDERS
OF OUR NOTES.
Should Valero Energy's retail marketing efforts become unsuccessful and result
in declining or stagnant sales of its refined products, Valero Energy would have
to find other end-users for its refined products. It may not choose or be able
to replace lost branded retail sales through wholesale, spot, and exchange
sales. Any failure by Valero Energy to replace lost branded retail sales could
adversely affect throughput in our pipelines and, therefore, our cash flow and
ability to make payments to holders of our notes.
CONTINUED HIGH NATURAL GAS PRICES COULD ADVERSELY AFFECT OUR ABILITY TO MAKE
PAYMENTS TO HOLDERS OF OUR NOTES.
Power costs constitute a significant portion of our operating expenses. Power
costs represented approximately 31% of our operating expenses for the year ended
December 31, 2001 and 29% of our operating expenses for the year ended December
31, 2002. We use mainly electric power at our pipeline pump stations and at our
terminals and such electric power is furnished by various utility companies that
use primarily natural gas to generate electricity. Accordingly, our power costs
typically fluctuate with natural gas prices. The recent increases in natural gas
prices have caused our power costs to increase. If natural gas prices remain
high or increase further, our cash flows may be adversely affected, which could
adversely affect our ability to make payments to holders of our notes.
TERRORIST ATTACKS, THREATS OF WAR OR TERRORIST ATTACKS OR POLITICAL OR OTHER
DISRUPTIONS THAT LIMIT CRUDE OIL PRODUCTION COULD HAVE A MATERIAL ADVERSE EFFECT
ON OUR BUSINESS.
The terrorist attacks of September 11, 2001 and subsequent terrorist attacks and
unrest, have caused instability in the world's financial and commercial markets
and have contributed to volatility in prices for crude oil and natural gas.
Threats or rumors of war or other armed conflict may cause further uncertainties
and disruption to financial and commercial markets, further increase our energy
costs or limit deliveries of foreign crude oil which could cause a reduction in
throughput in our pipelines. Any of these conditions could have a material
adverse effect on our business and therefore on our ability to make payments to
holders of our notes.
In addition, political uncertainties and unrest in crude oil producing countries
may adversely impact Valero Energy's refinery production and, as a result,
throughput levels in our pipelines, terminals and storage tanks, which may
adversely impact our results of operations and financial condition. Events such
as the recent oil workers' strike in Venezuela may cause disruptions or
shutdowns in crude oil production, adversely impacting the availability of crude
oil and other feedstocks and causing crude oil and other feedstock economics to
be unfavorable. Primarily as a result of this strike, during January and the
first half of February of 2003, Valero Energy reduced production at several of
its refineries, including the Corpus Christi, Texas City, McKee,
29
Three Rivers and Ardmore refineries, by as much as 15%, which had an unfavorable
impact on the throughput levels in our pipelines, terminals and storage tanks
and our results of operations.
Since the September 11, 2001 terrorist attacks, the United States government has
issued warnings that energy assets, including our nation's pipeline
infrastructure and refineries, may be a target of future terrorist attacks. A
terrorist attack on our pipelines or on one of Valero Energy's refineries could
result in the loss of our personnel or assets and curtail or reduce our
throughput. As a result of turmoil in the insurance markets and significant
premium increases, neither we nor Valero Energy is fully insured against acts of
war or terrorism. Terrorist attacks involving assets of ours or Valero Energy's
could have a material adverse effect on our operations and result in losses
against which we would not be insured.
IF OUR ASSUMPTIONS CONCERNING POPULATION GROWTH ARE INACCURATE OR VALERO
ENERGY'S GROWTH STRATEGY IS NOT SUCCESSFUL, OUR ABILITY TO MAKE PAYMENTS TO
HOLDERS OF OUR NOTES MAY BE ADVERSELY AFFECTED.
Our growth strategy is dependent upon:
- the accuracy of our assumption that many of the markets that we serve
in the southwestern and Rocky Mountain regions of the United States will
experience population growth that is higher than the national average;
and
- the willingness and ability of Valero Energy to capture a share of this
additional demand in its existing markets and to identify and penetrate
new markets in the southwestern and Rocky Mountain regions of the United
States.
If our assumption about growth in market demand proves incorrect, Valero Energy
may not have any incentive to increase refinery capacity and production, shift
additional throughput to our pipelines, or shift volumes from our lower tariff
pipelines to our higher tariff pipelines, which would adversely affect our
growth strategy. Furthermore, Valero Energy is under no obligation to pursue a
growth strategy with respect to its business that favors us. If Valero Energy
chooses not, or is unable, to gain additional customers in new or existing
markets in the southwestern and Rocky Mountain regions of the United States, our
growth strategy would be adversely affected.
NEW COMPETING REFINED PRODUCT PIPELINES COULD CAUSE DOWNWARD PRESSURE ON MARKET
PRICES, AND AS A RESULT, VALERO ENERGY MIGHT DECREASE THE VOLUMES TRANSPORTED IN
OUR PIPELINES.
We are aware of a number of proposals or industry discussions regarding refined
product pipeline projects that, if or when undertaken and completed, could
adversely impact some of the most significant markets we serve. One of these
projects, the Longhorn Pipeline, will transport refined products from the Texas
Gulf Coast to El Paso, Texas. Most of the pipeline has been constructed, and it
has obtained regulatory approval and is expected to begin operation by the end
of 2003. The completion of the Longhorn Pipeline will increase the amount of
refined products available in the El Paso, Texas, New Mexico, and Arizona
markets, which could put downward pressure on refined product prices in those
markets. As a result, Valero Energy might not find it economically attractive to
maintain its current market share in those markets and might decrease the
throughput in our pipelines to those markets. In addition, two other refined
product pipeline projects have been announced, the Williams Pipeline project
from northwestern New Mexico to Salt Lake City, Utah and the Shell Pipeline
(formerly Equilon) project from Odessa, Texas to Bloomfield, New Mexico. It is
uncertain if and when these
30
proposed pipelines will commence operations. If completed, these proposed
pipeline projects could cause downward pressure on market prices in the New
Mexico and Arizona markets and could cause Valero Energy to decrease the volumes
transported in our pipelines.
IF ONE OR MORE OF OUR TARIFF RATES IS REDUCED, IF FUTURE INCREASES IN OUR TARIFF
RATES DO NOT ALLOW US TO RECOVER FUTURE INCREASES IN OUR COSTS, OR IF RATEMAKING
METHODOLOGIES ARE ALTERED, OUR ABILITY TO MAKE PAYMENTS TO HOLDERS OF OUR NOTES
MAY BE ADVERSELY AFFECTED.
Our interstate pipelines are subject to extensive regulation by the Federal
Energy Regulatory Commission under the Interstate Commerce Act. This Act allows
the FERC, shippers, and potential shippers to challenge our current rates that
are already effective and any proposed changes to those rates, as well as our
terms and conditions of service. The FERC may subject any proposed changes to
investigation and possible refund or reduce our current rates and order that we
pay reparations for overcharges caused by these rates during the two years prior
to the beginning of the FERC's investigation. In addition, a state commission
could also investigate our intrastate rates or our terms and conditions of
service on its own initiative or at the urging of a shipper or other interested
parties.
Valero Energy has agreed not to challenge, or cause others to challenge, our
tariff rates until 2008. This agreement does not prevent other shippers or
future shippers from challenging our tariff rates. At the end of this time,
Valero Energy will be free to challenge, or cause other parties to challenge,
our tariff rates. If Valero Energy or any third party is successful in
challenging our tariff rates, we may not be able to sustain our rates, which may
adversely affect our revenues. Cash available for payments to holders of our
notes could be materially reduced by a successful challenge to our tariff rates.
Despite Valero Energy's agreement not to challenge tariff rates, adverse market
conditions could nevertheless cause us to lower our tariff rates. Valero Energy
may find it economically advantageous to reduce the feedstock consumption or the
production of refined products at the Corpus Christi, Texas City, Benicia,
McKee, Three Rivers or Ardmore refineries or to transport refined products to
markets other than those we serve, any of which would have the effect of
reducing throughput in our pipelines. If a material change in market conditions
occurs, the pipelines and terminals usage agreement allows Valero Energy to
reduce throughput in our pipelines. Accordingly, we could be forced to lower our
tariff rates in an effort to make transportation through our pipelines
economically attractive to Valero Energy in order to maintain throughput
volumes. However, even a significant reduction of our tariff rates may not
provide enough economic incentive to Valero Energy to maintain historical
throughput levels.
Under the FERC's current ratemaking methodology, the maximum rate we may charge
with respect to interstate pipelines is adjusted up or down each year by the
percentage change in the producer price index for finished goods minus 1%. The
FERC's current methodology also allows us, in some circumstances, to change
rates based either on our cost of service, or market-based rates, or on a
settlement or agreement with all of our shippers, instead of the index-based
rate change. Under any of these methodologies, our ability to set rates based on
our true costs may be limited or delayed. If for any reason future increases in
our tariff rates are not sufficient to allow us to recover increases in our
costs, our ability to make payments to holders of our notes may be adversely
affected.
Potential changes to current ratemaking methods and procedures of the FERC and
state regulatory commissions may impact the federal and state regulations under
which we will
31
operate in the future. In addition, if the FERC's petroleum pipeline ratemaking
methodology were reviewed by a federal appeals court and changed, this change
could reduce our revenues and reduce cash available for payments to holders of
our notes.
A MATERIAL DECREASE IN THE SUPPLY, OR A MATERIAL INCREASE IN THE PRICE, OF CRUDE
OIL AVAILABLE FOR TRANSPORT THROUGH OUR PIPELINES AND THROUGH OUR STORAGE TANKS
TO VALERO ENERGY'S REFINERIES, COULD MATERIALLY REDUCE OUR ABILITY TO MAKE
PAYMENTS TO HOLDERS OF OUR NOTES.
The volume of crude oil we transport in our crude oil pipelines depends on the
availability of attractively priced crude oil produced in the areas accessible
to our crude oil pipelines, imported to our Corpus Christi storage facilities,
and received from common carrier pipelines outside of our areas of operations.
If Valero Energy does not replace volumes lost due to a material temporary or
permanent decrease in supply from any of these sources with volumes transported
in one of our other crude oil pipelines, we would experience an overall decline
in volumes of crude oil transported through our pipelines or through our storage
tanks and therefore a corresponding reduction in cash flow. Similarly, if there
were a material increase in the price of crude oil supplied from any of these
sources, either temporary or permanent, which caused Valero Energy to reduce its
shipments in the related crude oil pipelines or through our storage tanks, we
could experience a decline in volumes of crude oil transported in our pipelines
or through our storage tanks and therefore a corresponding reduction in cash
flow. Furthermore, a reduction of supply from our pipelines, either because of
the unavailability or high price of crude oil, would likely result in reduced
production of refined products at the Corpus Christi, McKee, Three Rivers, and
Ardmore refineries, causing a reduction in the volumes of refined products we
transport and our cash flow. Some of the local gathering systems that supply
crude oil that we transport to the McKee and Ardmore refineries are experiencing
a decline in production.
IF WE ARE NOT ABLE TO SUCCESSFULLY ACQUIRE, EXPAND AND BUILD PIPELINES AND OTHER
LOGISTICS ASSETS OR ATTRACT SHIPPERS IN ADDITION TO VALERO ENERGY, THE GROWTH OF
OUR BUSINESS WILL BE LIMITED.
We intend to grow our business in part through selective acquisitions,
expansions of pipelines, and construction of new pipelines, as well as by
attracting shippers in addition to Valero Energy. Each of these components has
uncertainties and risks associated with it, and none of these approaches may be
successful.
We may be unable to consummate any acquisitions or identify attractive
acquisition candidates in the future, to acquire assets or businesses on
economically acceptable terms, or to obtain financing for any acquisition on
satisfactory terms or at all. Valero Energy may not make any acquisitions that
would provide acquisition opportunities to us or, if these opportunities arose,
they may not be on terms attractive to us. Moreover, Valero Energy is not
obligated in all instances to offer to us logistics assets acquired as part of
an acquisition by Valero Energy. Valero Energy is also under no obligation to
sell to us any pipeline assets it owns.
Acquisitions involve numerous risks, including difficulties in the assimilation
of the operations, technologies, and services of the acquired companies or
business segments, the diversion of management's attention from other business
concerns, and the potential loss of key employees of the acquired businesses. As
a result, our business could be adversely affected by an acquisition.
The construction of a new pipeline or the expansion of an existing pipeline, by
adding additional horsepower or pump stations or by adding a second pipeline
along an existing pipeline, involves numerous regulatory, environmental,
political, and legal uncertainties beyond
32
our control. These projects may not be completed on schedule or at all or at the
budgeted cost. Moreover, our revenues may not increase immediately upon the
expenditure of funds on a particular project. For instance, if we build a new
pipeline, the construction will occur over an extended period of time and we
will not receive any material increases in revenues until after completion of
the project. This could have an adverse effect on our ability to make payments
to holders of our notes.
Once we increase our capacity through acquisitions, construction of new
pipelines, or expansion of existing pipelines, we may not be able to obtain or
sustain throughput to utilize the newly available capacity. The underutilization
of a recently acquired, constructed, or expanded pipeline could adversely affect
our ability to make payments to holders of our notes.
We may not be able to obtain financing of any acquisitions, expansions, and new
construction on satisfactory terms or at all. Furthermore, any debt we incur may
adversely affect our ability to make payments to holders of our notes.
We also plan to seek volumes of crude oil or refined products to transport on
behalf of shippers other than Valero Energy. However, volumes transported by us
for third parties have been very limited historically and because of our lack of
geographic relationship or interconnections with other refineries, we may not be
able to obtain material third party volumes.
ANY REDUCTION IN THE CAPACITY OF, OR THE ALLOCATIONS TO, OUR SHIPPERS IN
INTERCONNECTING THIRD PARTY PIPELINES COULD CAUSE A REDUCTION OF VOLUMES
TRANSPORTED IN OUR PIPELINES AND COULD NEGATIVELY AFFECT OUR ABILITY TO MAKE
PAYMENTS TO HOLDERS OF OUR NOTES.
Valero Energy and the other shippers in our pipelines are dependent upon
connections to third party pipelines both to receive crude oil from the Texas
Gulf Coast, the Permian Basin, and other areas and to deliver refined products
to outlying market areas in Arizona, the midwestern United States, and the Rocky
Mountain region of the United States. Any reduction of capacities in these
interconnecting pipelines due to testing, line repair, reduced operating
pressures, or other causes could result in reduced volumes transported in our
pipelines. Similarly, any reduction in the allocations to our shippers in these
interconnecting pipelines because additional shippers begin transporting volumes
through the pipelines could also result in reduced volumes transported in our
pipelines. Any reduction in volumes transported in our pipelines could adversely
affect our revenues and cash flows.
VALERO ENERGY AND ITS AFFILIATES HAVE CONFLICTS OF INTEREST AND LIMITED
FIDUCIARY RESPONSIBILITIES, WHICH MAY PERMIT THEM TO FAVOR THEIR OWN INTERESTS
TO THE DETRIMENT OF HOLDERS OF OUR NOTES.
Valero Energy and its affiliates currently have an aggregate 46.2% limited
partner interest in Valero L.P. and own and control both Valero L.P.'s general
partner and our general partner. Conflicts of interest may arise between Valero
Energy and its affiliates, including the general partners, on the one hand, and
us, on the other hand. As a result of these conflicts, the general partners may
favor their own interests and the interests of their affiliates over the
interests of holders of our notes. These conflicts include, among others, the
following situations:
- Valero Energy, as the primary shipper in our pipelines, has an economic
incentive to seek lower tariff rates for our pipelines, lower
terminalling fees and lower storage tank fees;
33
- Some officers of Valero Energy, who provide services to us, also devote
significant time to the businesses of Valero Energy and are compensated
by Valero Energy for the services rendered by them;
- Neither our partnership agreement, Valero L.P.'s partnership agreement
nor any other agreement requires Valero Energy to pursue a business
strategy that favors us or utilizes our assets, including any increase in
refinery production or pursuing or growing markets linked to our assets.
Valero Energy's directors and officers have a fiduciary duty to make
these decisions in the best interests of the stockholders of Valero
Energy;
- Valero Energy and its affiliates may engage in limited competition with
us;
- Valero Energy may use other transportation methods or providers for up
to 25% of the crude oil processed and refined products produced in the
Ardmore, McKee, and Three Rivers refineries and is not required to use
our pipelines if there is a material change in the market conditions for
the transportation of crude oil and refined products, or in the markets
for refined products served by these refineries, that has a material
adverse effect on Valero Energy;
- Valero L.P.'s general partner determines the amount and timing of asset
purchases and sales, capital expenditures, borrowings, issuance of
additional limited partner interests in Valero L.P. and reserves, each of
which can affect the amount of cash that is paid to holders of our notes;
- Valero L.P.'s general partner determines which costs incurred by Valero
Energy and its affiliates are reimbursable by us;
- Neither our partnership agreement nor Valero L.P.'s partnership
agreement restricts Valero L.P.'s general partner from causing us to pay
the general partner or its affiliates for any services rendered on terms
that are fair and reasonable to us or entering into additional
contractual arrangements with any of these entities on our behalf;
- Valero L.P.'s general partner controls the enforcement of obligations
owed to us by Valero L.P.'s general partner and its affiliates, including
under the storage tank asset handling and throughput agreement, the
throughput commitment agreement, the terminalling agreements and the
pipelines and terminals usage agreement with Valero Energy;
- Valero L.P.'s general partner decides whether to retain separate
counsel, accountants, or others to perform services for us; and
- In some instances, Valero L.P.'s general partner may cause us to borrow
funds in order to permit the payment of distributions, even if the
purpose or effect of the borrowing is to make a distribution on the
subordinated units or to make incentive distributions or to hasten the
expiration of the subordination period.
Valero L.P.'s partnership agreement gives the general partner broad discretion
in establishing financial reserves for the proper conduct of our business
including interest payments.
34
THE TRANSPORTATION AND STORAGE OF CRUDE OIL AND REFINED PRODUCTS IS SUBJECT TO
FEDERAL AND STATE LAWS RELATING TO ENVIRONMENTAL PROTECTION AND OPERATIONAL
SAFETY AND RESULTS IN A RISK THAT CRUDE OIL AND OTHER HYDROCARBONS MAY BE
RELEASED INTO THE ENVIRONMENT, POTENTIALLY CAUSING SUBSTANTIAL EXPENDITURES THAT
COULD LIMIT OUR ABILITY TO MAKE PAYMENTS TO HOLDERS OF OUR NOTES.
Our operations are subject to federal and state laws and regulations relating to
environmental protection and operational safety. Risks of substantial costs and
liabilities are inherent in pipeline, gathering, storage, and terminalling
operations, and we may incur these costs and liabilities in the future.
Moreover, it is possible that other developments, such as increasingly strict
environmental and safety laws, regulations and enforcement policies of those
laws, and claims for damages to property or persons resulting from our
operations, could result in substantial costs and liabilities to us. If we were
not able to recover these resulting costs through insurance or increased
revenues, payments to holders of our notes could be adversely affected. The
transportation and storage of crude oil and refined products results in a risk
of a sudden or gradual release of crude oil or refined products into the
environment, potentially causing substantial expenditures for a response action,
significant government penalties, liability for natural resources damages to
government agencies, personal injury, or property damages to private parties and
significant business interruption.
OUR FORMER USE OF ARTHUR ANDERSEN LLP AS OUR INDEPENDENT PUBLIC ACCOUNTANTS MAY
LIMIT YOUR ABILITY TO SEEK POTENTIAL RECOVERIES FROM THEM RELATED TO THEIR WORK.
Arthur Andersen LLP, independent public accountants, audited our financial
statements as of December 31, 2000 and for the years ended December 31, 2000 and
2001 and incorporated by reference in this prospectus. On March 22, 2002, we
dismissed Arthur Andersen and engaged Ernst & Young LLP. In June 2002, Arthur
Andersen was convicted on a federal obstruction of justice charge.
Moreover, Arthur Andersen has ceased operations. As a result, any recovery you
may have from Arthur Andersen related to any claims that you may assert related
to the financial statements audited by Arthur Andersen, misstatements or
omissions, if any, in this prospectus, may be limited by the financial
circumstances of Arthur Andersen. Should it declare bankruptcy or avail itself
of other forms of protection from creditors, it is unlikely you would be able to
recover damages from Arthur Andersen for any claim against them.
35
USE OF PROCEEDS
The exchange offer is intended to satisfy our obligations under the registration
rights agreement. We will not receive any cash proceeds from the issuance of the
exchange notes in the exchange offer. In consideration for issuing the exchange
notes as contemplated by this prospectus, we will receive outstanding notes in a
like principal amount. The form and terms of the exchange notes are identical in
all respects to the form and terms of the outstanding notes, except the exchange
notes do not include certain transfer restrictions, registration rights or
provisions for additional interest. Outstanding notes surrendered in exchange
for the exchange notes will be retired and cancelled and will not be reissued.
Accordingly, the issuance of the exchange notes will not result in any change in
our outstanding indebtedness.
On March 18, 2003, we received net proceeds from the sale of the outstanding
notes of $247.8 million after deducting the issue discount and the initial
purchasers' discounts. We used such net proceeds, together with the proceeds
from the common unit offering by Valero L.P. of approximately $202.3 million,
and from the related capital contribution of Valero L.P.'s general partner of
approximately $4.3 million, $25 million of borrowings under our revolving credit
facility and $9.6 million cash on hand to finance the following transactions
with Valero Energy:
- $200 million for the crude oil storage tanks contribution;
- $150 million for the South Texas pipeline system contribution;
- $134.1 million for the redemption of common units and $2.9 million for
the related redemption of a portion of the general partner interest; and
- an estimated $2 million for aggregate transaction costs.
RATIO OF EARNINGS TO FIXED CHARGES
The ratio of earnings to fixed charges for each of the periods indicated is as
follows:
--------------------------------------------------------------------------------------------------
YEARS ENDED THREE MONTHS ENDED
DECEMBER 31, MARCH 31,
1998 1999 2000 2001 2002 2003
--------------------------------------------------------------------------------------------------
Ratio of earnings to fixed charges..... 59.5X 70.8X 8.7X 11.8X 11.2X 5.9X
--------------------------------------------------------------------------------------------------
For purposes of calculating the ratio of earnings to fixed charges:
- "fixed charges" represent interest expense (including amounts
capitalized and amortization of debt costs) and the portion of rental
expense representing the interest factor; and
- "earnings" represent the aggregate of pre-tax income from continuing
operations (before adjustment from equity investees), fixed charges,
amortization of capitalized interest and distributions from equity
investees, less capitalized interest.
36
CAPITALIZATION
The following table shows our historical capitalization as of March 31, 2003.
This table should be read together with our consolidated financial statements
and the accompanying notes included elsewhere in this prospectus.
----------------------------------------------------------------------------
(UNAUDITED, IN THOUSANDS) MARCH 31, 2003
----------------------------------------------------------------------------
Revolving credit facility................................... $25,000
Long-term debt, including current portion................... 9,660
6.875% Senior Notes due 2012................................ 99,624
6.05% Senior Notes due 2013................................. 249,607
--------------
Total debt............................................ 383,891
--------------
Partners' Equity:
Common units............................................. 238,886
Subordinated units....................................... 116,048
General partner's equity................................. 7,656
--------------
Total partners' equity................................... 362,590
--------------
Total capitalization.................................. $746,481
----------------------------------------------------------------------------
37
DESCRIPTION OF OTHER INDEBTEDNESS
AMENDED REVOLVING CREDIT FACILITY
On March 6, 2003, we amended our five-year revolving credit facility, increasing
its credit limit to $175 million. The revolving credit facility expires on
January 15, 2006. At our option, borrowings under the revolving credit facility
bear interest based on either an alternative base rate or LIBOR. We also incur a
facility fee on the aggregate commitments of lenders under the revolving credit
facility, whether used or unused. Borrowings under the revolving credit facility
may be used for working capital and general partnership purposes; however,
borrowings to fund distributions to Valero L.P.'s unitholders are limited to $40
million. All borrowings designated as borrowings subject to the $40 million
sublimit must be reduced to zero for a period of at least 15 consecutive days
during each fiscal year. The revolving credit facility also allows us to issue
letters of credit for an aggregate of $75 million. The borrowings under the
revolving credit facility are unsecured and rank equally with all of our
outstanding unsecured and unsubordinated debt. The revolving credit facility is
irrevocably and unconditionally guaranteed by Valero L.P. The guarantee by
Valero L.P. ranks equally with all of its existing and future unsecured senior
obligations.
The revolving credit facility requires that we maintain certain financial
ratios, including a Consolidated Debt Coverage Ratio (debt to EBIDTA), as
defined in the revolving credit facility, not exceeding 4.0 to 1.0. The
revolving credit facility includes other restrictive covenants, including a
prohibition on distributions by us to Valero L.P. if any default, as defined in
the revolving credit facility, exists or would result from the distribution. The
revolving credit facility also includes a change-in-control provision, which
requires that Valero Energy owns, directly or indirectly, 51% of the general
partner interests in Valero L.P., or Valero Energy and/or Valero L.P. own at
least 100% of our general partner interest or at least 100% of our outstanding
limited partner interests. Management believes that we are in compliance with
all of these ratios and covenants.
6.875% SENIOR NOTES DUE 2012
On July 15, 2002, we completed the sale of $100 million aggregate principal
amount of 6.875% senior notes. The 6.875% senior notes are due July 15, 2012
with interest payable on January 15 and July 15 of each year. The 6.875% senior
notes do not have sinking fund requirements. The 6.875% senior notes rank
equally with all our other existing senior unsecured indebtedness, including the
notes and indebtedness under the revolving credit facility. The 6.875% senior
notes contain restrictions on our ability to incur secured indebtedness unless
the same security is also provided for the benefit of holders of those notes. In
addition, they limit our ability to incur indebtedness secured by certain liens
and to engage in certain sale-leaseback transactions. The 6.875% senior notes
are irrevocably and unconditionally guaranteed on a senior unsecured basis by
Valero L.P. The guarantee by Valero L.P. ranks equally with all of its existing
and future unsecured senior obligations.
38
At our option, the 6.875% senior notes may be redeemed in whole or in part at
any time at a redemption price, which includes a make-whole premium, plus
accrued and unpaid interest to the redemption date. The 6.875% senior notes also
include a change-in-control provision, which requires that Valero Energy or an
investment grade entity owns and controls 51% of the general partner of Valero
L.P., at least 100% of our general partner interest or at least 100% of our
limited partner interests. Otherwise we must offer to purchase 6.875% senior
notes at a price equal to 100% of their outstanding principal balance plus
accrued interest through the date of purchase.
39
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INTRODUCTION
The following discussion and analysis of our results of operations and financial
condition should be read in conjunction with "Business," "Summary financial and
operating data" and our financial statements and supplementary data beginning on
page F-1 of this prospectus.
Effective January 7, 2003, we acquired an asphalt terminal located in Pittsburg,
California from Telfer for $15.1 million in cash. The statement of income for
the three months ended March 31, 2003 includes the results of operations of the
Telfer asphalt terminal from January 7, 2003 through March 31, 2003.
Effective March 18, 2003, Valero L.P. consummated a public offering of common
units resulting in total proceeds after expenses of $204.3 million (including
the general partner contribution), we issued 6.05% senior notes in a private
placement resulting in total proceeds of $247.8 million and we borrowed $25.0
million under our revolving credit facility. These proceeds, along with cash on
hand, were used to redeem 3,809,750 common units owned by UDS Logistics, LLC and
a pro rata portion of general partner interest for $137.0 million and to pay
$350 million related to the contribution by Valero Energy to us of the South
Texas pipeline system (South Texas pipelines and terminals) and the crude oil
storage tanks. The consolidated statement of income for the three months ended
March 31, 2003 includes the results of operations of the South Texas pipelines
and terminals and the crude oil storage tanks from March 19, 2003 through March
31, 2003, and includes the impact of the debt and equity financings related to
the above acquisitions and redemption.
SEASONALITY
Our operating results are affected by factors affecting the business of Valero
Energy, including refinery utilization rates, crude oil prices, the demand for
refined products and industry refining capacity.
The throughput of crude oil that we transport is directly affected by the level
of, and refiner demand for, crude oil in markets served directly by our crude
oil pipelines and crude oil storage tanks. Crude oil inventories tend to
increase due to overproduction of crude oil by producing companies and countries
and planned maintenance turnaround activity by refiners.
The throughput of the refined products that we transport is directly affected by
the level of, and user demand for, refined products in the markets served
directly or indirectly by our refined product pipelines. Demand for gasoline in
most markets peaks during the summer driving season, which extends from May
through September, and declines during the fall and winter months. Demand for
gasoline in the Arizona market, however, generally is higher in the winter
months than summer months due to greater tourist activity and second home usage
in the winter months.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 2002 COMPARED TO THREE MONTHS ENDED MARCH 31, 2003
The results of operations for the three months ended March 31, 2002 presented in
the following table are derived from the consolidated statement of income for
Valero L.P. and subsidiaries for the three months ended March 31, 2002, which
includes the Wichita Falls Business for the month ended January 31, 2002 prior
to its actual acquisition on February 1,
40
2002. The results of operations for the three months ended March 31, 2003
presented in the following table are derived from the consolidated statement of
income for Valero L.P. and subsidiaries for the three months ended March 31,
2003, which includes the results of operations of the South Texas pipelines and
terminals and the crude oil storage tanks for the period from March 19, 2003
through March 31, 2003.
FINANCIAL DATA:
---------------------------------------------------------------------------------------
THREE MONTHS ENDED
MARCH 31,
-------------------------
(IN THOUSANDS) 2002 2003
---------------------------------------------------------------------------------------
STATEMENT OF INCOME DATA:
REVENUES.................................................... $ 26,024 $ 31,816
-------------------------
COSTS AND EXPENSES:
Operating expenses....................................... 9,184 11,661
General and administrative expenses...................... 1,788 1,844
Depreciation and amortization............................ 4,356 4,283
-------------------------
TOTAL COSTS AND EXPENSES........................ 15,328 17,788
-------------------------
OPERATING INCOME............................................ 10,696 14,028
Equity income from Skelly-Belvieu Pipeline Company....... 678 731
Interest expense, net.................................... (556) (2,377)
-------------------------
INCOME BEFORE INCOME TAX EXPENSE............................ 10,818 12,382
Income tax expense....................................... 395 --
-------------------------
NET INCOME.................................................. 10,423 12,382
Less net income applicable to general partner............ (195) (624)
Less net income related to the Wichita Falls Business for
the month ended January 31, 2002...................... (650) --
-------------------------
NET INCOME APPLICABLE TO THE LIMITED PARTNERS' INTEREST..... $ 9,578 $ 11,758
-------------------------
Net income per unit applicable to limited partners.......... $ 0.50 $ 0.60
-------------------------
Weighted average number of limited partnership units
outstanding............................................... 19,241,617 19,556,486
-------------------------
Earnings before interest, taxes and depreciation and
amortization (EBITDA) (a)................................. $ 15,730 $ 19,042
-------------------------
Distributable cash flow (a)................................. $ 14,478 $ 15,490
---------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------
DECEMBER 31, MARCH 31,
2002 2003
-----------------------------------------------------------------------------------------
BALANCE SHEET DATA:
Long-term debt, including current portion (1)............... $ 109,658 $ 383,891
Partners' equity (2)........................................ 293,895 362,590
Debt-to-capitalization ratio (1)/((1)+(2)).................. 27.2% 51.4%
-----------------------------------------------------------------------------------------
41
(a) The following is a reconciliation of income before income tax expense to
EBITDA and distributable cash flow.
---------------------------------------------------------------------------------
THREE MONTHS ENDED
MARCH 31,
-------------------
(IN THOUSANDS) 2002 2003
---------------------------------------------------------------------------------
INCOME BEFORE INCOME TAX EXPENSE............................ $ 10,818 $ 12,382
Plus interest expense, net............................... 556 2,377
Plus depreciation and amortization....................... 4,356 4,283
-------------------
EBITDA...................................................... 15,730 19,042
Less equity income from Skelly-Belvieu Pipeline Company... (678) (731)
Less interest expense, net................................ (556) (2,377)
Less maintenance capital expenditures..................... (789) (1,192)
Plus distributions from Skelly-Belvieu Pipeline Company... 771 748
-------------------
DISTRIBUTABLE CASH FLOW..................................... $ 14,478 $ 15,490
---------------------------------------------------------------------------------
For a discussion regarding our rationale for utilizing the non-GAAP measures
of EBITDA and distributable cash flow, please see "Summary -- Summary financial
and operating data."
OPERATING DATA:
The following table reflects total throughput, on a barrels per day basis, for
our crude oil pipelines, refined product pipelines, refined product terminals
and crude oil storage tanks for the three months ended March 31, 2002 and 2003.
On March 18, 2003, we acquired the South Texas pipelines and terminals and the
crude oil storage tanks from Valero Energy. The throughput related to these
newly acquired assets included in the table below is calculated based on
throughput for the period from March 19, 2003 to March 31, 2003 divided by the
90 days in the quarter.
------------------------------------------------------------------------------------------
THREE MONTHS
ENDED MARCH 31,
----------------------------
(BARRELS PER DAY) 2002 2003 % CHANGE
------------------------------------------------------------------------------------------
Crude oil pipeline throughput............................... 312,387 332,760 7%
----------------------------
Refined product pipeline throughput......................... 262,872 296,816 13%
----------------------------
Refined product terminal throughput......................... 175,816 176,797 1%
----------------------------
Crude oil storage tank throughput........................... N/A 77,458 N/A
------------------------------------------------------------------------------------------
Net income for the three months ended March 31, 2003 was $12.4 million as
compared to $10.4 million for the three months ended March 31, 2002. The
increase of $2.0 million was primarily attributable to the additional net income
generated from the higher throughput volumes in the crude oil pipelines and the
acquisition of the South Texas pipelines and terminals and the crude oil storage
tanks on March 18, 2003. Net income generated by the acquired assets from March
19, 2003 through March 31, 2003 totaled $1.1 million. The increase in net income
resulting from the above factors was partially offset by the impact of lower
throughput barrels in our other refined product pipelines and terminals
resulting from economic-based refinery production cuts at Valero Energy's McKee
and Ardmore refineries and
42
lower throughput barrels at Valero Energy's Three Rivers refinery related to the
oil workers' strike in Venezuela.
Revenues for the three months ended March 31, 2003 were $31.8 million as
compared to $26.0 million for the three months ended March 31, 2002, an increase
of 22% or $5.8 million. The following discusses significant revenue increases
and decreases:
- revenues for the Corpus Christi to Three Rivers, Ringgold to Wasson and
Wichita Falls to McKee crude oil pipelines increased a combined $1.4
million for the three months ended March 31, 2003 as compared to 2002 due
to a combined 19% increase in throughput barrels. During the first
quarter of 2002, Valero Energy initiated economic-based refinery
production cuts at each of the McKee, Ardmore and Three Rivers refineries
and performed refinery turnarounds at the McKee and Three Rivers
refineries. During January and early February of 2003, Valero Energy
again initiated economic-based refinery production cuts; however,
refining fundamentals improved significantly by mid-February and as a
result Valero Energy maximized production at each of these refineries for
the remainder of the first quarter of 2003. In addition, the only major
refinery turnaround project during the first quarter of 2003 was at the
Ardmore refinery, which began in the last half of March and continued
through late April 2003;
- revenues for the crude hydrogen pipeline, which was acquired on May 29,
2002, were $0.4 million for the three months ended March 31, 2003;
- revenues for the South Texas pipelines from March 19, 2003 to March 31,
2003 totaled $0.9 million based on throughput of 1,974,956 barrels;
- revenues for our other refined product pipelines increased $0.4 million
primarily due to increased throughput barrels in the Three Rivers refined
product pipelines for the three months ended March 31, 2003 as compared
to 2002. Revenues and throughput barrels in the McKee and Ardmore refined
product pipelines for the three months ended March 31, 2003 were
comparable to 2002;
- revenues for the refined product terminals, excluding the Telfer
asphalt terminal and the South Texas terminals, increased $0.2 million
primarily due to an increase in the additive blending fee from $0.04 per
barrel to $0.12 per barrel effective January 1, 2003, as throughput
barrels in refined product terminals decreased 5%. Revenues for the
Telfer asphalt terminal, which was acquired on January 7, 2003, were $1.0
million and throughput was 201,350 barrels for the three months ended
March 31, 2003. Revenues for the South Texas terminals from March 19,
2003 through March 31, 2003 totaled $0.2 million based on throughput of
704,945 barrels; and
- revenues for the Crude Oil storage tanks from March 19, 2003 through
March 31, 2003 totaled $1.4 million based on throughput of 6,971,237
barrels.
Operating expenses increased $2.5 million for the three months ended
March 31, 2003 as compared to the three months ended March 31, 2002
primarily due to the following items:
- the acquisition of the South Texas pipelines and terminals increased
operating expenses by $0.5 million;
- the acquisitions of the Telfer asphalt terminal and crude hydrogen
pipeline increased operating expenses by $0.4 million;
- the acquisition of the crude oil storage tanks increased operating
expenses by $0.2 million;
43
- employee benefit expenses increased as a result of higher accruals for
incentive compensation as a result of higher net income and increases in
medical and pension costs; and
- maintenance expenses, excluding the impact of acquisitions, increased
$1.1 million due primarily to the increased number of pipeline and
terminal integrity inspections performed during the first quarter of 2003
as compared to 2002 and increased chemical expenses related to drag
reducing agents and gasoline additives.
General and administrative expenses were as follows:
-------------------------------------------------------------------------------
THREE MONTHS
ENDED MARCH 31,
-----------------
(IN THOUSANDS) 2002 2003
-------------------------------------------------------------------------------
Services Agreement.......................................... $ 1,300 $1,300
Third party expenses........................................ 604 706
General and administrative expenses related to the Wichita
Falls Business for the month ended January 31, 2002....... 40 --
Reimbursement from partners on jointly owned pipelines...... (156) (162)
-----------------
General and administrative expenses...................... $ 1,788 $1,844
-------------------------------------------------------------------------------
General and administrative expenses increased 3% for the three months ended
March 31, 2003 as compared to the three months ended March 31, 2002 due
primarily to an increase in general and administrative costs from third parties.
In addition to the annual fee charged by Valero Energy to us for general and
administrative services, Valero L.P. incurs costs (e.g., unitholder annual
reports, preparation and mailing of income tax reports to unitholders and
director fees) as a result of being a publicly held entity.
Depreciation and amortization expense decreased slightly during the three months
ended March 31, 2003 as compared to the three months ended March 31, 2002 as
certain assets became fully depreciated and no depreciation was recognized for
the South Texas pipelines and terminals and the crude oil storage tanks acquired
on March 18, 2003. We begin depreciating assets in the month following
acquisition.
Equity income from Skelly-Belvieu Pipeline Company for the three months ended
March 31, 2003 increased 8% as compared to the three months ended March 31, 2002
due to a 6% increase in throughput barrels in the Skellytown to Mont Belvieu
refined product pipeline.
Interest expense for the three months ended March 31, 2003 was $2.4 million, net
of interest income and capitalized interest of $0.1 million, as compared to $0.6
million of interest expense, net of interest income and capitalized interest of
$0.1 million for the three months ended March 31, 2002. Interest expense was
higher in 2003 due to interest expense related to the $100.0 million of 6.875%
senior notes issued in July of 2002, and interest expense related to the private
placement of $250.0 million of 6.05% senior notes and $25.0 million of
borrowings under the revolving credit facility commencing March 18, 2003. The
2003 borrowings were used to fund the common unit redemption and a portion of
the South Texas pipelines and terminals acquisition, all of which closed in
March 2003. The 2002 borrowings were used to repay borrowings under the
variable-rate revolving credit facility. Partially offsetting the higher
interest expense in 2003 from the above factors is the effect of interest rate
swaps entered into during the three months ended March 31, 2003. We entered into
$105.0 million (notional amount) of interest rate swaps, which effectively
convert $105.0 million of fixed-rate debt to
44
variable-rate debt, reducing the effective interest rate on such debt by
approximately 300 basis points based on current rates.
Income tax expense for the three months ended March 31, 2002 represents income
tax expense incurred by the Wichita Falls Business during the month ended
January 31, 2002, prior to the transfer of the Wichita Falls Business to us.
Net income for the three months ended March 31, 2002 includes $0.7 million of
net income related to the Wichita Falls Business for the month ended January 31,
2002, which was allocated entirely to the general partner. Net income applicable
to the general partner for the three months ended March 31, 2003 includes the
effect of $0.4 million of incentive distributions.
YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2002
The results of operations for the year ended December 31, 2001 presented in the
following table are derived from the consolidated statement of income for Valero
L.P. and subsidiaries for the period from April 16, 2001 through December 31,
2001 and the combined statement of income for Valero L.P. and Valero Logistics
for the period from January 1, 2001 through April 15, 2001, which in this
discussion are combined and referred to as the year ended December 31, 2001. The
results of operations for the year ended December 31, 2002 presented in the
following table are derived from the consolidated statement of income for Valero
L.P. and subsidiaries for the year ended December 31, 2002, which includes the
Wichita Falls Business for the month ended January 31, 2002 prior to its actual
acquisition on February 1, 2002.
45
FINANCIAL DATA:
----------------------------------------------------------------------------------
YEARS ENDED
DECEMBER 31,
--------------------
(IN THOUSANDS) 2001 2002
----------------------------------------------------------------------------------
STATEMENT OF INCOME DATA:
REVENUES.................................................... $ 98,827 $ 118,458
--------------------
COSTS AND EXPENSES:
Operating expenses....................................... 33,583 37,838
General and administrative expenses...................... 5,349 6,950
Depreciation and amortization............................ 13,390 16,440
--------------------
TOTAL COSTS AND EXPENSES.............................. 52,322 61,228
--------------------
OPERATING INCOME............................................ 46,505 57,230
Equity income from Skelly-Belvieu Pipeline Company....... 3,179 3,188
Interest expense, net.................................... (3,811) (4,880)
--------------------
INCOME BEFORE INCOME TAX EXPENSE............................ 45,873 55,538
Income tax expense....................................... -- 395
--------------------
NET INCOME.................................................. 45,873 55,143
Less net income applicable to general partner............ (715) (2,187)
Less net income related to the period from January 1,
2001 through April 15, 2001 and net income related to
the Wichita Falls Business for the month ended January
31, 2002............................................... (10,126) (650)
--------------------
NET INCOME APPLICABLE TO THE LIMITED PARTNERS' INTEREST..... $ 35,032 $ 52,306
----------------------------------------------------------------------------------
46
OPERATING DATA:
The following table reflects throughput barrels for our crude oil and refined
product pipelines and the total throughput for all of our refined product
terminals for the years ended December 31, 2001 and 2002.
------------------------------------------------------------------------------------------
YEARS ENDED
DECEMBER 31,
------------------------------
(IN THOUSANDS OF BARRELS) 2001 2002 % CHANGE
------------------------------------------------------------------------------------------
Crude oil pipeline throughput:
Dixon to McKee......................................... 20,403 15,970 (22%)
Wichita Falls to McKee................................. -- 26,313 --
Wasson to Ardmore...................................... 29,612 27,294 (8%)
Ringgold to Wasson..................................... 13,788 12,630 (8%)
Corpus Christi to Three Rivers......................... 28,689 25,075 (13%)
Other crude oil pipelines.............................. 18,399 19,746 7%
-------------------
Total crude oil pipelines........................... 110,891 127,028 15%
-------------------
Refined product pipeline throughput:
McKee to Colorado Springs to Denver.................... 8,838 7,405 (16%)
McKee to El Paso....................................... 24,285 24,121 (1%)
McKee to Amarillo to Abernathy......................... 13,747 13,304 (3%)
Amarillo to Albuquerque................................ 4,613 4,022 (13%)
McKee to Denver........................................ 4,370 4,303 (2%)
Ardmore to Wynnewood................................... 20,835 19,780 (5%)
Three Rivers to Laredo................................. 4,479 4,711 5%
Three Rivers to San Antonio............................ 10,175 9,322 (8%)
Other refined product pipelines........................ 21,095 20,873 (1%)
-------------------
Total refined product pipelines..................... 112,437 107,841 (4%)
-------------------
Refined product terminal throughput....................... 64,522 64,079 (1%)
------------------------------------------------------------------------------------------
Net income for the year ended December 31, 2002 was $55.1 million as compared to
$45.9 million for the year ended December 31, 2001. The increase of $9.2 million
was primarily attributable to the additional net income generated from the four
acquisitions completed since July of 2001 (the Southlake refined product
terminal, the Ringgold crude oil storage facility, the Wichita Falls Business
and the crude hydrogen pipeline). The increase in net income was partially
offset by the impact of lower throughput barrels in 2002 resulting from
economic-based refinery production cuts at Valero Energy's McKee, Three Rivers
and Ardmore refineries served by our pipelines and terminals. Valero Energy
initiated economic-based refinery production cuts as a result of significantly
lower refinery margins industry-wide in the first half of 2002.
Revenues for the year ended December 31, 2002 were $118.5 million as compared to
$98.8 million for the year ended December 31, 2001, an increase of 20% or $19.7
million. This increase was due primarily to the addition of the Wichita Falls
crude oil pipeline revenues, the Southlake refined product terminal revenues and
the crude hydrogen revenues, partially offset
47
by decreases in revenues on most of our other pipelines. The following discusses
significant revenue increases and decreases by pipeline:
- revenues for the year ended December 31, 2002 include $22.9 million of
revenues related to the Wichita Falls to McKee crude oil pipeline,
including $1.7 million of revenues (2,000,000 barrels of throughput)
related to the month ended January 31, 2002, which was included in our
revenues for 2002 as a result of the common control transfer between
Valero Energy and us;
- revenues for the McKee to Colorado Springs to Denver refined product
pipeline and the Amarillo to Albuquerque refined product pipeline
decreased $2.6 million due to a combined 15% decrease in throughput
barrels, resulting from reduced production at the McKee refinery. During
the first quarter of 2002, Valero Energy completed several planned
refinery turnaround projects at the McKee refinery which significantly
reduced production and thus reduced throughput barrels in our pipelines;
- revenues for the Corpus Christi to Three Rivers crude oil pipeline
decreased $2.4 million due to a 13% decrease in throughput barrels, as a
result of reduced production at the Three Rivers refinery. During the
first half of 2002, Valero Energy initiated economic-based refinery
production cuts at the Three Rivers refinery. In addition, during the
first quarter of 2002, Valero Energy completed several refinery
turnaround projects resulting in a partial shutdown of the refinery and
reduced throughput barrels in our pipelines;
- revenues for the crude hydrogen pipeline, which was acquired on May 29,
2002, were $0.8 million for the seven months ended December 31, 2002;
- revenues for the Ringgold to Wasson crude oil pipeline increased $0.7
million, despite an 8% decrease in throughput barrels resulting from
reduced production at the Ardmore refinery, due to a tariff rate increase
effective December 1, 2001 related to the Ringgold crude oil storage
facility acquisition;
- revenues for the Dixon to McKee crude oil pipeline decreased $0.4
million due to a 22% decrease in throughput barrels, as a result of
Valero Energy supplying greater quantities of crude oil to the McKee
refinery from the Wichita Falls to McKee crude oil pipeline during 2002
instead of gathering crude oil barrels near Dixon; and
- revenues for the refined product terminals, excluding the Southlake
terminal, decreased $0.7 million primarily due to a decrease in revenues
for the Corpus Christi refined product terminal. In 2002, as a result of
Valero Energy's economic-based refinery production cuts at the Three
Rivers refinery, lower volumes of benzene, toluene and xylene were
transported to Corpus Christi. Revenues for the Southlake terminal, which
was acquired on July 1, 2001, were $2.3 million and throughput was
7,959,000 barrels for the year ended December 31, 2002 as compared to
revenues of $1.3 million and throughput of 4,601,000 barrels for the six
months ended December 31, 2001.
Operating expenses increased $4.3 million for the year ended December 31, 2002
as compared to the year ended December 31, 2001 primarily due to the following
items:
- the acquisitions of the Wichita Falls Business, the Southlake refined
product terminal and the crude hydrogen pipeline increased operating
expenses by $6.6 million;
48
- insurance expense, excluding the impact of acquisitions, increased by
$0.3 million, or 45%, due to higher rates charged for the property and
liability policies we have in place;
- utility expenses, excluding the impact of acquisitions, decreased by
$2.3 million, or 22%, due to lower electricity rates as a result of lower
natural gas prices, participation in Texas deregulation, negotiating
lower rates with utility providers and implementation of power
optimization software; and
- maintenance expenses, excluding the impact of acquisitions, decreased
$0.5 million, or 14%, due primarily to fewer pipeline and terminal
inspections being required during 2002 as compared to 2001.
General and administrative expenses were as follows:
-----------------------------------------------------------------------------
YEARS ENDED
DECEMBER 31,
---------------
(IN THOUSANDS) 2001 2002
-----------------------------------------------------------------------------
Services Agreement.......................................... $5,200 $5,200
Third party expenses........................................ 730 1,650
Compensation expense related to contractual rights to
receive common units..................................... -- 721
General and administrative expenses related to the Wichita
Falls Business for the month ended January 31, 2002...... -- 40
Reimbursement from partners on jointly owned pipelines...... (581) (661)
---------------
General and administrative expenses...................... $5,349 $6,950
-----------------------------------------------------------------------------
General and administrative expenses increased 30% for the year ended December
31, 2002 as compared to 2001 due primarily to an increase in general and
administrative costs related to Valero L.P. being a publicly held entity and the
recognition of compensation expense related to the award of common units to
officers and directors in January of 2002 (see Note 14: Employee benefit plans,
Long-term incentive plan). In addition to the annual fee charged by Valero
Energy to us for general and administrative services, Valero L.P. incurs costs
(e.g., unitholder annual reports, preparation and mailing of income tax reports
to unitholders and director fees) as a result of being a publicly held entity.
Depreciation and amortization expense increased $3.1 million for the year ended
December 31, 2002 as compared to the year ended December 31, 2001 due to the
additional depreciation related to the acquisitions of the Southlake refined
product terminal, the Ringgold crude oil storage facility, the Wichita Falls
Business and the crude hydrogen pipeline. Included in 2002 is $0.2 million of
depreciation expense related to the Wichita Falls Business for the month ended
January 31, 2002.
Equity income from Skelly-Belvieu Pipeline Company for the year ended December
31, 2002 was comparable to equity income recognized in 2001 as throughput
barrels in the Skellytown to Mont Belvieu refined product pipeline increased 2%
during 2002.
Interest expense for the year ended December 31, 2002 was $4.9 million, net of
interest income of $0.2 million and capitalized interest of $0.3 million, as
compared to $3.8 million of interest expense for 2001. Interest expense was
higher in 2002 due to additional borrowings to fund the acquisitions of the
Southlake refined product terminal, the Ringgold crude oil storage facility, the
Wichita Falls Business and the crude hydrogen pipeline. Included in interest
expense for 2002 was interest expense related to the fixed-rate 6.875% senior
notes issued in
49
July of 2002, the proceeds of which were used to repay borrowings under the
variable-rate revolving credit facility. Included in interest expense for 2001
was interest expense of $2.5 million for the period from January 1, 2001 through
April 15, 2001 related to the $107.7 million of debt due to parent that we
assumed on July 1, 2000 and paid off on April 16, 2001 upon the closing of
Valero L.P.'s initial public offering.
Income tax expense for the year ended December 31, 2002 represents income tax
expense incurred by the Wichita Falls Business during the month ended January
31, 2002, prior to the transfer of the Wichita Falls Business to us.
YEAR ENDED DECEMBER 31, 2000 COMPARED TO YEAR ENDED DECEMBER 31, 2001
The results of operations for the year ended December 31, 2000 presented in the
following table are derived from the statement of income of the Ultramar Diamond
Shamrock Logistics Business for the six months ended June 30, 2000 and the
combined statement of income of Valero L.P. and Valero Logistics for the six
months ended December 31, 2000, which in this discussion are combined and
referred to as the year ended December 31, 2000. The results of operations for
the year ended December 31, 2001 presented in the following table are derived
from the consolidated statement of income for Valero L.P. and subsidiaries for
the period from April 16, 2001 through December 31, 2001 and the combined
statement of income for Valero L.P. and Valero Logistics for the period from
January 1, 2001 through April 15, 2001, which in this discussion are combined
and referred to as the year ended December 31, 2001.
FINANCIAL DATA:
--------------------------------------------------------------------------------
YEARS ENDED
DECEMBER 31,
------------------
(IN THOUSANDS) 2000 2001
--------------------------------------------------------------------------------
STATEMENT OF INCOME DATA:
REVENUES.................................................... $ 92,053 $98,827
------------------
COSTS AND EXPENSES:
Operating expenses....................................... 33,505 33,583
General and administrative expenses...................... 5,139 5,349
Depreciation and amortization............................ 12,260 13,390
------------------
TOTAL COSTS AND EXPENSES........................... 50,904 52,322
------------------
OPERATING INCOME............................................ 41,149 46,505
Equity income from Skelly-Belvieu Pipeline Company....... 3,877 3,179
Interest expense, net.................................... (5,181) (3,811)
------------------
INCOME BEFORE INCOME TAX BENEFIT............................ 39,845 45,873
Income tax benefit....................................... (30,812) --
------------------
NET INCOME.................................................. $ 70,657 $45,873
--------------------------------------------------------------------------------
OPERATING DATA:
The following table reflects throughput barrels for our crude oil and refined
product pipelines and the total throughput for all of our refined product
terminals for the years ended December 31, 2000 and 2001. The throughput barrels
for the year ended December 31, 2000 combine the barrels transported by the
Ultramar Diamond Shamrock Logistics Business for the
50
six months ended June 30, 2000 with the barrels transported by Valero Logistics
for the six months ended December 31, 2000.
------------------------------------------------------------------------------------------
YEARS ENDED
DECEMBER 31,
-----------------
(IN THOUSANDS OF BARRELS) 2000 2001 % CHANGE
------------------------------------------------------------------------------------------
Crude oil pipeline throughput:
Dixon to McKee........................................... 22,736 20,403 (10%)
Wasson to Ardmore........................................ 28,003 29,612 6%
Ringgold to Wasson....................................... 10,724 13,788 29%
Corpus Christi to Three Rivers........................... 31,271 28,689 (8%)
Other crude oil pipelines................................ 15,157 18,399 21%
-----------------
Total crude oil pipelines............................. 107,891 110,891 3%
-----------------
Refined product pipeline throughput:
McKee to Colorado Springs to Denver...................... 8,982 8,838 (2%)
McKee to El Paso......................................... 22,277 24,285 9%
McKee to Amarillo to Abernathy........................... 13,219 13,747 4%
Amarillo to Albuquerque.................................. 4,714 4,613 (2%)
McKee to Denver.......................................... 4,307 4,370 1%
Ardmore to Wynnewood..................................... 20,705 20,835 1%
Three Rivers to Laredo................................... 5,886 4,479 (24%)
Three Rivers to San Antonio.............................. 9,761 10,175 4%
Other refined product pipelines.......................... 23,537 21,095 (10%)
-----------------
Total refined product pipelines....................... 113,388 112,437 (1%)
-----------------
Refined product terminal throughput......................... 60,629 64,522 6%
------------------------------------------------------------------------------------------
Revenues for the year ended December 31, 2001 were $98.8 million as compared to
$92.1 million for the year ended December 31, 2000, an increase of 7% or $6.7
million. This increase in revenues is due to the following items:
- revenues for the Ringgold to Wasson and the Wasson to Ardmore crude oil
pipelines increased $1.4 million due to a combined 12% increase in
throughput barrels, resulting from Valero Energy purchasing greater
quantities of crude oil from third parties near Ringgold instead of
gathering crude oil barrels near Wasson. In March 2001, Ultramar Diamond
Shamrock sold its Oklahoma crude oil gathering operation which was
located near Wasson;
- revenues for the Corpus Christi to Three Rivers crude oil pipeline
increased $1.4 million despite the 8% decrease in throughput barrels for
the year ended December 31, 2001 as compared to 2000. The Corpus Christi
to Three Rivers crude oil pipeline was temporarily converted into a
refined product pipeline during the third quarter of 2001 due to the
alkylation unit shutdown at Valero Energy's Three Rivers refinery. The
increase in revenues is primarily due to the increased tariff rate
charged to transport refined products during the third quarter of 2001.
In addition, effective May of 2001, the crude oil tariff rate was
increased to cover the additional costs (dockage and wharfage fees)
associated with operating a marine-based crude oil storage facility in
Corpus Christi;
51
- revenues for the McKee to El Paso refined product pipeline increased
$1.2 million primarily due to a 9% increase in throughput barrels
resulting from an increase in Valero Energy's sales into the Arizona
market. The McKee to El Paso refined product pipeline connects with a
third party pipeline which runs to Arizona;
- revenues for the Three Rivers to Laredo refined product pipeline
decreased by $0.5 million due to a 24% decrease in throughput barrels
partially offset by an increase in the tariff rate effective July 1,
2001. The Laredo refined product terminal revenues also decreased by $0.3
million due to the 24% decrease in throughput barrels. The lower
throughput barrels were a result of Pemex's expansion of its Monterrey,
Mexico refinery that increased the supply of refined products to Nuevo
Laredo, Mexico, which is across the border from Laredo, Texas;
- revenues for the Southlake refined product terminal, acquired on July
1, 2001, were $1.3 million and throughput was 4,601,000 barrels for the
six months ended December 31, 2001; and
- revenues for all refined product terminals, excluding the Southlake and
Laredo refined product terminals, increased $1.3 million primarily due to
an increase in the terminalling fee charged at our marine-based refined
product terminals to cover the additional costs (dockage and wharfage
fees) associated with operating a marine-based refined product terminal
and the additional fee of $0.04 per barrel charged for blending additives
into certain refined products.
Operating expenses increased $0.1 million for the year ended December 31, 2001
as compared to the year ended December 31, 2000 primarily due to the following
items:
- during the year ended December 31, 2000, a loss of $0.9 million was
recognized due to the impact of volumetric expansions, contractions and
measurement discrepancies in the pipelines related to the six months
ended June 30, 2000. Beginning July 1, 2000, the impact of volumetric
expansions, contractions and measurement discrepancies in the pipelines
is borne by the shippers and is therefore no longer reflected in
operating expenses;
- utility expenses increased by $1.5 million, or 17%, due to higher
electricity rates during the year ended December 31, 2001 as compared to
the year ended December 31, 2000 resulting from higher natural gas costs;
- the acquisition of the Southlake refined product terminal increased
operating expenses by $0.3 million;
- employee-related expenses increased due to higher accruals for
incentive compensation; and
- other operating expenses decreased due to lower rental expenses for
fleet vehicles, satellite communications and safety equipment as a result
of more favorable leasing arrangements.
52
General and administrative expenses were as follows:
-----------------------------------------------------------------------------
YEARS ENDED
DECEMBER 31,
---------------
(IN THOUSANDS) 2000 2001
-----------------------------------------------------------------------------
Services Agreement.......................................... $2,600 $5,200
Allocation of Ultramar Diamond Shamrock Corporation general
and administrative expenses for the six months ended June
30, 2000................................................. 2,839 --
Third party expenses........................................ 200 730
Reimbursement from partners on jointly owned pipelines...... (500) (581)
---------------
General and administrative expenses...................... $5,139 $5,349
-----------------------------------------------------------------------------
General and administrative expenses increased 4% for the year ended December 31,
2001 as compared to 2000 due to increased general and administrative costs
related to Valero L.P. being a publicly held entity. Prior to July 1, 2000,
Ultramar Diamond Shamrock allocated approximately 5% of its general and
administrative expenses incurred in the United States to its pipeline,
terminalling and storage operations to cover costs of centralized corporate
functions such as legal, accounting, treasury, engineering, information
technology and other corporate services. Effective July 1, 2000, Ultramar
Diamond Shamrock entered into a services agreement with us to provide the
general and administrative services noted above for an annual fee of $5.2
million, payable monthly. This annual fee is in addition to the incremental
general and administrative costs incurred from third parties as a result of
Valero L.P. being a publicly held entity.
Depreciation and amortization expense increased $1.1 million for the year ended
December 31, 2001 as compared to the year ended December 31, 2000 due to the
additional depreciation related to the Southlake refined product terminal and
Ringgold crude oil storage facility acquired during 2001 and additional
depreciation related to completed capital projects.
Equity income from Skelly-Belvieu Pipeline Company for the year ended December
31, 2001 decreased $0.7 million, or 18%, as compared to 2000 due primarily to a
13% decrease in throughput barrels in the Skellytown to Mont Belvieu refined
product pipeline. The decreased throughput in 2001 is due to both Valero Energy
and ConocoPhillips utilizing greater quantities of natural gas to run their
refining operations instead of selling the natural gas to third parties in Mont
Belvieu.
Interest expense for the year ended December 31, 2001 was $3.8 million as
compared to $5.2 million for 2000. During the period from January 1, 2001
through April 15, 2001, we incurred $2.5 million of interest expense related to
the $107.7 million of debt due to parent that Valero Logistics assumed on July
1, 2000 and paid off on April 16, 2001. In addition, beginning April 16, 2001,
Valero Logistics borrowed funds under its revolving credit facility resulting in
$0.7 million of interest expense for the eight and a half months ended December
31, 2001. Interest expense prior to July 1, 2000 relates only to the debt due to
the Port of Corpus Christi Authority of Nueces County, Texas. Interest expense
from July 1, 2000 through April 15, 2001 relates to the debt due to parent and
the debt due to the Port of Corpus Christi Authority. Interest expense
subsequent to April 16, 2001 relates to the borrowings under the revolving
credit facility and the debt due to the Port of Corpus Christi Authority.
Effective July 1, 2000, Ultramar Diamond Shamrock transferred the assets and
certain liabilities of the Ultramar Diamond Shamrock Logistics Business to
Valero Logistics. As a limited
53
partnership, Valero Logistics is not subject to federal or state income taxes.
Due to this change in tax status, the deferred income tax liability of $38.2
million as of June 30, 2000 was written off in the statement of income of the
Ultramar Diamond Shamrock Logistics Business for the six months ended June 30,
2000. The resulting net benefit for income taxes of $30.8 million for the six
months ended June 30, 2000, includes the write-off of the deferred income tax
liability less the income tax expense of $7.4 million for the six months ended
June 30, 2000. The income tax expense for the six months ended June 30, 2000 was
based upon the effective income tax rate for the Ultramar Diamond Shamrock
Logistics Business of 38%. The effective income tax rate exceeds the U.S.
federal statutory income tax rate due to state income taxes.
Income before income tax benefit for the year ended December 31, 2001 was $45.9
million as compared to $39.8 million for the year ended December 31, 2000. The
increase of $6.1 million is primarily due to the increase in revenues resulting
from higher tariff rates and higher throughput barrels in our pipelines and
terminals for 2001 as compared to 2000.
FINANCIAL OUTLOOK
The second quarter of 2003 began where the first quarter left off, with improved
refining and marketing fundamentals relative to 2002. The combination of low
crude oil and refined product inventories industry-wide and good underlying
demand should result in higher throughput volumes in our pipelines, terminals
and storage tanks compared to a year ago.
These factors, coupled with increased net income from the acquisitions completed
in the first quarter of 2003, should allow us to report net income per unit in
the second quarter of 2003 that exceeds the net income per unit reported for the
second quarter of 2002, notwithstanding the impact of the 2,521,250 net increase
in common units outstanding resulting from the recent common unit offering and
redemption transaction.
LIQUIDITY AND CAPITAL RESOURCES
Our primary cash requirements, in addition to normal operating expenses, are for
capital expenditures (both maintenance and expansion), business and asset
acquisitions, distributions to partners and debt service. We expect to fund our
short-term needs for such items as maintenance capital expenditures and
quarterly distributions to partners from operating cash flows. Capital
expenditures for long-term needs resulting from future expansion projects and
acquisitions are expected to be funded by a variety of sources including cash
flows from operating activities, borrowings under the revolving credit facility
and the issuance of additional Valero L.P. common units, our debt securities and
other capital market transactions.
AMENDED REVOLVING CREDIT FACILITY
On March 6, 2003, we amended our revolving credit facility, increasing our
credit limit to $175.0 million. On March 18, 2003, we borrowed $25.0 million
under the revolving credit facility to partially fund the purchase of the South
Texas pipelines and terminals from Valero Energy. The revolving credit facility
expires on January 15, 2006. At our option, borrowings under the revolving
credit facility bear interest based on either an alternative base rate or LIBOR.
We also incur a facility fee on the aggregate commitments of lenders under the
revolving credit facility, whether used or unused. Borrowings under the
revolving credit facility may be used for working capital and general
partnership purposes; however, borrowings to fund distributions to unitholders
are limited to $40.0 million. All borrowings designated as borrowings subject to
the $40.0 million sublimit must be reduced to zero for a period of at least 15
consecutive days during each fiscal year. The revolving credit facility also
allows us to issue letters of credit for an aggregate of $75.0 million.
54
The amended revolving credit facility requires that we maintain certain
financial ratios and includes other restrictive covenants, including a
prohibition on distributions by us to Valero L.P. if any default, as defined in
the revolving credit facility, exists or would result from the distribution.
Valero L.P. has guaranteed the obligations under the revolving credit facility.
6.05% SENIOR NOTES
On March 18, 2003, we issued, in a private placement, $250.0 million of 6.05%
senior notes, due March 15, 2013, for proceeds of $247.8 million, net of
discount of $0.7 million and debt issuance costs of $1.5 million. The net
proceeds were used to redeem 3,809,750 common units held by an affiliate of
Valero Energy ($134.1 million), redeem a related portion of the general partner
interest ($2.9 million) and partially fund the South Texas pipelines and
terminals acquisition. The 6.05% senior notes are redeemable and do not have
sinking fund requirements. Interest on the 6.05% senior notes is payable
semiannually in arrears on March 15 and September 15 of each year beginning
September 15, 2003. Valero L.P. has guaranteed the 6.05% senior notes.
The 6.05% senior notes have not been registered under the Securities Act of 1933
or any other securities laws and consequently the 6.05% senior notes are subject
to transfer and resale restrictions. However, the 6.05% senior notes include
registration rights which provide that we will use our best efforts to file,
within 90 days, a registration statement for the exchange of the 6.05% senior
notes for new notes of the same series that generally will be freely
transferable and to consummate the exchange offer within 210 days.
6.875% SENIOR NOTES
The 6.875% senior notes are due July 15, 2012 with interest payable on January
15 and July 15 of each year. The 6.875% senior notes are redeemable and do not
have sinking fund requirements and rank equally with all of our other existing
senior unsecured indebtedness, including indebtedness under the revolving credit
facility. Valero L.P. has guaranteed the 6.875% senior notes.
COMMON UNIT OFFERING
On March 18, 2003, Valero L.P. closed on a public offering of 5,750,000 common
units at a price of $36.75 per unit, before underwriters' discount of $1.56 per
unit, for net proceeds of $202.3 million before offering expenses of $2.0
million. In order to maintain its 2% general partner interest, Riverwalk
Logistics, L.P. made a $4.3 million general partner contribution. Valero L.P.
used the net proceeds of the common unit offering and the general partner
contribution primarily to fund the acquisition of the crude oil storage tanks.
On April 16, 2003, Valero L.P. closed on the exercise of the underwriters'
overallotment option, by selling 581,000 common units at $36.75 per unit. Net
proceeds from this sale of $20.4 million, combined with $0.4 million contributed
by Riverwalk Logistics, L.P. to maintain its 2% general partner interest, were
used to pay down the outstanding balance on the revolving credit facility.
SHELF REGISTRATION STATEMENT
On June 6, 2002, we, together with Valero L.P., filed a $500.0 million universal
shelf registration statement with the Securities and Exchange Commission
covering the issuance of an unspecified amount of Valero L.P.'s common units or
our debt securities or a combination thereof. Valero L.P. may, in one or more
offerings, offer and sell common units representing limited partner interests in
Valero L.P. We may, in one or more offerings, offer and sell our debt
securities, which will be fully and unconditionally guaranteed by Valero L.P. As
a result of
55
our July 2002 6.875% senior note offering and Valero L.P.'s March 2003 common
unit offering (including the overallotment option), the remaining balance under
the universal shelf registration statement is $167.3 million.
INTEREST RATE SWAPS
During the three months ended March 31, 2003, we entered into interest rate swap
agreements to manage our exposure to changes in interest rates. The interest
rate swap agreements have an aggregate notional amount of $105.0 million, of
which $60.0 million is tied to the maturity of the 6.875% senior notes and $45.0
million is tied to the maturity of the 6.05% senior notes. Under the terms of
the interest rate swap agreements, we will receive the fixed rate (6.875% and
6.05%, respectively) and will pay a variable rate based on LIBOR plus a
percentage that varies with each agreement. We account for the interest rate
swaps as fair value hedges, with changes in the fair value of each swap and the
related debt instrument recorded as an adjustment to interest expense in the
consolidated statement of income.
DISTRIBUTIONS
Valero L.P.'s partnership agreement, as amended, sets forth the calculation to
be used to determine the amount and priority of cash distributions that its
common unitholders, subordinated unitholders and general partner will receive.
During the subordination period, the holders of Valero L.P.'s common units are
entitled to receive each quarter a minimum quarterly distribution of $0.60 per
unit ($2.40 annualized) prior to any distribution of available cash to holders
of Valero L.P.'s subordinated units. The subordination period is defined
generally as the period that will end on the first day of any quarter beginning
after March 31, 2006 if (1) Valero L.P. has distributed at least the minimum
quarterly distribution on all outstanding units with respect to each of the
immediately preceding three consecutive, non-overlapping four-quarter periods
and (2) Valero L.P.'s adjusted operating surplus, as defined in the partnership
agreement, during such periods equals or exceeds the amount that would have been
sufficient to enable Valero L.P. to distribute the minimum quarterly
distribution on all outstanding units on a fully diluted basis and the related
distribution on the 2% general partner interest during those periods. If the
subordination period ends, the rights of the holders of subordinated units will
no longer be subordinated to the rights of the holders of common units and the
subordinated units may be converted into common units, on a one-for-one basis.
The general partner is entitled to incentive distributions if the amount Valero
L.P. distributes with respect to any quarter exceeds $0.60 per unit.
56
The following table reflects the allocation of the total cash distributions to
the general and limited partners applicable to the period in which the
distributions are earned:
--------------------------------------------------------------------------------------------
YEARS ENDED THREE MONTHS ENDED
DECEMBER 31, MARCH 31,
----------------- ------------------
(IN THOUSANDS, EXCEPT PER UNIT DATA) 2001 2002 2002 2003
--------------------------------------------------------------------------------------------
General partner interest............................ $ 667 $ 1,103 $ 257 $ 319
General partner incentive distribution.............. -- 1,103 86 384
--------------------------------------
Total general partner distribution............... 667 2,206 343 703
Limited partners' distributions..................... 32,692 52,969 12,515 15,264
--------------------------------------
Total cash distributions......................... $33,359 $55,175 $12,858 $15,967
--------------------------------------
Cash distributions per unit applicable to limited
partners......................................... $ 1.70 $ 2.75 $ 0.65 $ 0.70
--------------------------------------------------------------------------------------------
The distributions for the year ended December 31, 2001, represent the minimum
quarterly distribution for the period subsequent to Valero L.P.'s initial public
offering, the period from April 16, 2001 through December 31, 2001. In February
2003, Valero L.P. paid a quarterly cash distribution of $0.70 per unit for the
fourth quarter of 2002.
In May 2003, Valero L.P. paid a quarterly cash distribution of $0.70 per unit
for the first quarter of 2003.
CAPITAL REQUIREMENTS
The petroleum pipeline and storage industry is capital-intensive, requiring
significant investments to maintain, upgrade or enhance existing operations and
to comply with environmental and safety regulations. Our capital expenditures
consist primarily of:
- maintenance capital expenditures, such as those required to maintain
equipment reliability and safety and to address environmental
regulations; and
- expansion capital expenditures, such as those to expand and upgrade
pipeline capacity and to construct new pipelines, terminals and storage
tanks. In addition, expansion capital expenditures may include
acquisitions of pipelines, terminals or storage tank assets.
During the three months ended March 31, 2003, we incurred maintenance capital
expenditures of $1.2 million primarily related to tank and pipeline pump station
upgrades at numerous locations. Expansion capital expenditures of $0.9 million
during the three months ended March 31, 2003 were related to modifications of
the Albuquerque refined product terminal, the addition of new pumps on the
Wichita Falls to McKee crude oil pipeline and initial construction of the Nuevo
Laredo pipeline and propane terminal.
For the remainder of 2003, we expect to incur approximately $24 million of
capital expenditures including approximately $2 million for maintenance capital
expenditures and approximately $22 million for expansion capital expenditures,
including a pipeline from Laredo, Texas to Nuevo Laredo, Mexico and a propane
terminal in Nuevo Laredo. We expect to fund our capital expenditures from cash
provided by operations and to the extent necessary, from proceeds of borrowings
under our revolving credit facility or debt and equity offerings.
Acquisitions during the first quarter of 2003 include the January 7, 2003
purchase of an asphalt terminal from Telfer for $15.1 million and the March 18,
2003 acquisitions of the South Texas
57
pipelines and terminals and crude oil storage tanks from Valero Energy for a
total of $350.0 million. Acquisitions during the first quarter of 2002 represent
the February 1, 2002 purchase, under a purchase option included in the Omnibus
Agreement, of the Wichita Falls crude oil pipeline and storage facilities from
Valero Energy for $64.0 million, which was funded with proceeds under the
revolving credit facility.
During the year ended December 31, 2002, we incurred maintenance capital
expenditures of $3.9 million primarily related to tank and automation upgrades
at both the refined product terminals and the crude oil storage facilities and
corrosion protection and automation upgrades for refined product pipelines. Also
during the year ended December 31, 2002, we incurred expansion capital
expenditures of $76.8 million for acquisitions and capital projects. Effective
February 1, 2002, we exercised our option to purchase the Wichita Falls Business
from Valero Energy at a cost of $64.0 million. The Wichita Falls Business
consisted of the following assets:
- A 272-mile crude oil pipeline originating in Wichita Falls, Texas and
ending at Valero Energy's McKee refinery in Dumas, Texas. The pipeline
has the capacity to transport 110,000 barrels per day of crude oil
gathered or acquired by Valero Energy at Wichita Falls. The Wichita Falls
crude oil pipeline connects to third party pipelines that originate along
the Texas Gulf Coast.
- Four crude oil storage tanks located in Wichita Falls, Texas with a
total capacity of 660,000 barrels.
During the year ended December 31, 2002, capital projects included $1.3 million
for completion of the Amarillo to Albuquerque refined product pipeline
expansion, which is net of ConocoPhillips' 50% share of costs.
On May 29, 2002, we purchased a 30-mile pure hydrogen pipeline from Valero
Energy for $11.0 million and subsequently exchanged that pipeline for a 25-mile
crude hydrogen pipeline owned by Praxair, Inc. The crude hydrogen pipeline
originates at Celanese Ltd.'s chemical facility in Clear Lake, Texas and ends at
Valero Energy's Texas City refinery in Texas City, Texas. The pipeline supplies
crude hydrogen to the refinery under a long-term supply arrangement between
Valero Energy and BOC (successor to Celanese Ltd.).
During the year ended December 31, 2001, we incurred maintenance capital
expenditures of $2.8 million primarily related to tank and automation upgrades
at the refined product terminals and cathodic (corrosion) protection and
automation upgrades for both refined product and crude oil pipelines. Also
during the year ended December 31, 2001, we incurred expansion capital
expenditures of $15.1 million for various acquisitions and capital projects.
Acquisitions included the July of 2001 purchase of the Southlake refined product
terminal from Valero Energy for $5.6 million and the December of 2001 purchase
of the Ringgold crude oil storage facility from Valero Energy for $5.2 million.
Capital projects included $1.8 million for rights-of-way related to the
expansion of the Amarillo to Albuquerque refined product pipeline, which is net
of ConocoPhillips' 50% share of such costs.
During the year ended December 31, 2000, we incurred $7.0 million of capital
expenditures, including $4.7 million relating to expansion capital projects and
$2.3 million related to maintenance projects. Expansion capital projects
included the project to expand the capacity of the McKee to Colorado Springs
refined product pipeline from 32,000 barrels per day to 52,000 barrels per day,
which was completed in the fourth quarter of 2000.
We believe we have sufficient funds from operations, and to the extent
necessary, from public and private capital markets and bank markets, to fund our
ongoing operating requirements. We expect that, to the extent necessary, we can
raise additional funds from time to time
58
through equity or debt financings. However, there can be no assurance regarding
the availability of any future financings or whether such financings can be made
available on terms acceptable to us.
LONG-TERM CONTRACTUAL OBLIGATIONS
The following table presents our long-term contractual obligations and
commitments and the related payments due, in total and by period, as of December
31, 2002. We have no unconditional purchase obligations as of December 31, 2002.
-------------------------------------------------------------------------------------------
PAYMENTS DUE BY PERIOD
LESS THAN 1-3 4-5 OVER 5
(IN THOUSANDS) 1 YEAR YEARS YEARS YEARS TOTAL
-------------------------------------------------------------------------------------------
Long-term debt (stated maturities)...... $747 $1,575 $1,272 $106,064 $109,658
Operating leases........................ 227 664 342 1,266 2,499
Right-of-way payments................... 6 18 12 65 101
-------------------------------------------------------------------------------------------
The operating lease amounts in the above table include minimum rentals due under
the various land leases for the refined product terminals and the Corpus Christi
crude oil storage facility.
We do not have any long-term contractual obligations related to the
Skelly-Belvieu Pipeline Company, an equity method investment, other than the
requirement to operate the pipeline on behalf of the members and to fund our
share of capital expenditures as they arise. Skelly-Belvieu Pipeline Company
does not have any outstanding debt as of December 31, 2002.
RELATED PARTY TRANSACTIONS
SERVICES AGREEMENT
Effective July 1, 2000, Ultramar Diamond Shamrock entered into the services
agreement with us whereby Ultramar Diamond Shamrock agreed to provide the
corporate functions of legal, accounting, treasury, engineering, information
technology and other services for an annual fee of $5.2 million for a period of
eight years. As a result of the acquisition of Ultramar Diamond Shamrock by
Valero Energy, Valero Energy assumed Ultramar Diamond Shamrock's obligation
under the services agreement. The $5.2 million is adjustable annually based on
the Consumer Price Index published by the U.S. Department of Labor, and may also
be adjusted to take into account additional service levels necessitated by the
acquisition or construction of additional assets. Management believes that the
$5.2 million is a reasonable approximation of the general and administrative
costs related to our current pipeline, terminalling and storage operations. This
annual fee is in addition to the incremental general and administrative costs
incurred from third parties as a result of Valero L.P. being a publicly held
entity.
The services agreement also requires that we reimburse Valero Energy for various
recurring costs of employees who work exclusively within the pipeline,
terminalling and storage operations and for certain other costs incurred by
Valero Energy relating solely to us. These employee costs include salary, wage
and benefit costs.
Prior to July 1, 2000, Ultramar Diamond Shamrock allocated approximately 5% of
its general and administrative expenses incurred in the United States to its
pipeline, terminalling and storage operations to cover costs of centralized
corporate functions and other corporate services. A portion of the allocated
general and administrative costs is passed on to third parties, which jointly
own certain pipelines and terminals with us. Also, prior to July 1, 2000, the
Ultramar Diamond Shamrock Logistics Business participated in Ultramar Diamond
59
Shamrock's centralized cash management program, wherein all cash receipts were
remitted to Ultramar Diamond Shamrock and all cash disbursements were funded by
Ultramar Diamond Shamrock. Other related party transactions include intercompany
tariff and terminalling revenues and related expenses, administrative and
support expenses incurred by Ultramar Diamond Shamrock and allocated to the
Ultramar Diamond Shamrock Logistics Business and income taxes.
PIPELINES AND TERMINALS USAGE AGREEMENT
On April 16, 2001, Ultramar Diamond Shamrock entered into the pipelines and
terminals usage agreement with us, whereby Ultramar Diamond Shamrock agreed to
use our pipelines to transport at least 75% of the crude oil shipped to and at
least 75% of the refined products shipped from the McKee, Three Rivers and
Ardmore refineries and to use the related refined product terminals for
terminalling services for at least 50% of all refined products shipped from
these refineries until at least April of 2008. Valero Energy also assumed the
obligation under the pipelines and terminals usage agreement in connection with
the acquisition of Ultramar Diamond Shamrock by Valero Energy. For the year
ended December 31, 2002, Valero Energy used our pipelines to transport 97% of
its crude oil shipped to and 80% of the refined products shipped from the McKee,
Three Rivers and Ardmore refineries, and used our terminalling services for 59%
of all refined products shipped from these refineries.
HYDROGEN TOLLING AGREEMENT
In conjunction with our acquisition of the crude hydrogen pipeline, we and
Valero Energy entered into a hydrogen tolling agreement. The hydrogen tolling
agreement provides that Valero Energy will pay us minimum annual revenues of
$1.4 million for transporting crude hydrogen from Celanese Ltd.'s chemical
facility in Clear Lake, Texas to Valero Energy's Texas City refinery.
SOUTH TEXAS PIPELINE THROUGHPUT COMMITMENT AGREEMENT AND TERMINALLING AGREEMENTS
In conjunction with the acquisition of the South Texas pipelines and terminals,
we and Valero Energy entered into the following agreements:
- Throughput Commitment Agreement pursuant to which Valero Energy agreed,
for an initial period of seven years, to (i) transport in the Houston and
Valley pipeline systems an aggregate of 40% of the Corpus Christi
refinery gasoline and distillate production but only if the combined
throughput on these pipelines is less than 110,000 barrels per day, (ii)
transport in the Pettus to San Antonio refined product pipeline 25% of
the Three Rivers refinery gasoline and distillate production and in the
Pettus to Corpus Christi refined product pipeline 90% of the Three Rivers
refinery raffinate production, (iii) use the Houston asphalt terminal for
an aggregate of 7% of the asphalt production of the Corpus Christi
refinery, (iv) use the Edinburg refined product terminal for an aggregate
of 7% of the gasoline and distillate production of the Corpus Christi
refinery, but only if the throughput at this terminal is less than 20,000
barrels per day; and (v) use the San Antonio terminal for 75% of the
throughput in the Pettus to San Antonio refined product pipeline. In the
event Valero Energy does not transport in the pipelines or use the
terminals to handle the minimum volume requirements and if its obligation
has not been suspended under the terms of the agreement, it will be
required to make a cash payment determined by multiplying the shortfall
in volume by the applicable weighted average tariff rate or terminal fee.
Also, Valero Energy agreed to allow us to increase our tariff to
compensate for any revenue shortfall in the event
60
we have to curtail throughput in the Corpus Christi to Edinburg refined
product pipeline as a result of repair and replacement activities.
- Terminalling Agreements pursuant to which Valero Energy agreed, during
the initial period of five years, to pay a terminalling fee for each
barrel of refined product stored or handled by or on behalf of Valero
Energy at the terminals included in the South Texas pipelines and
terminals, including an additive fee for gasoline additives blended at
the terminals. At the Hobby Airport terminal, Valero Energy will also pay
a filtering fee for each barrel of jet fuel stored or handled at the
terminal.
Additionally, Valero Energy has indicated to us that the segment of the Corpus
Christi to Edinburg refined product pipeline that runs approximately 60 miles
south from Corpus Christi to Seeligson Station may require repair and, in some
places, replacement. Valero Energy has agreed to indemnify us for any costs we
incur to repair and replace this segment in excess of $1.5 million, which is
approximately the amount of capital expenditures we expect to spend on this
segment for the next three years.
CRUDE OIL STORAGE TANKS AGREEMENTS
In conjunction with the acquisition of the crude oil storage tanks, we and
Valero Energy entered into the following agreements:
- Handling and Throughput Agreement pursuant to which Valero Energy
agreed to pay us a fee, for an initial period of ten years, for 100% of
crude oil delivered to each of the West plant of the Corpus Christi
refinery, the Texas City refinery or the Benicia refinery and to use us
for handling all deliveries to these refineries. The throughput fees
under the agreement are adjustable annually, generally based on 75% of
the regional consumer price index applicable to the location of each
refinery.
- Services and Secondment Agreements pursuant to which Valero Energy
agreed to second to us personnel who will provide operating and routine
maintenance services with respect to the crude oil storage tanks. The
annual reimbursement for services is an aggregate of $3.5 million for the
initial year and is subject to adjustment based on actual expenses
incurred and increases in the regional consumer price index. The initial
term of the Services and Secondment Agreements is ten years with an
option for us to extend for an additional five years.
- Lease and Access Agreements pursuant to which Valero Energy will lease
to us the real property on which the crude oil storage tanks are located
for an aggregate of $0.7 million per year. The initial term of each lease
will be 25 years, subject to automatic renewal for successive one-year
periods thereafter. We may terminate any of these leases upon 30 days
notice after the initial term or at the end of a renewal period. In
addition, we may terminate any of these leases upon 180 days notice prior
to the expiration of the current term if we cease to operate the crude
oil storage tanks or cease business operations.
EQUITY OWNERSHIP
UDS Logistics, LLC, an indirect wholly owned subsidiary of Valero Energy, owns
614,572 of Valero L.P.'s outstanding common units and all 9,599,322 of its
outstanding subordinated units. In addition, Valero GP, LLC, also an indirect
wholly owned subsidiary of Valero Energy, owns 73,319 of Valero L.P.'s
outstanding common units. As a result, Valero Energy owns a 46.2% limited
partner interest in Valero L.P. and Riverwalk Logistics owns the 2% general
partner
61
interest in Valero L.P. Our 99.99% limited partner interest is owned by Valero
L.P., and Valero L.P.'s wholly owned subsidiary, Valero GP, Inc., owns a 0.01%
general partner interest in us.
In addition, prior to its acquisition by Valero L.P. on February 1, 2002, the
Wichita Falls Business was wholly owned by Valero Energy, and such ownership
interest is reflected as net parent investment in the consolidated balance sheet
as of December 31, 2001.
ENVIRONMENTAL
In connection with the transfer of assets and liabilities from the Ultramar
Diamond Shamrock Logistics Business to Shamrock Logistics Operations on July 1,
2000, Ultramar Diamond Shamrock agreed to indemnify Shamrock Logistics for
environmental liabilities that arose prior to July 1, 2000. In connection with
the initial public offering of Shamrock Logistics on April 16, 2001, Ultramar
Diamond Shamrock agreed to indemnify Shamrock Logistics for environmental
liabilities that arose prior to April 16, 2001 and are discovered within 10
years after April 16, 2001. Excluded from this indemnification are liabilities
that result from a change in environmental law after April 16, 2001. In
conjunction with the acquisitions of the Southlake refined product terminal on
July 1, 2001 and the Ringgold crude oil storage facility on December 1, 2001,
Ultramar Diamond Shamrock agreed to indemnify us for environmental liabilities
that arose prior to the acquisition dates and are discovered within 10 years
after acquisition. Effective with the acquisition of Ultramar Diamond Shamrock
by Valero Energy, Valero Energy assumed these environmental indemnifications. In
conjunction with the sale of the Wichita Falls Business to Valero L.P., Valero
Energy has agreed to indemnify Valero L.P. for any environmental liabilities
that arose prior to February 1, 2002 and are discovered by April 15, 2011.
In connection with the South Texas pipelines and terminals acquisition, Valero
Energy has agreed to indemnify us from environmental liabilities that are known
as of March 18, 2003 or are discovered within 10 years after March 18, 2003
related to:
- the South Texas pipelines and terminals that arose as a result of
events occurring or conditions existing prior to March 18, 2003; and
- any real or personal property on which the South Texas pipelines and
terminals are located that arose prior to March 18, 2003.
In connection with the crude oil storage tanks acquisition, Valero Energy has
agreed to indemnify us from environmental liabilities related to:
- the crude oil storage tanks that arose as a result of events occurring
or conditions existing prior to March 18, 2003;
- any real or personal property on which the crude oil storage tanks are
located that arose prior to March 18, 2003; and
- any actions taken by Valero Energy before, on or after March 18, 2003,
in connection with the ownership, use or operation of the West plant of
the Corpus Christi refinery, the Texas City refinery and the Benicia
refinery or the property on which the crude oil storage tanks are
located, or any accident or occurrence in connection therewith.
As an operator or owner of the assets, we could be held liable for
pre-acquisition environmental damage should Valero Energy be unable to fulfill
its obligation. However, we believe that such a situation is remote given Valero
Energy's financial condition. As of March 31, 2003, we are not aware of any
material environmental liabilities that were not covered by the environmental
indemnifications.
62
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in accordance with United States
generally accepted accounting principles requires management to select
appropriate accounting policies and to make estimates and assumptions that
affect the amounts reported in the consolidated and combined financial
statements and accompanying notes. Actual results could differ from those
estimates. See "Note 2: Summary of significant accounting policies" on page
F-28 for our significant accounting policies.
On an ongoing basis, management reviews its estimates based on currently
available information. Changes in facts and circumstances may result in revised
estimates. Any effects on our financial position or results of operations
resulting from revisions to estimates are recorded in the period in which the
facts and circumstances that give rise to the revision become known. We deem the
following estimates and accounting policies to be critical:
REVENUE RECOGNITION
Revenues are derived from interstate and intrastate pipeline transportation,
storage and terminalling of crude oil and refined products. Transportation
revenues are based on tariff rates that are subject to extensive federal and/or
state regulation. Terminalling revenues, including revenues for blending
additives, are based on fees which we believe are market based. Reductions to
the current tariff rates or terminalling fees charged could have a material
adverse effect on our results of operations. Currently, 99% of our revenues are
derived from Valero Energy and Valero Energy has agreed not to challenge our
tariff rates or terminalling fees until at least April of 2008. See "Note 13:
Related party transactions" on page F-42 for a discussion of our relationship
with Valero Energy.
DEPRECIATION
Depreciation expense is calculated using the straight-line method over the
estimated useful lives of our property, plant and equipment. Because of the
expected long useful lives of the property, plant and equipment, we depreciate
them over a 3-year to 40-year period. Changes in the estimated useful lives of
the property, plant and equipment could have a material adverse effect on our
results of operations.
GOODWILL
Goodwill is the excess of cost over the fair value of net assets acquired in
September of 1997. Effective January 1, 2002, with the adoption of Financial
Accounting Standards Board (FASB) Statement No. 142, "Goodwill and Other
Intangible Assets," amortization of goodwill ceased and the unamortized balance
will be tested annually for impairment. Management's estimates will be crucial
in determining whether an impairment exists and, if so, the effect of such
impairment. We believe that future reported net income may be more volatile
because impairment losses related to goodwill are likely to occur irregularly
and in varying amounts.
INCOME ALLOCATION
Our net income for each quarterly reporting period is first allocated to the
general partner in an amount equal to the general partner's incentive
distribution declared for the respective reporting period. The remaining net
income is allocated among the limited and general partners in accordance with
their respective 98% and 2% interests, respectively.
63
RECENT ACCOUNTING PRONOUNCEMENT
In June 2001, the Financial Accounting Standards Board (FASB) issued Statement
No. 143, "Accounting for Asset Retirement Obligations." This statement
establishes standards for accounting for an obligation associated with the
retirement of a tangible long-lived asset. An asset retirement obligation should
be recognized in the financial statements in the period in which it meets the
definition of a liability as defined in FASB Concepts Statement No. 6, "Elements
of Financial Statements." The amount of the liability would initially be
measured at fair value. Subsequent to initial measurement, an entity would
recognize changes in the amount of the liability resulting from (a) the passage
of time and (b) revisions to either the timing or amount of estimated cash
flows. Statement No. 143 also establishes standards for accounting for the cost
associated with an asset retirement obligation. It requires that, upon initial
recognition of a liability for an asset retirement obligation, an entity
capitalize that cost by recognizing an increase in the carrying amount of the
related long-lived asset. The capitalized asset retirement cost would then be
allocated to expense using a systematic and rational method.
We adopted the provisions of Statement No. 143 effective January 1, 2003 and
have determined that we are obligated by contractual or regulatory requirements
to remove assets or perform other remediation upon retirement of certain of our
assets. Determination of the amounts to be recognized upon adoption is based
upon numerous estimates and assumptions, including expected settlement dates,
future retirement costs, future inflation rates and the credit-adjusted
risk-free interest rate. However, the fair value of the asset retirement
obligation cannot be reasonably estimated, since the settlement dates are
indeterminate. We will record an asset retirement obligation in the period in
which we determine the settlement dates. Accordingly, the adoption of Statement
No. 143 did not have an impact on our financial position or results of
operations.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The principal market risk (i.e., the risk of loss arising from adverse changes
in market rates and prices) to which we are exposed is interest rate risk on our
debt. We manage our debt considering various financing alternatives available in
the market and manage our exposure to changing interest rates principally
through the use of a combination of fixed and variable-rate debt. In addition,
we utilize interest rate swap agreements to manage a portion of the exposure to
changing interest rates by converting certain fixed-rate debt to variable-rate
debt.
Borrowings under the revolving credit facility expose us to increases in the
benchmark interest rate underlying our variable-rate revolving credit facility.
As of March 31, 2003, our fixed-rate debt consisted of the 6.05% senior notes,
the 6.875% senior notes and the 8.0% Port of Corpus Christi Authority note
payable.
The following table provides information about our long-term debt and interest
rate derivative instruments, all of which are sensitive to changes in interest
rates. For long-term debt, principal cash flows and related weighted-average
interest rates by expected maturity dates are presented. For interest rate
swaps, the table presents notional amounts and weighted-average
64
interest rates by expected (contractual) maturity dates. Weighted-average
variable rates are based on implied forward interest rates in the yield curve at
the reporting date.
---------------------------------------------------------------------------------------------------------------------
MARCH 31, 2003
------------------------------------------------------------------------------
EXPECTED MATURITY DATES
------------------------------------------------------
THERE-
(IN THOUSANDS, EXCEPT INTEREST RATES) 2003 2004 2005 2006 2007 AFTER TOTAL FAIR VALUE
---------------------------------------------------------------------------------------------------------------------
LONG-TERM DEBT:
Fixed rate...................... $ 449 $ 485 $ 524 $ 566 $ 611 $357,025 $359,660 $373,214
Average interest rate........ 8.0% 8.0% 8.0% 8.0% 8.0% 6.3% 6.3%
Variable rate................... $ -- $ -- $ -- $25,000 $ -- $ -- $ 25,000 $ 25,000
Average interest rate........ -- -- -- 3.4% -- -- 3.4%
INTEREST RATE SWAPS
FIXED TO VARIABLE:
Notional amount................. $ -- $ -- $ -- $ -- $ -- $105,000 $105,000 $ 223
Average pay rate............. 3.3% 4.2% 5.4% 6.2% 6.8% 7.6% 6.6%
Average receive rate......... 6.5% 6.5% 6.5% 6.5% 6.5% 6.5% 6.5%
---------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------
DECEMBER 31, 2002
-----------------------------------------------------------------------------
EXPECTED MATURITY DATES
-----------------------------------------------------
THERE-
(IN THOUSANDS, EXCEPT INTEREST RATES) 2003 2004 2005 2006 2007 AFTER TOTAL FAIR VALUE
--------------------------------------------------------------------------------------------------------------------
LONG-TERM DEBT:
Fixed rate....................... $ 747 $ 485 $ 524 $ 566 $ 611 $107,025 $109,958 $109,922
Average interest rate......... 8.0% 8.0% 8.0% 8.0% 8.0% 6.9% 7.0%
Variable rate.................... $ -- $ -- $ -- $ -- $ -- $ -- $ -- $ --
Average interest rate......... -- -- -- -- -- -- --
--------------------------------------------------------------------------------------------------------------------
Prior to 2003, we did not engage in interest rate hedging transactions.
65
BUSINESS
GENERAL
We are a Delaware limited partnership that was formed in 1999. Our principal
executive offices are located at One Valero Place, San Antonio, Texas 78212 and
our telephone number is (210) 370-2000. We are a 100%-owned subsidiary of Valero
L.P.
We were originally formed under the name of "Shamrock Logistics Operations,
L.P.," and changed our name to "Valero Logistics Operations, L.P." effective
January 1, 2002, following completion of Valero Energy Corporation's acquisition
of Ultramar Diamond Shamrock Corporation on December 31, 2001. In addition,
Valero L.P. changed its name from "Shamrock Logistics, L.P." effective January
1, 2002.
On April 16, 2001, Valero L.P. completed its initial public offering of
5,175,000 common units, representing approximately 26% of its outstanding units.
Valero L.P.'s common units are listed on the New York Stock Exchange under the
symbol "VLI."
On March 18, 2003, Valero L.P. consummated a public offering of common units,
selling 5,750,000 common units to the public at $36.75 per unit, before
underwriters' discount of $1.56 per unit. Net proceeds were $202.3 million, or
$35.19 per unit, before offering expenses of $2.0 million. In order to maintain
a 2% general partner interest, Riverwalk Logistics, L.P. contributed $4.3
million to Valero L.P.
Also on March 18, 2003, subsequent to the common unit offering, Valero L.P.
redeemed from UDS Logistics, LLC, a wholly owned subsidiary of Valero Energy,
3,809,750 common units at a total cost of $134.1 million, or $35.19 per common
unit, which is equal to the net per unit price received by Valero L.P. in the
common unit offering. In order to maintain a 2% general partner interest, Valero
L.P. redeemed a portion of Riverwalk Logistics, L.P.'s general partner interest
at a total cost of $2.9 million. In addition to the redemption transaction,
Valero L.P. amended its partnership agreement to reduce the vote required to
remove the general partner from 66 2/3% to 58% of its outstanding units and to
exclude from participating in such a vote the common and subordinated units held
by affiliates of the general partner.
On April 16, 2003, Valero L.P. sold 581,000 additional common units pursuant to
the underwriters' overallotment option at $36.75 per unit, before underwriters'
discount of $1.56 per unit. Net proceeds from the underwriters were $20.4
million, or $35.19 per unit, and Riverwalk Logistics, L.P. contributed $0.4
million to maintain its 2% general partner interest.
Valero Energy, through its wholly owned subsidiaries, currently owns a total of
614,572 common units and 9,599,322 subordinated units of Valero L.P.,
representing an aggregate 46.2% limited partner interest in it. Valero Energy
owns and controls Valero L.P.'s general partner, Riverwalk Logistics, L.P.,
which owns a 2% interest in Valero L.P. and has incentive distribution rights
giving it higher percentages of Valero L.P.'s quarterly cash distributions as
various target distribution levels are met.
We generate revenue from our pipeline operations by charging tariffs for
transporting crude oil, other refinery feedstocks and refined products through
our pipelines. We also generate revenue through our terminalling operations by
charging a terminalling fee to our customers. The terminalling fee is earned
when refined products enter the terminal and includes the cost of transferring
the refined products from the terminal to trucks. An additional fee is charged
at the refined product terminals for blending additives into various refined
products and for filtering jet fuel at the Hobby Airport terminal. We do not
generate any separate revenue from our crude oil storage facilities which are
connected to our crude oil pipelines. Instead, the costs
66
associated with these facilities were considered in establishing the tariff
rates charged for transporting crude oil from the storage facilities to the
refineries. We also charge a fee for our handling and throughput services of
100% of specified feedstocks delivered to the Corpus Christi (West), Texas City
and Benicia refineries. Our primary customer for our pipeline, terminalling and
storage tank operations is Valero Energy, which accounted for 99% of our
revenues for the year ended December 31, 2002 and the three months ended March
31, 2003.
The term "throughput" generally refers to the crude oil or refined product
barrels, as applicable, that pass through each pipeline, even if those barrels
also are transported in another of our pipelines for which a separate tariff is
charged.
RECENT DEVELOPMENTS
TELFER ASPHALT TERMINAL
On January 7, 2003, we completed an acquisition of Telfer Oil Company's (Telfer)
California asphalt terminal for $15.1 million. The asphalt terminal includes two
storage tanks with a combined storage capacity of 350,000 barrels, six
5,000-barrel polymer modified asphalt tanks, a truck rack, rail facilities and
various other tanks and equipment. In conjunction with the Telfer acquisition,
we entered into a six-year terminal storage and throughput agreement with Valero
Energy. A portion of the purchase price represented payment to the principal
owner of Telfer for a non-compete agreement and for the lease of certain
facilities adjacent to the terminal operations.
SOUTH TEXAS PIPELINES AND TERMINALS
On March 18, 2003, Valero Energy contributed the South Texas pipeline system to
us for $150.0 million. The South Texas pipeline system is comprised of the
Houston pipeline system, the Valley pipeline system and the San Antonio pipeline
system (together referred to as the South Texas Pipelines and Terminals) as
follows:
- The Houston pipeline system is a 204-mile refined product pipeline
originating in Corpus Christi, Texas and ending in Pasadena, Texas at the
Houston ship channel. The pipeline has the capacity to transport 105,000
barrels per day of refined products produced at Valero Energy's Corpus
Christi refinery and third party refineries located in Corpus Christi.
The pipeline system includes four refined product terminals (Hobby
Airport, Placedo, Houston asphalt and Almeda, which is currently idle)
with a combined storage capacity of 310,900 barrels of refined products
and 75,000 barrels of asphalt.
- The Valley pipeline system is a 130-mile refined product pipeline
originating in Corpus Christi and ending in Edinburg, Texas. The pipeline
has the capacity to transport 27,100 barrels per day of refined products.
Currently, the pipeline transports refined products produced at Valero
Energy's Corpus Christi refinery. The pipeline system includes a refined
product terminal in Edinburg with a storage capacity of 184,600 barrels.
- The San Antonio pipeline system is comprised of two segments: the north
segment, which runs from Pettus, Texas to San Antonio, Texas and the
south segment which runs from Pettus to Corpus Christi. The north segment
is 74 miles long and has a capacity of 24,000 barrels per day. The south
segment is 60 miles long and has a capacity of 15,000 barrels per day and
ends at Valero Energy's Corpus Christi refinery. The pipeline system
includes a refined product terminal in east San Antonio with a storage
capacity of 148,200 barrels.
67
In conjunction with the South Texas Pipelines and Terminals acquisition, we
entered into several agreements with Valero Energy.
CRUDE OIL STORAGE TANKS
On March 18, 2003, Valero Energy contributed 58 crude oil storage tanks and
related assets (the "Crude Oil Storage Tanks") to us for $200.0 million. The
Crude Oil Storage Tanks consist of certain tank shells, foundations, tank
valves, tank gauges, pressure equipment, temperature equipment, corrosion
protection, leak detection, tank lighting and related equipment located at the
following Valero Energy refineries:
- West plant of the Corpus Christi refinery, which has a total capacity
to process 225,000 barrels per day of crude oil and other feedstocks;
- Texas City refinery, which has a total capacity to process 243,000
barrels per day of crude oil and other feedstocks; and
- Benicia refinery, which has a total capacity to process 180,000 barrels
per day of crude oil and other feedstocks.
In conjunction with the Crude Oil Storage Tanks acquisition, we entered into
several agreements with Valero Energy.
The following discussion regarding our pipeline operations, storage and
terminalling operations and our relationship with Valero Energy include the
above acquisitions. For a more detailed discussion of the Crude Oil Storage Tank
contribution and the South Texas Pipeline System contribution, see "Recent
Contributions" beginning on page 77.
PIPELINE OPERATIONS
GENERAL
We have an ownership interest in nine crude oil pipelines with an aggregate
length of approximately 783 miles and 23 refined product pipelines with an
aggregate length of approximately 3,314 miles. We also own a 25-mile-long crude
hydrogen pipeline. We operate all but three of the pipelines. For the pipelines
in which we own less than a 100% ownership interest, we fund capital
expenditures in proportion to our respective ownership percentage.
For all but three of the pipelines, Valero Energy is the only customer for
transportation of crude oil or refined products.
CRUDE OIL PIPELINES
Our crude oil pipelines deliver crude oil and other feedstocks, such as gas oil
and normal butane, from various points in Texas, Oklahoma, Kansas and Colorado
to Valero Energy's McKee, Three Rivers and Ardmore refineries. The following
table sets forth the average daily number of barrels of crude oil and other
feedstocks we transported through our crude oil pipelines, in the aggregate, in
each of the years presented.
-------------------------------------------------------------------------------------------
AGGREGATE THROUGHPUT
YEARS ENDED DECEMBER 31,
-----------------------------------------------
1998 1999 2000 2001 2002
-------------------------------------------------------------------------------------------
(BARRELS/DAY)
Crude oil and other feedstocks............ 265,243 280,041 294,784 303,811 348,023
-------------------------------------------------------------------------------------------
68
The following table sets forth information about each of our crude oil
pipelines.
-------------------------------------------------------------------------------------------------------
YEAR ENDED
DECEMBER 31, 2002
---------------------------
CAPACITY
ORIGIN AND DESTINATION LENGTH OWNERSHIP CAPACITY THROUGHPUT UTILIZATION
-------------------------------------------------------------------------------------------------------
(MILES) (BARRELS/DAY) (BARRELS/DAY)
Cheyenne Wells, CO to McKee.......... 252 100% 17,500 8,264 47%
Dixon, TX to McKee................... 44 100% 85,000 43,753 51%
Hooker, OK to Clawson, TX(1)......... 31 50% 22,000 18,542 84%
Clawson, TX to McKee(2).............. 41 100% 36,000 12,431 86%
Wichita Falls, TX to McKee(3)........ 272 100% 110,000 72,091 66%
Corpus Christi, TX to Three Rivers... 70 100% 120,000 68,701 57%
Ringgold, TX to Wasson, OK(2)........ 44 100% 90,000 34,602 55%
Healdton, OK to Ringling, OK......... 4 100% 52,000 14,861 29%
Wasson, OK to Ardmore, OK............ 25 100% 90,000 74,778 83%
----------------------------------------------------------------
783 622,500 348,023 61%
-------------------------------------------------------------------------------------------------------
(1) We receive 50% of the tariff with respect to 100% of the barrels transported
in the Hooker to Clawson crude oil pipeline. Accordingly, the capacity,
throughput and capacity utilization are given with respect to 100% of the
pipeline.
(2) This pipeline transports barrels relating to two tariff routes, one of which
begins at this pipeline's origin and ends at its destination and one of which is
a longer tariff route with an origin or destination on another pipeline of ours
which connects to this pipeline. Throughput disclosed above for this pipeline
reflects only the barrels subject to the tariff route beginning at this
pipeline's origin and ending at this pipeline's destination. To accurately
determine the actual capacity utilization of the pipeline, as well as aggregate
capacity utilization, all barrels passing through the pipelines have been taken
into account.
(3) On February 1, 2002, we acquired the Wichita Falls crude oil pipeline from
Valero Energy. For the month ended January 31, 2002, 2,000,000 barrels of
throughput is included in the above throughput barrels and capacity utilization
percentage.
REFINED PRODUCT PIPELINES
Our refined product pipelines transport refined products from Valero Energy's
Corpus Christi, McKee, Three Rivers and Ardmore refineries to our terminals or
to interconnections with third-party pipelines, for further distribution in
markets in Texas, Oklahoma, Colorado, New Mexico, Arizona and other
mid-continent states. The refined products transported in these pipelines
include gasoline, distillates (including diesel and jet fuel), natural gas
liquids (such as propane and butane), blendstocks and petrochemical raw
materials such as toluene, xylene and raffinate. During the year ended December
31, 2002, gasoline and distillates represented approximately 65% and 23%,
respectively, of the total throughput in our refined product pipelines. During
the three months ended March 31, 2003, gasoline and distillates represented
approximately 68% and 20%, respectively, of the total throughput in our refined
product pipelines.
The following table sets forth the average daily number of barrels of refined
products we transported through our refined product pipelines, in the aggregate,
in each of the years presented.
-------------------------------------------------------------------------------------------
AGGREGATE THROUGHPUT YEARS ENDED DECEMBER 31,
-----------------------------------------------
(BARRELS/DAY) 1998 1999 2000 2001 2002
-------------------------------------------------------------------------------------------
Refined products.......................... 268,064 297,397 309,803 308,047 295,456
-------------------------------------------------------------------------------------------
The following table sets forth information about each of our refined product
pipelines. In instances where we own less than 100% of a pipeline, our ownership
percentage is indicated,
69
and the capacity, throughput and capacity utilization information reflects only
our ownership interest in these pipelines.
---------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31,
2002
---------------------------
CAPACITY
ORIGIN AND DESTINATION LENGTH OWNERSHIP CAPACITY THROUGHPUT UTILIZATION
---------------------------------------------------------------------------------------------------
(MILES (BARRELS/DAY (BARRELS/DAY
McKee to El Paso, TX............ 408 67% 40,000 37,921 95%
McKee to Colorado Springs,
CO(1)........................ 256 100% 52,000 11,426 37%
Colorado Springs, CO to
Airport...................... 2 100% 12,000 1,242 10%
Colorado Springs, CO to Denver,
CO........................... 101 100% 32,000 7,619 24%
McKee to Denver, CO............. 321 30% 12,450 11,790 95%
McKee to Amarillo, TX (6")
(1)(2)....................... 49 100% 51,000 28,708 70%
McKee to Amarillo, TX
(8")(1)(2)................... 49 100%
Amarillo, TX to Abernathy, TX... 102 39% 6,812 7,742 114%
Amarillo, TX to Albuquerque,
NM........................... 293 50% 17,150 11,018 64%
McKee to Skellytown, TX......... 53 100% 52,000 9,563 18%
Skellytown, TX to Mont Belvieu,
TX (Skelly-Belvieu).......... 571 50% 26,000 16,718 64%
Three Rivers to San Antonio,
TX........................... 81 100% 33,600 25,539 76%
Three Rivers to Laredo, TX...... 98 100% 16,800 12,908 77%
Three Rivers to Corpus Christi,
TX........................... 72 100% 15,000 4,752 32%
Three Rivers to Pettus, TX
(12")........................ 29 100% 24,000 19,746 82%
Three Rivers to Pettus, TX
(8")......................... 29 100% 15,000 6,406 43%
Ardmore to Wynnewood, OK........ 31 100% 90,000 54,193 60%
El Paso, TX to Kinder Morgan.... 12 67% 40,000 28,165 70%
Corpus Christi to Pasadena,
TX........................... 204 100% 105,000 -- --
Pettus, TX to San Antonio, TX... 74 100% 24,000 -- --
Pettus, TX to Corpus Christi,
TX........................... 60 100% 15,000 -- --
Corpus Christi to Edinburg,
TX........................... 130 100% 27,100 -- --
Other refined product
pipeline(3).................. 289 50% N/A N/A N/A
-----------------------------------------------------------------
3,314 706,912 295,456 58%
---------------------------------------------------------------------------------------------------
(1) This pipeline transports barrels relating to two tariff routes, one of which
begins at this pipeline's origin and ends at this pipeline's destination and one
of which is a longer tariff route with an origin or destination on another
pipeline of ours that connects to this pipeline. Throughput disclosed above for
this pipeline reflects only the barrels subject to the tariff route beginning at
this pipeline's origin and ending at this pipeline's destination. To accurately
determine the actual capacity utilization of the pipeline, as well as aggregate
capacity utilization, all barrels passing through the pipelines have been taken
into account.
(2) The throughput, capacity, and capacity utilization information listed
opposite the McKee to Amarillo 6-inch pipeline includes both McKee to Amarillo
pipelines on a combined basis.
(3) Represents the idled 6-inch sections of the Amarillo to Albuquerque refined
product pipeline.
STORAGE FACILITIES, STORAGE TANKS AND TERMINALLING OPERATIONS
We own a total of five crude oil storage facilities in Texas and Oklahoma that
are interconnected with our crude oil pipelines. These facilities have a total
of 15 tanks with a capacity of 3,326,000 barrels. Our Crude Oil Storage Tanks,
which were acquired on March 18, 2003, include 58 Crude Oil Storage Tanks with a
capacity of 11,037,000 barrels. We also own 18 refined products terminals in
Texas, Colorado, New Mexico and California, including an asphalt terminal in
Pittsburg, California that we acquired in January 2003 and an asphalt
70
terminal in Houston, Texas that we acquired on March 18, 2003. These terminals
have a total of 170 tanks with a combined capacity of 3,910,700 barrels.
CRUDE OIL STORAGE FACILITIES
Our crude oil storage facilities serve the needs of Valero Energy's McKee, Three
Rivers and Ardmore refineries.
The following table sets forth information about the crude oil storage
facilities:
-----------------------------------------------------------------------------------------------
AVERAGE
THROUGHPUT
YEAR ENDED
NUMBER MODE OF MODE OF DECEMBER 31,
LOCATION CAPACITY OF TANKS RECEIPT DELIVERY 2002
----------------------------------------------------------------------------------------------- )
(BARRELS (BARRELS/DAY
Corpus Christi, TX(1).............. 1,600,000 4 Marine Pipeline 68,701
Dixon, TX.......................... 240,000 3 Pipeline Pipeline 43,753
Ringgold, TX....................... 600,000 2 Pipeline Pipeline 34,602
Wichita Falls, TX(2)............... 660,000 4 Pipeline Pipeline 72,091
Wasson, OK......................... 226,000 2 Pipeline Pipeline 74,778
----------------------------------------------------------
3,326,000 15 293,925
-----------------------------------------------------------------------------------------------
(1) We own the Corpus Christi crude oil storage facility and the land underlying
the facility is subject to a long-term operating lease.
(2) On February 1, 2002, we acquired the Wichita Falls crude oil storage
facility from Valero Energy. For the month ended January 31, 2002, 2,000,000
barrels of throughput is included in the above throughput barrels.
CRUDE OIL STORAGE TANKS
Our crude oil storage tanks and related assets consist of certain tank shells,
foundations, tank valves, tank gauges, pressure equipment, temperature
equipment, corrosion protection, leak detection, tank lighting and related
equipment located at the following Valero Energy refineries:
- West plant of the Corpus Christi refinery, which has a total capacity
to process 225,000 barrels per day of crude oil and other feedstocks;
- Texas City refinery, which has a total capacity to process 243,000
barrels per day of crude oil and other feedstocks; and
- Benicia refinery, which has a total capacity to process 180,000 barrels
per day of crude oil and other feedstocks.
The following table reflects the number of Crude Oil Storage Tanks and storage
capacity, as well as mode of receipt and delivery, for each of the West plant of
the Corpus Christi refinery, the Texas City refinery and the Benicia refinery.
---------------------------------------------------------------------------------------------
NUMBER MODE OF
TANK LOCATION CAPACITY OF TANKS MODE OF RECEIPT DELIVERY
---------------------------------------------------------------------------------------------
(BARRELS
Corpus Christi, TX (West Plant).......... 4,023,000 26 Marine Pipeline
Texas City, TX........................... 3,199,000 16 Marine Pipeline
Benicia, CA.............................. 3,815,000 16 Marine/Pipeline Pipeline
--------------------------------------------------
Total.................................... 11,037,000 58
---------------------------------------------------------------------------------------------
71
REFINED PRODUCT TERMINALS
Our 18 refined product terminals have automated loading facilities available 24
hours a day. Billing of Valero Energy's customers is electronically accomplished
by the Fuels Automation and Nomination System (FANS). This automatic system
provides for control of allocations, credit and carrier certification by remote
input of data by customers. All terminals have an electronic monitoring and
control system that monitors the effectiveness of the ground protection and
vapor control and will cause an automated shutdown of the terminal operations if
necessary. For environmental and safety protection, all terminals have primary
vapor control systems consisting of flares, vapor combustors or carbon
absorption vapor recovery units.
The following table sets forth information about each of our refined product
terminals:
--------------------------------------------------------------------------------------------------
AVERAGE THROUGHPUT
NUMBER MODE OF MODE OF YEAR ENDED
TERMINAL LOCATION CAPACITY OF TANKS RECEIPT DELIVERY DECEMBER 31, 2002
--------------------------------------------------------------------------------------------------
(BARRELS) (BARRELS/DAY)
Abernathy, TX............ 171,000 11 Pipeline Truck 7,215
Amarillo, TX............. 271,000 14 Pipeline Truck/Pipeline 20,731
Albuquerque, NM.......... 193,000 10 Pipeline Truck/Pipeline 10,494
Denver, CO............... 111,000 10 Pipeline Truck 17,019
Colorado Springs,
CO(1)................. 324,000 8 Pipeline Truck/Pipeline 11,426
El Paso, TX(2)........... 347,000 22 Pipeline Truck/Pipeline 39,756
Southlake, TX............ 286,000 6 Pipeline Truck 21,806
Corpus Christi, TX(1).... 371,000 15 Pipeline Marine/Pipeline 7,290
San Antonio, TX (south).. 221,000 10 Pipeline Truck 18,160
Laredo, TX............... 203,000 6 Pipeline Truck 12,908
Harlingen, TX(1)......... 314,000 7 Marine Truck 8,754
San Antonio, TX (east)... 148,200 8 Pipeline Truck/Pipeline --
Edinburg, TX............. 184,600 7 Pipeline Truck --
Houston, TX (Hobby
Airport) 107,100 6 Pipeline Truck/Pipeline --
Placedo (Victoria), TX... 98,000 4 Pipeline Truck --
Pasadena, TX (asphalt
terminal)............. 75,000 3 Marine Truck --
Almeda, TX............... 105,800 6 Pipeline Truck --
Pittsburg, CA (asphalt
terminal)(3).......... 380,000 17 Rail Truck N/A
-----------------------------------------------------------------------
3,910,700 170 175,559
--------------------------------------------------------------------------------------------------
(1) We own the Colorado Springs, Corpus Christi and Harlingen refined products
terminals and the land underlying these facilities is subject to long-term
operating leases.
(2) We have a 66.67% ownership interest in the El Paso refined product terminal.
The capacity and throughput amounts represent the proportionate share of
capacity and throughput attributable to our ownership interest. The throughput
represents barrels distributed from the El Paso refined product terminal and
deliveries to a third-party refined product pipeline.
(3) We acquired the asphalt terminal in Pittsburg, California from Telfer Oil
Company in January 2003.
PIPELINE, STORAGE FACILITY, AND TERMINAL CONTROL OPERATIONS
All of our crude oil and refined product pipelines are operated via satellite
communication systems from one of two central control rooms located in San
Antonio and Dumas, Texas (near Valero Energy's McKee refinery). Each control
center can provide backup capability for the other, and each center is capable
of monitoring and controlling all of the pipelines. There is
72
also a backup control center located at the San Antonio refined product terminal
approximately 25 miles from the primary control center in San Antonio.
The control centers operate with modern, state-of-the-art System Control and
Data Acquisition systems (SCADA). The control centers are equipped with computer
systems designed to continuously monitor real time operational data, including
crude oil and refined product throughput, flow rates and pressures. In addition,
the control centers monitor alarms and throughput balances. The control centers
operate remote pumps, motors, engines and valves associated with the delivery of
crude oil and refined products. The computer systems are designed to enhance
leak-detection capabilities, sound automatic alarms if operational conditions
outside pre-established parameters occur and provide for remote-controlled
shutdown of pump stations on the pipelines. Pump stations, crude oil storage
facilities and meter-measurement points along the pipelines are linked by
satellite or telephone communication systems for remote monitoring and control.
A number of our crude oil storage facilities and refined product terminals are
also operated through the central control centers. Other crude oil storage
facilities and refined product terminals and all of the Crude Oil Storage Tanks
are modern, automated facilities but are locally controlled.
OUR RELATIONSHIP WITH VALERO ENERGY
GENERAL
Valero Energy owns and operates 12 refineries, six of which are served by our
pipelines, storage tanks and/or terminals:
- the Corpus Christi refinery, which has a current total capacity to
process approximately 340,000 barrels per day of crude oil and other
feedstocks;
- the Benicia refinery, which has a current total capacity to process
approximately 180,000 barrels per day of crude oil and other feedstocks;
- the Texas City refinery, which has a current total capacity to process
approximately 243,000 barrels per day of crude oil and other feedstocks.
- the McKee refinery, which has a current total capacity to process
approximately 170,000 barrels per day of crude oil and other feedstocks,
making it the largest refinery located between the Texas Gulf Coast and
the West Coast;
- the Three Rivers refinery, which has a current total capacity to
process approximately 98,000 barrels per day of crude oil and other
feedstocks; and
- the Ardmore refinery, which has a current total capacity to process
approximately 85,000 barrels per day of crude oil and other feedstocks.
Valero Energy markets the refined products produced by these six refineries
primarily in Texas, Oklahoma, Colorado, New Mexico, California, Arizona and
other mid-continent states through a network of company-operated and
dealer-operated convenience stores, and through wholesale and spot market sales
and exchange agreements.
During the year ended December 31, 2002, we generated revenues of $118.5
million, with Valero Energy accounting for 99% of this amount. Although we
intend to pursue strategic third-party acquisitions as opportunities may arise,
management expects to continue to derive most of our revenues from business with
Valero Energy for the foreseeable future.
73
PIPELINES AND TERMINALS USAGE AGREEMENT
Our operations are strategically located within Valero Energy's refining and
marketing supply chain, but we do not own or operate any refining or marketing
assets. Valero Energy is dependent upon us to provide transportation services
that support the refining and marketing operations in the markets served by
Valero Energy's McKee, Three Rivers and Ardmore refineries. Under a pipelines
and terminals usage agreement, Valero Energy has agreed through April 1, 2008:
- to transport in our crude oil pipelines at least 75% of the aggregate
volumes of the crude oil shipped to the McKee, Three Rivers and Ardmore
refineries;
- to transport in our refined product pipelines at least 75% of the
aggregate volumes of the refined products (excluding residual oils,
primarily asphalt and fuel oil) shipped from these refineries; and
- to use our refined product terminals for terminalling services for at
least 50% of the refined products (excluding residual oils, primarily
asphalt and fuel oil) shipped from these refineries.
Valero Energy met and exceeded its obligations under the pipelines and terminals
usage agreement during the year ended December 31, 2002 and the three months
ended March 31, 2003. In addition, Valero Energy has agreed to remain the
shipper for crude oil and refined products owned by it that are transported
through our pipelines, and neither challenge, nor cause others to challenge, our
interstate or intrastate tariff rates for the transportation of crude oil and
refined products until at least April 1, 2008.
Valero Energy's obligation to use our crude oil and refined product pipelines
and terminals may be suspended if Valero Energy ceases to own the McKee, Three
Rivers or Ardmore refineries, if material changes in the market conditions occur
for the transportation of crude oil and refined products, or in the markets
served by these refineries, that have a material adverse effect on Valero
Energy, or if we are unable to handle the volumes Valero Energy requests to be
transported due to operational difficulties with the pipelines or terminals. In
the event Valero Energy does not transport in our pipelines or use our terminals
to store and ship the minimum volume requirements and our obligation to do so
has not been suspended under the terms of the agreement, it is required to make
a cash payment determined by multiplying the shortfall in volume by the weighted
average tariff rate or terminal fee charged.
SERVICES AGREEMENT
We do not have any employees. Under a services agreement with Valero Energy,
employees of Valero Energy perform services on our behalf, and Valero Energy is
reimbursed for the services rendered by its employees. In addition, we pay
Valero Energy an annual fee of $5.2 million under the services agreement to
perform and provide other services, including legal, accounting, treasury,
engineering and information technology. The fee is adjustable annually based on
the Consumer Price Index published by the U.S. Department of Labor and may be
adjusted to take into account additional service levels required by the
acquisition or construction of additional assets.
74
THROUGHPUT COMMITMENT AGREEMENT
In conjunction with the South Texas Pipeline System contribution, Valero Energy
agreed, for an initial period of seven years, to:
- transport in the Houston and Valley pipeline systems an aggregate of
40% of the Corpus Christi refinery gasoline and distillate production but
only if the combined throughput on these pipelines is less than 110,000
barrels per day,
- transport in the Pettus to San Antonio refined product pipeline 25% of
the Three Rivers refinery gasoline and distillate production and in the
Pettus to Corpus Christi refined product pipeline 90% of the Three Rivers
refinery raffinate production,
- use the Houston asphalt terminal for an aggregate of 7% of the asphalt
production of the Corpus Christi refinery,
- use the Edinburg refined product terminal for an aggregate of 7% of the
gasoline and distillate production of the Corpus Christi refinery, but
only if the throughput at this terminal is less than 20,000 barrels per
day; and
- use the San Antonio terminal for 75% of the throughput in the Pettus to
San Antonio refined product pipeline.
In the event Valero Energy does not transport in the pipelines or use the
terminals to handle the minimum volume requirements and if its obligation has
not been suspended under the terms of the agreement, it is required to make a
cash payment determined by multiplying the shortfall in volume by the applicable
weighted average tariff rate or terminal fee. Also, Valero Energy agreed to
allow us to increase our tariff to compensate for any revenue shortfall in the
event we have to curtail throughput on the Corpus Christi to Edinburg refined
product pipeline as a result of repair and replacement activities. Valero Energy
has indicated to us that the segment of the Corpus Christi to Edinburg refined
product pipeline that runs approximately 60 miles south from Corpus Christi to
Seeligson Station may require repair and, in some places, replacement. Valero
Energy has agreed to indemnify us for any costs we incur to repair and replace
this segment in excess of $1.5 million, which is approximately the amount of
capital expenditures we expect to spend on this segment for the next three
years.
TERMINALLING AGREEMENTS
Also in conjunction with the South Texas pipeline system contribution, Valero
Energy agreed, during an initial period of five years, to pay us a terminalling
fee for each barrel of refined product stored or handled by or on behalf of
Valero Energy at the terminals included in the South Texas Pipelines and
Terminals, including an additive fee for gasoline additives blended at the
terminals. At the Hobby Airport terminal, Valero Energy will also pay a
filtering fee for each barrel of jet fuel stored or handled at the terminal.
HANDLING AND THROUGHPUT AGREEMENT
In conjunction with the Crude Oil Storage Tank contribution, Valero Energy
agreed to pay us a fee, for an initial period of ten years, for 100% of crude
oil delivered to each of the West plant of the Corpus Christi refinery, the
Texas City refinery or the Benicia refinery and to use us for handling all
deliveries to these refineries. The throughput fees under the agreement are
adjustable annually, generally based on 75% of the regional consumer price index
applicable to the location of each refinery.
75
SERVICES AND SECONDMENT AGREEMENTS
Also in conjunction with the Crude Oil Storage Tank contribution, Valero Energy
agreed to second to us personnel who will provide operating and routine
maintenance services with respect to the Crude Oil Storage Tanks. The annual
reimbursement for services is an aggregate $3.5 million for the initial year and
is subject to adjustment based on actual expenses incurred and increases in the
regional consumer price index. The initial term of the Services and Secondment
Agreements is ten years with an option for us to extend for an additional five
years.
LEASE AND ACCESS AGREEMENTS
Under three separate lease and access agreements, Valero Energy leases to us the
real property on which the Crude Oil Storage Tanks are located for an aggregate
of $0.7 million per year. The initial term of each lease will be 25 years,
subject to automatic renewal for successive one-year periods thereafter. We may
terminate any of these leases upon 30 days notice after the initial term or at
the end of a renewal period. In addition, we may terminate any of these leases
upon 180 days notice prior to the expiration of the current term if we cease to
operate the Crude Oil Storage Tanks or cease business operations.
OMNIBUS AGREEMENT
The omnibus agreement governs potential competition between Valero Energy and
us. Under the omnibus agreement, Valero Energy has agreed, and will cause its
controlled affiliates to agree, for so long as Valero Energy controls the
general partner, not to engage in, whether by acquisition or otherwise, the
business of transporting crude oil and other feedstocks or refined products,
including petrochemicals, or operating crude oil storage facilities or refined
product terminalling assets in the United States. This restriction does not
apply to:
- any business retained by Ultramar Diamond Shamrock (and now part of
Valero Energy) as of April 16, 2001, the closing of our initial public
offering, or any business owned by Valero Energy at the date of its
acquisition of Ultramar Diamond Shamrock on December 31, 2001;
- any business with a fair market value of less than $10 million;
- any business acquired by Valero Energy in the future that constitutes
less than 50% of the fair market value of a larger acquisition, provided
we have been offered and declined the opportunity to purchase the
business; and
- any newly constructed pipeline, terminalling or storage assets that we
have not offered to purchase at fair market value within one year of
construction.
Also under the omnibus agreement, Valero Energy has agreed to indemnify us for
environmental liabilities related to the assets transferred to us in connection
with our initial public offering that arose prior to April 16, 2001 and are
discovered within 10 years after April 16, 2001 (excluding liabilities resulting
from a change in law after April 16, 2001).
76
RECENT CONTRIBUTIONS
CRUDE OIL STORAGE TANK CONTRIBUTION
On March 18, 2003, Valero Energy contributed 58 crude oil and intermediate
feedstock storage tanks and related assets to us for $200 million.
The storage tank assets consist of all of the tank shells, foundations, tank
valves, tank gauges, pressure equipment, temperature equipment, corrosion
protection, leak detection, tank lighting and related equipment and
appurtenances associated with the specified crude oil storage tanks and
intermediate feedstock tanks located at Valero Energy's:
- West plant of the Corpus Christi refinery in Corpus Christi, Texas,
which has a current total capacity to process 225,000 barrels per day of
crude oil and other feedstocks;
- Texas City refinery in Texas City, Texas, which has a current total
capacity to process 243,000 barrels per day of crude oil and other
feedstocks; and
- Benicia refinery in Benicia, California, which has a current total
capacity to process 180,000 barrels per day of crude oil and other
feedstocks.
The Corpus Christi refinery consists of two plants, the West plant and the East
plant, with a combined total capacity to process 340,000 barrels per day of
crude oil and other feedstocks. Since June 1, 2001, (the date Valero Energy
began operating the East plant) Valero Energy has operated both plants as one
refinery. Unless otherwise indicated, references to the Corpus Christi refinery
include both the West and the East plants.
Historically, nearly all of the crude oil and intermediate feedstocks that are
used in the West plant of the Corpus Christi refinery, the Texas City refinery
and the Benicia refinery have passed through these tanks. These feedstocks are
held in the tanks or are segregated and blended to meet the refineries' process
requirements. These tanks have approximately 11,037,000 barrels of storage
capacity in the aggregate. The following table reflects the number of crude oil
and intermediate feedstock tanks and storage capacity, as well as mode of
receipt and delivery, for each of the West plant of the Corpus Christi refinery,
the Texas City refinery and the Benicia refinery.
---------------------------------------------------------------------------------------------
NUMBER OF MODE OF MODE OF
LOCATION CAPACITY TANKS RECEIPT DELIVERY
---------------------------------------------------------------------------------------------
(BARRELS
Corpus Christi, TX (West
plant)........................ 4,023,000 26 Marine Pipeline
Texas City, TX................... 3,199,000 16 Marine Pipeline
Benicia, CA...................... 3,815,000 16 Marine/pipeline Pipeline
----------------------------------------------------------
TOTAL......................... 11,037,000 58
---------------------------------------------------------------------------------------------
The tanks are, on average, approximately 25 years old. The tank assets have been
well maintained and we estimate that they have remaining useful lives of 25 to
30 years. The crude oil storage tank contribution does not include a transfer of
the refined product tanks or the land underlying the tank assets at these three
refineries nor does it include any of the crude oil and other feedstock or
refined product tankage currently owned by Valero Energy at the East plant of
Valero Energy's Corpus Christi refinery or its other nine refineries. The land
on which the tank assets are located will be leased to us by Valero Energy for
an aggregate of $0.7 million per year. The initial term of each lease will be 25
years, subject to automatic
77
renewal for successive one-year periods thereafter. We may terminate any of
these leases upon 30 days notice after the initial term or at the end of a
renewal period. In addition, we may also terminate any of these leases upon 180
days notice prior to the expiration of the current term if we cease to operate
the tank assets or cease business operations.
The following table sets forth the average daily throughput of the specified
feedstocks (crude oil, gas oil, residual fuel oil, vacuum gas oil, vacuum tower
bottoms and light cycle oil) for these storage tanks for each of the West plant
of the Corpus Christi refinery, the Texas City refinery and the Benicia refinery
for the five-year period ended December 31, 2002.
------------------------------------------------------------------------------------------------
YEARS ENDED DECEMBER 31,
-----------------------------------------------
LOCATION 1998 1999 2000 2001 2002
------------------------------------------------------------------------------------------------
(BARRELS/DAY
Corpus Christi, TX (West plant)................ 148,501 140,013 157,684 157,452 150,809
Texas City, TX................................. 156,389 156,448 158,183 185,109 146,068
Benicia, CA(1)................................. -- -- 141,353 141,934 136,603
-----------------------------------------------
Total average throughput.................... 304,890 296,461 457,220 484,495 433,480
------------------------------------------------------------------------------------------------
(1) Valero Energy acquired the Benicia refinery on May 15, 2000. The throughput
volumes for 2000 are based on the period from May 16, 2000 through December 31,
2000.
Throughputs of the specified feedstocks at these refineries vary from year to
year as a result of market conditions and maintenance turnarounds, as well as
increases in refinery capacities resulting from capital expenditures. In 2002,
refined product inventories industry-wide were high and imports of refined
products were at record levels, resulting in unfavorable refining and marketing
conditions. According to the Energy Information Agency, U.S. refinery
utilization in 2002 was 89.9% of capacity compared to an average utilization of
93.6% for the period of 1997 through 2001. As a result of these conditions,
Valero Energy initiated economic-based refinery production cuts, by as much as
25% during certain times of the year, at certain of its refineries. As refining
margins increased in the latter half of 2002, the refineries returned to normal
operating levels; however, full year 2002 throughput levels were lower than in
2001. Volumes at the West plant of the Corpus Christi refinery were negatively
impacted by market conditions in 1999 and 2002. Additionally, the West plant of
the Corpus Christi refinery underwent a maintenance turnaround for a period of
20 days in 2002 that involved its heavy oil cracker.
Volumes at the Texas City refinery were adversely impacted in 2002 by market
conditions and a 45-day plant-wide turnaround in which major units at the
facility were expanded and upgraded. However, in 2001, volumes benefitted from
above-average refining margins and high refinery production rates. Additionally,
2000 volumes were adversely impacted by construction and maintenance activities
related to the expansion of two crude oil units.
Volumes at the Benicia refinery were adversely impacted by unplanned downtime in
2002. There have been no major turnarounds needed since Valero Energy purchased
this refinery in 2000. Although this refinery is completing a capital project to
convert its gasoline production to meet stricter California gasoline standards
by the end of 2003, we do not believe that this project will materially impact
volumes at this refinery.
Valero Energy does not have any significant turnarounds planned for 2003 at any
of these refineries.
78
Throughput Fee. In connection with the crude oil storage tank contribution,
Valero Energy entered into a handling and throughput agreement with us pursuant
to which Valero Energy agreed to pay us a fee, for an initial period of ten
years, for 100% of specified feedstocks delivered to each of the West plant of
the Corpus Christi refinery, the Texas City refinery or the Benicia refinery and
to use us for handling all deliveries to these refineries as long as we are able
to provide the handling and throughput services. Subject to force majeure and
other exceptions, we will reimburse Valero Energy for the cost of substitute
services should we not be able to provide these services. Valero Energy also
agreed pursuant to the handling and throughput agreement, to the following
initial throughput fee per barrel for each barrel of the specified feedstocks
received by these refineries:
---------------------------------------------------------------------------------
THROUGHPUT FEE
PER BARREL FOR THE
REFINERY YEAR 2003
---------------------------------------------------------------------------------
West plant of Corpus Christi................................ $0.203
Texas City.................................................. 0.121
Benicia..................................................... 0.296
---------------------------------------------------------------------------------
For specified feedstocks delivered by us to these refineries after December 31,
2003, the throughput fee per barrel will be adjusted annually, generally based
on 75% of the regional consumer price index applicable to the location of each
refinery. The initial term of the handling and throughput agreement will be ten
years and may be extended by Valero Energy for up to an additional five years.
Operating Expenses. We entered into services and secondment agreements with
Valero Energy pursuant to which 25 employees, on a full-time equivalent basis,
of Valero Energy are seconded to us to provide operating and routine maintenance
services with respect to the storage tank assets under the direction,
supervision and control of a designated employee of Valero GP, LLC performing
services for us. We will reimburse Valero Energy for the costs and expenses of
the employees providing these operating and routine maintenance services. The
annual reimbursement for services is an aggregate $3.5 million for the year
following closing and is subject to adjustment for the actual operating and
routine maintenance costs and expenses incurred and increases in the regional
consumer price index. In addition, we have agreed to pay Valero Energy $0.7
million a year for the lease of the real property on which the tank assets are
located. The initial terms of the services and secondment agreements will be ten
years with an option to extend for an additional five years. We may terminate
these agreements upon 30 days written notice.
In addition to the fees we have agreed to pay Valero Energy under the services
and secondment agreements, we are responsible for operating expenses and
specified capital expenditures related to the storage tank assets that are not
addressed in the services and secondment agreements. These operating expenses
and capital expenditures include tank safety inspections, maintenance and
repairs, certain environmental expenses, insurance premiums and ad valorem
taxes. Based on our experience operating and maintaining similar assets and our
knowledge of these assets, we estimate that:
- tank safety inspections, maintenance and repairs will initially cost
approximately $4.5 million per year;
79
- environmental expenses, insurance premiums and ad valorem taxes will
initially be approximately $1.2 million per year; and
- maintenance capital expenditures will initially be approximately $0.6
million per year.
The operating expenses and maintenance capital expenditures are not addressed in
the services and secondment agreements and are estimates only, even though they
are based on assumptions made by us based on our experience operating and
maintaining similar assets and our knowledge of these assets. Should our
assumptions and expectations related to these operating expenses differ
materially from actual future results, we may not be able to generate net income
sufficient to sustain an increase in available cash per unit at currently
expected levels or at all.
Environmental Indemnification. In connection with the crude oil storage tank
contribution, Valero Energy has agreed to indemnify us from environmental
liabilities related to:
- the storage tank assets that arose as a result of events occurring or
conditions existing prior to the closing of the crude oil storage tank
contribution;
- any real or personal property on which the storage tank assets are
located that arose prior to the closing of the crude oil storage tank
contribution; and
- any actions taken by Valero Energy before, on or after the closing of
the crude oil storage tank contribution, in connection with the
ownership, use or operation of the West plant of the Corpus Christi
refinery, the Texas City refinery and the Benicia refinery or the
property on which the storage tank assets are located, or any accident or
occurrence in connection therewith.
No Historical Financial Information. Historically, the storage tank assets have
been operated as part of Valero Energy's refining operations and as a result, no
separate fee has been charged related to these assets and, accordingly, no
revenues related to these assets have been recorded. The storage tank assets
have not been accounted for separately and have not been operated as an
autonomous business unit. Instead, they have been operated as part of business
units that comprise part of Valero Energy's refining operations, and operating
decisions have been made to maximize the overall profits of the refining
businesses rather than the profits of any individual refinery asset such as the
storage tank assets. We intend to manage and operate the storage tank assets to
maximize revenues and cash available for distribution to Valero L.P.'s
unitholders by charging Valero Energy and third parties a market-based
throughput fee.
Financial Impact. Based on historical throughput volumes for the year ended
December 31, 2002 and throughput fees for the year 2003 as agreed upon with
Valero Energy, our aggregate revenues for the storage tank assets would have
been approximately $32.4 million for the year ended December 31, 2002. Many
factors could cause future results to differ from expected results, including a
decline in Valero Energy's refining throughput, due to market conditions or
otherwise, at the West plant of the Corpus Christi refinery, the Texas City
refinery or the Benicia refinery.
Conflicts Committee Approval. The crude oil storage tank contribution has been
approved by a conflicts committee of the board of directors of Valero GP, LLC
based on an opinion from its independent financial advisor that the
consideration paid by us pursuant to the contribution agreement related to the
crude oil storage tank contribution was fair, from a financial point of view, to
Valero L.P. and its public unitholders.
80
SOUTH TEXAS PIPELINE SYSTEM CONTRIBUTION
On March 18, 2003 Valero Energy contributed the South Texas pipeline system,
comprised of the Houston pipeline system, the San Antonio pipeline system and
the Valley pipeline system and related terminalling assets, to us for $150
million. The three pipeline systems that make up the South Texas pipeline system
contribution are intrastate common carrier refined product pipelines that
connect Valero Energy's Corpus Christi refinery to the Houston and Rio Grande
Valley, Texas markets and connect Valero Energy's Three Rivers refinery to the
San Antonio, Texas market and to Valero Energy's Corpus Christi refinery. The
San Antonio pipeline system (the Pettus to San Antonio and the Pettus to Corpus
Christi refined product pipelines) connects with the Three Rivers to Pettus
refined product pipelines already owned by us. The San Antonio pipeline system
delivers refined products to the San Antonio and Corpus Christi, Texas markets
that it receives through the two existing pipelines. Each of the three
intrastate pipelines is subject to the regulatory jurisdiction of the Texas
Railroad Commission.
On June 1, 2001, Valero Energy and subsidiaries of El Paso Corporation
consummated two capital leases with an associated purchase option with respect
to the East plant of the Corpus Christi refinery and the related South Texas
pipeline system. Valero Energy has been operating these assets since that date.
On February 28, 2003, Valero Energy exercised the purchase option for
approximately $289.3 million in cash.
The following table sets forth the average daily throughput of gasoline,
distillate and blendstock volumes transported from the Corpus Christi refinery
and the Three Rivers refinery and the mode of transportation for these volumes
for the period from June 1, 2001 through December 31, 2001 and for the year
ended December 31, 2002.
-------------------------------------------------------------------------------------------
JUNE 1 THROUGH YEAR ENDED
DECEMBER 31, DECEMBER 31,
(BARRELS/DAY) 2001 2002
-------------------------------------------------------------------------------------------
CORPUS CHRISTI REFINERY:
South Texas pipeline system(1)........................... 113,896 114,947
Other(2)................................................. 132,888 113,236
------------------------------
TOTAL................................................. 246,784 228,183
------------------------------
THREE RIVERS REFINERY:
South Texas pipeline system(3)........................... 25,240 26,153
Other pipelines owned by Valero L.P. .................... 44,774 43,199
Other(4)................................................. 10,206 9,649
------------------------------
TOTAL................................................. 80,220 79,001
-------------------------------------------------------------------------------------------
(1) Represents throughput in the Corpus Christi to Houston and Corpus Christi to
Edinburg refined product pipelines.
(2) Represents volumes that were transported by truck, marine and rail.
(3) All volumes transported through the South Texas pipeline system are first
transported in the Three Rivers to Pettus refined product pipelines. These
volumes have been excluded from the volumes included under "Other pipelines
owned by Valero L.P."
(4) Represents volumes that were delivered via Valero Energy's truck loading
rack at this refinery.
The Houston pipeline system and the Valley pipeline system provide the primary
pipeline access for refined products from Valero Energy's Corpus Christi
refinery. Other than pipelines, marine transportation has historically been the
primary mode of transportation for refined products from this refinery. The San
Antonio pipeline system, in conjunction with existing refined product pipelines
we own, provide essentially the only pipeline access to end markets from
81
Valero Energy's Three Rivers refinery. Refined products are also delivered via
Valero Energy's truck loading rack at this refinery.
Houston Pipeline System. The Houston pipeline system includes the Corpus Christi
to Houston refined product pipeline, which is a 12-inch refined product pipeline
that runs approximately 204 miles from Valero Energy's Corpus Christi refinery
located in Corpus Christi, Texas, to Placedo, Texas and on to Pasadena, Texas.
This pipeline interconnects with major third party pipelines with delivery
points throughout the Eastern United States. In October 2002, the Corpus Christi
to Houston refined product pipeline was expanded from 95,000 barrels per day to
105,000 barrels per day. At present we are transporting over 100,000 barrels per
day of refined product in this pipeline. In 2002, the Corpus Christi refinery
provided 88% of the pipeline's throughput and third party shippers provided the
remaining 12%. In addition, this pipeline system includes the following four
refined product terminals:
- Hobby Airport refined product terminal located at Hobby airport in
Houston, Texas, which includes 107,100 barrels of jet fuel storage and
associated truck rack and re-fueler facilities;
- Placedo refined product terminal located near Victoria, Texas, which
includes 98,000 barrels of refined product storage and associated truck
loading rack;
- Houston asphalt terminal located on the Houston ship channel, which
includes 75,000 barrels of asphalt storage, truck loading facilities and
a barge dock; and
- Almeda refined product terminal located in south Houston, which
includes 105,800 barrels of refined product storage and associated truck
loading rack, which is currently idle.
San Antonio Pipeline System. The San Antonio pipeline system is comprised of two
segments: the north segment, which runs from Pettus to San Antonio and the south
segment, which runs from Pettus to Corpus Christi. The north segment originates
in Pettus, Texas, where it connects to our existing 12-inch Three Rivers to
Pettus refined product pipeline and terminates in San Antonio, Texas at the San
Antonio refined product terminal. This San Antonio refined product terminal,
which has approximately 148,200 barrels of storage capacity and an associated
truck loading rack, is separate from the San Antonio terminal currently owned by
us. The north segment is 74 miles long and consists of 6-inch and 12-inch
pipeline segments with a capacity of approximately 24,000 barrels per day. This
pipeline segment transports refined products from the Three Rivers refinery,
located between Corpus Christi and San Antonio, to the San Antonio refined
product terminal.
The south segment originates in Pettus, Texas, where it connects to our existing
8-inch Three Rivers to Pettus refined product pipeline and terminates in Corpus
Christi, Texas at Valero Energy's Corpus Christi refinery. The south segment is
60 miles long and consists of 6-inch, 8-inch, 10-inch, and 12-inch pipeline
segments with a capacity of approximately 15,000 barrels per day. This pipeline
segment transports distillates and blendstocks primarily raffinate, from the
Three Rivers refinery to the Corpus Christi refinery. Valero Energy is the only
shipper in both segments of the San Antonio pipeline system. Although it is
possible to operate the two segments of the San Antonio pipeline as a continuous
pipeline from Corpus Christi to San Antonio, this is rarely done and we have no
present intention to do so.
Valley Pipeline System. The Valley pipeline system contains the Corpus Christi
to Edinburg refined product pipeline and the Edinburg refined product terminal.
This pipeline is a refined product pipeline that consists of 6-inch and 8-inch
segments and extends 130 miles from Corpus
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Christi, Texas to Edinburg, Texas. The capacity of the Corpus Christi to
Edinburg refined product pipeline was expanded in 2002 from 24,000 barrels per
day to approximately 27,100 barrels per day. Refined products shipped in the
Valley pipeline system are distributed in the Southern Rio Grande Valley area of
Texas, which includes the cities of Edinburg and McAllen, Texas with occasional
spot sales to Petroleos Mexicanos for distribution in Mexico. Valero Energy is
the only shipper in this pipeline. The Edinburg refined product terminal
includes approximately 184,600 barrels of refined product storage and an
associated truck loading rack.
The following table sets forth the origin and destination, length in miles,
ownership percentage, capacity and average throughput for the period from June
1, 2001 (the date Valero Energy began operating the South Texas pipeline system)
through December 31, 2001 and the year ended December 31, 2002, for each refined
product pipeline associated with the South Texas pipeline system contribution.
----------------------------------------------------------------------------------------------
AVERAGE THROUGHPUT
---------------------------
JUNE 1, 2001
THROUGH YEAR ENDED
DECEMBER 31, DECEMBER 31,
ORIGIN AND DESTINATION LENGTH OWNERSHIP CAPACITY 2001 2002
----------------------------------------------------------------------------------------------
(BARRELS/DAY) (BARRELS/DAY)
HOUSTON PIPELINE SYSTEM:
Corpus Christi refinery
to Pasadena, TX(1).... 204 100% 105,000 94,292 92,591
SAN ANTONIO PIPELINE SYSTEM:
Pettus, TX to San
Antonio, TX........... 74 100% 24,000 19,021 19,747
Pettus, TX to Corpus
Christi, TX........... 60 100% 15,000 6,219 6,406
VALLEY PIPELINE SYSTEM:
Corpus Christi refinery
to Edinburg, TX....... 130 100% 27,100 19,604 22,356
----------------------------------------------------------------
468 171,100 139,136 141,100
----------------------------------------------------------------------------------------------
(1) Including volumes delivered to Placedo and Pasadena, Texas.
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The following table outlines the location, capacity, number of tanks, mode of
receipt and delivery and average throughput for the period from June 1, 2001
(the date Valero Energy began operating the South Texas pipeline system) through
December 31, 2001 and the year ended December 31, 2002, for each refined product
terminal associated with the South Texas pipeline contribution.
--------------------------------------------------------------------------------------------------------
AVERAGE THROUGHPUT
---------------------------
JUNE 1, 2001
THROUGH YEAR ENDED
NUMBER OF MODE OF MODE OF DECEMBER 31, DECEMBER 31,
TERMINAL LOCATION CAPACITY TANKS RECEIPT DELIVERY 2001 2002
--------------------------------------------------------------------------------------------------------
(BARRELS)
(BARRELS/DAY)
HOUSTON PIPELINE
SYSTEM:
Houston, TX
Hobby Airport... 107,100 6 Pipeline Truck/pipeline 4,524 4,436
Placedo 98,000 4 Pipeline Truck 4,113 3,030
(Victoria)......
Asphalt......... 75,000 3 Marine Truck 2,019 1,453
Almeda(1)....... 105,800 6 Pipeline Truck 2,724 969
SAN ANTONIO PIPELINE
SYSTEM:
San Antonio, TX.... 148,200 8 Pipeline Truck/pipeline 19,021 19,747
VALLEY PIPELINE
SYSTEM:
Edinburg, TX....... 184,600 7 Pipeline Truck 19,604 22,356
--------------------------------------------------------------------------------
718,700
34 52,005 51,991
--------------------------------------------------------------------------------------------------------
(1) The Almeda terminal is currently idle.
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The following table sets forth the tariff rate for each pipeline and the
throughput fee for each terminal for 2003. In addition, the table reflects the
overall impact, if any, to the historical revenues for the year ended December
31, 2002 for each of the Houston, San Antonio and Valley pipeline systems had
the 2003 tariff rates and throughput fees been in effect beginning January 1,
2002 and if 2002 volumes were unchanged.
------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 2002
2003 TARIFF RATES -----------------------------------------
AND THROUGHPUT HISTORICAL AS ADJUSTED (DECREASE)
FEES REVENUES REVENUES OR INCREASE
------------------------------------------------------------------------------------------------------
(PER BARREL) (IN THOUSANDS)
PIPELINES:
-----------
HOUSTON PIPELINE SYSTEM:
Corpus Christi refinery to Hobby
Airport in Houston, TX............ $ 0.485 $ 15,854 $ 15,854 $ --
Corpus Christi refinery to Placedo,
TX................................ 0.375 415 415
SAN ANTONIO PIPELINE SYSTEM:
Pettus, TX to San Antonio, TX........ 0.150 2,196 1,177 (1,019)
Pettus, TX to San Antonio, TX to
Union Pacific Railroad............ 0.600 248 248 --
Pettus, TX to Corpus Christi, TX..... 0.315 737 737 --
VALLEY PIPELINE SYSTEM:
Corpus Christi refinery to Edinburg,
TX................................ 0.705 5,753 5,753 --
-------------------------------------------------------------
TOTAL PIPELINES................ 25,203 24,184 (1,019)
-------------------------------------------------------------
TERMINALS(1):
-----------
HOUSTON PIPELINE SYSTEM:
Houston, TX
Hobby Airport..................... 0.28 340 456 116
Placedo (Victoria)................ 0.31 216 339 123
Asphalt........................... 1.75 530 928 398
Almeda(2)......................... -- 75 75 --
SAN ANTONIO PIPELINE SYSTEM:
San Antonio, TX(3)................... 0.34 106 2,473 2,367
VALLEY PIPELINE SYSTEM:
Edinburg, TX......................... 0.35 1,427 2,844 1,417
-------------------------------------------------------------
TOTAL TERMINALS................ 2,694 7,115 4,421
-------------------------------------------------------------
TOTAL PIPELINES AND
TERMINALS................... $ 27,897 $ 31,299 $ 3,402
------------------------------------------------------------------------------------------------------
(1) The 2003 terminal throughput fees are based on the contractual fee of $0.252
per barrel for terminalling gasoline and distillates, $1.75 per barrel for
terminalling asphalt, $0.122 per barrel for gasoline additive blending and $0.03
per barrel for filtering jet fuel. The 2003 throughput fees in the table above
are based on actual 2002 refined products terminalled and the impact of blending
and filtering.
(2) The Almeda terminal is currently idle.
(3) Historical revenues for the San Antonio terminal for the year ended December
31, 2002 were based primarily on a monthly amount per a contractual arrangement.
Effective March 1, 2003, Valero Energy began charging a terminal fee and an
additive blending fee for all throughput volumes terminalled at the San Antonio
terminal. If the current terminal and additive blending fees had been
implemented effective January 1, 2002, revenues for the year ended December 31,
2002 would have increased by $1.4 million.
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For the year ended December 31, 2002, the South Texas pipelines system generated
aggregate revenues of $27.9 million, EBITDA of $11.3 million and income before
income taxes of $0.2 million. These items include $0.8 million of general and
administrative expenses allocated to these assets. After the South Texas
pipeline system contribution, general and administrative expenses related to
these assets will be covered by the annual service fee we pay Valero Energy.
Maintenance capital expenditures during 2002 were $0.8 million; however we
expect annual maintenance capital expenditures on these pipelines and terminals
over the next three years to be approximately $3 million to $5 million as a
result of various maintenance projects. Additionally, the 2002 financial results
included a $0.6 million loss for volumetric expansions, contractions and
measurement variances in the South Texas pipelines. Effective March 1, 2003,
these volumetric items will be the responsibility of the shipper. Please read
"Valero South Texas Business Financial Statements" beginning on page F-50 of
this prospectus.
EBITDA is presented because EBITDA is a widely accepted financial indicator used
by some investors and analysts to analyze and compare companies on the basis of
operating performance. However, EBITDA is not intended to represent cash flows
for the period, nor is it presented as an alternative to operating income or
income before income tax. It should not be considered in isolation or as a
substitute for a measure of performance prepared in accordance with United
States generally accepted accounting principles. Our method of computation may
or may not be comparable to other similarly titled measures used by other
partnerships. Set forth below is our reconciliation of income before income tax
expense to EBITDA for the South Texas pipelines system contribution for 2002 (in
thousands).
Income before income tax expense............................ $ 164
Plus interest expense....................................... 7,743
Plus depreciation and amortization.......................... 3,390
-------
EBITDA...................................................... $11,297
=======
Environmental and Other Indemnification. In connection with the South Texas
pipeline system contribution, Valero Energy has agreed to indemnify us from
environmental liabilities related to:
- the South Texas Pipelines and Terminals that arose as a result of
events occurring or conditions existing prior to the closing of the South
Texas pipeline system contribution; and
- any real or personal property on which the South Texas Pipelines and
Terminals are located that arose prior to the closing of the South Texas
pipeline system contribution;
that are known at closing or are discovered within 10 years after the closing of
the South Texas pipeline system contribution.
Valero Energy is currently addressing soil or groundwater contamination at 11
sites associated with the South Texas Pipelines and Terminals through
assessment, monitoring and remediation programs with oversight by the applicable
state agencies. In the aggregate, we have estimated that the total liability for
remediating these sites will not exceed $3.5 million although there can be no
guarantee that the actual remedial costs or associated liabilities will not
exceed this amount. Valero Energy has agreed to indemnify us for these
liabilities.
Valero Energy has indicated to us that the segment of the Corpus Christi to
Edinburg refined product pipeline that runs approximately 60 miles south from
Corpus Christi to Seeligson Station may require repair and, in some places,
replacement. Valero Energy has agreed to
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indemnify us for any costs to repair and replace this segment in excess of $1.5
million which is approximately the amount of capital expenditures we expect to
spend on this segment for the next three years.
Throughput Commitment Agreement. Pursuant to the South Texas pipelines and
terminals throughput commitment agreement, Valero Energy committed, during each
quarterly measurement period, for an initial period of seven years:
- to transport in the Houston and Valley pipeline systems an aggregate of
40% of the Corpus Christi gasoline and distillate production but only if
the combined throughput on these pipelines is less than 110,000 barrels
per day;
- to transport in the Pettus to San Antonio refined product pipeline 25%
of the Three Rivers gasoline and distillate production and in the Pettus
to Corpus Christi refined product pipeline 90% of the Three Rivers
raffinate production;
- to use the Houston asphalt terminal for an aggregate of 7% of the
asphalt production of the Corpus Christi refinery;
- to use the Edinburg refined product terminal for an aggregate of 7% of
the gasoline and distillate production of the Corpus Christi refinery,
but only if the throughput at this terminal is less than 20,000 barrels
per day; and
- to use the San Antonio refined product terminal for 75% of the
throughput in the Pettus to San Antonio refined product pipeline.
The minimum commitment percentages detailed above are lower than the percentages
of refined products transported through each of these assets in 2002. With the
exception of the Houston asphalt terminal, Valero Energy's commitments reflect
75% or more of the actual percentages in 2002. Valero Energy's commitment at the
Houston asphalt terminal reflects approximately 50% of the actual throughput of
this terminal in 2002.
In the event Valero Energy does not transport in our pipelines or use our
terminals to handle the minimum volume requirements and if its obligation has
not been suspended under the terms of the agreement, it is required to make a
cash payment determined by multiplying the shortfall in volume by the applicable
weighted average tariff rate or terminal fee. Also, Valero Energy agreed to
allow us to increase our tariff to compensate for any revenue shortfall in the
event we have to curtail throughput on the Corpus Christi to Edinburg refined
product pipeline as a result of repair and replacement activities.
Terminalling Agreement. Pursuant to the terminalling agreement, Valero Energy
will pay to us a terminal fee of:
- $0.252 per barrel for all gasoline, diesel and jet fuel;
- $1.75 per barrel for all conventional asphalt; and
- $2.20 per barrel for all modified-grade asphalt
stored or handled by or on behalf of Valero Energy at the terminals associated
with the South Texas pipeline system.
In addition to the terminalling fee, Valero Energy pays us a $0.122 per barrel
additive fee for generic gasoline additives should Valero Energy elect to
receive these additives in the products. If Valero Energy or its customers elect
to directly supply a proprietary additive, Valero Energy will pay us an additive
handling fee of $0.092 per barrel. This additive fee applies to all
87
terminals associated with the South Texas pipeline system other than the Hobby
Airport refined product terminal and Houston asphalt terminal. Valero Energy
will pay us a $0.0298 per barrel filtering fee for products stored or handled at
the Hobby Airport refined product terminal.
The initial term of the terminalling agreement is five years, subject to
automatic renewal for successive one-year periods thereafter. Either party may
terminate the terminalling agreement after the initial term upon 30 days notice
at the end of a renewal period.
Conflicts Committee Approval. The South Texas pipeline system contribution has
been approved by an independent conflicts committee of the board of directors of
Valero GP, LLC, based on an opinion from its independent financial advisor that
the consideration paid by us pursuant to the contribution agreement related to
the South Texas pipeline system contribution was fair, from a financial point of
view, to Valero L.P. and its public unitholders.
REDEMPTION OF COMMON UNITS OWNED BY VALERO ENERGY AND AMENDMENT TO VALERO L.P.'S
PARTNERSHIP AGREEMENT
Common Unit Redemption. Immediately following the closing of the 6.05% notes and
the common unit offering by Valero L.P., Valero L.P. redeemed on March 18, 2003
from Valero Energy 3,809,750 common units for $134.1 million, or $35.19 per
unit, which is equal to the net proceeds per unit Valero L.P. received in its
public offering of common units before expenses. Immediately following the
redemption, Valero L.P. canceled the common units redeemed from Valero Energy.
Valero L.P. also redeemed the corresponding portion of Valero Energy's general
partner interest for $2.9 million.
Conflicts Committee Action. The conflicts committee of Valero GP, LLC concluded
that the pricing mechanism in the common unit offering by Valero L.P. would
produce a fair price for it, for the common units it redeemed from Valero
Energy.
Amendment to Partnership Agreement. Immediately upon closing of the offerings,
Valero L.P. amended its partnership agreement to provide that its general
partner may be removed by the vote of the holders of at least 58% of its
outstanding common units and subordinated units, excluding the common units and
subordinated units held by affiliates of its general partner. Valero L.P. also
amended its partnership agreement to provide that the election of a successor
general partner upon any such removal be approved by the holders of a majority
of its common units, excluding the common units held by affiliates of its
general partner.
Prior to the amendment, Valero L.P.'s partnership agreement provided that its
general partner may be removed by the vote of the holders of at least 66 2/3% of
its outstanding common units and subordinated units, including the common units
and subordinated units held by affiliates of its general partner. Furthermore,
Valero L.P.'s partnership agreement previously provided that any removal is
conditioned upon the election of a successor general partner by the holders of a
majority of its common units, voting as a separate class, and by the holders of
a majority of its subordinated units, voting as a separate class, including the
units held by affiliates of its general partner.
If Valero L.P.'s general partner is removed without cause during the
subordination period and units held by its general partner or affiliates of its
general partner are not voted in favor of that removal, all remaining
subordinated units will automatically be converted into common units and any
existing arrearages on its common units will be extinguished. "Cause" is
narrowly defined to mean that a court of competent jurisdiction has entered a
final, non-appealable
88
judgment finding the general partner liable for actual fraud, gross negligence,
or willful or wanton misconduct in its capacity as Valero L.P.'s general
partner.
MAINTENANCE
We perform scheduled maintenance on all of our pipelines, storage tanks,
terminals and related equipment and make repairs and replacements when necessary
or appropriate. We believe that all of our pipelines, storage tanks, terminals
and related equipment have been constructed and are maintained in all material
respects in accordance with applicable federal, state and local laws and the
regulations and standards prescribed by the American Petroleum Institute, the
Department of Transportation and accepted industry practice.
COMPETITION
As a result of our physical integration with Valero Energy's Corpus Christi,
Texas City, Benicia, McKee, Three Rivers and Ardmore refineries and our
contractual relationship with Valero Energy, we believe that we will not face
significant competition for barrels of crude oil transported to, and barrels of
refined products transported from, the Corpus Christi, Texas City, Benicia,
McKee, Three Rivers and Ardmore refineries, particularly during the term of the
pipelines and terminals usage agreement with Valero Energy. However, we face
competition from other pipelines that may be able to supply Valero Energy's
end-user markets with refined products on a more competitive basis. If Valero
Energy reduced its retail sales of refined products or its wholesale customers
reduced their purchases of refined products, the volumes transported through our
pipelines would be reduced, which would cause a decrease in cash and revenues
generated from our operations. Valero Energy owns certain pipelines that deliver
crude oil to markets served by our pipelines. Specifically, Valero Energy owns
certain crude oil gathering systems that deliver crude oil to the McKee
refinery.
The Texas and Oklahoma markets served by the refined product pipelines
originating at the Corpus Christi, Three Rivers and Ardmore refineries are
accessible by Texas Gulf Coast refiners through common carrier pipelines, with
the exception of the Laredo, Texas and Nuevo Laredo, Mexico markets. The Nuevo
Laredo, Mexico market is accessible by refineries operated by Pemex. In
addition, the markets served by the refined product pipelines originating at the
McKee refinery are also accessible by Texas Gulf Coast and Midwestern refiners
through common carrier pipelines.
We believe that high capital requirements, environmental and safety
considerations and the difficulty in acquiring rights-of-way and related permits
make it difficult for other entities to build competing pipelines in areas
served by our pipelines. As a result, competing pipelines are likely to be built
only in those cases in which strong market demand and attractive tariff rates
support additional capacity in an area. We know of two refined product pipelines
that are in various stages of completion that may serve our market areas:
- The Longhorn Pipeline is a common carrier refined product pipeline with
an initial capacity of 70,000 barrels per day. It will be capable of
delivering refined products from the Texas Gulf Coast to El Paso, Texas.
Most of the pipeline has been constructed and startup is expected to
occur before the end of 2003. We expect that a portion of the refined
products transported into the El Paso area in the Longhorn Pipeline will
ultimately be transported into the Phoenix and Tucson, Arizona markets
via SFPP, L.P.'s east pipeline, which is currently capacity constrained.
As a result of these constraints, Valero Energy's allocated capacity in
the SFPP east pipeline may be reduced. SFPP, L.P.
89
has proposed to expand the SFPP east pipeline, and if it proceeds with
the expansion, the expanded pipeline should alleviate the existing
capacity constraints and could increase demand for transportation of
refined products from McKee to El Paso. However, the increased supply of
refined products entering the El Paso and Arizona markets through the
Longhorn Pipeline and the likely increase in the cost of shipping product
on SFPP east pipeline could also cause a decline in the demand for
refined products from Valero Energy. In either case, the demand for
transportation of refined products from McKee to El Paso might be
reduced.
- Shell Pipeline Company previously announced a refined product pipeline
project from Odessa, Texas to Bloomfield, New Mexico. Refined products
would be transported from West Texas to the Bloomfield, New Mexico area.
The project would also require new pipeline connections on the southern
and northern ends of the project. This project also includes a new
refined product terminal near Albuquerque, New Mexico. This proposed
Odessa to Bloomfield refined product pipeline could cause a reduction in
demand for the transportation of refined products to the Albuquerque, New
Mexico market in our refined product pipeline. This proposed Shell
refined product pipeline would also cross two of our refined product
pipelines, the McKee to El Paso refined product pipeline and the Amarillo
to Albuquerque refined product pipeline. Although construction has not
yet commenced on this project, it is anticipated to be completed in 2005.
Given the expected increase in demand for refined products in the southwestern
and Rocky Mountain market regions, we do not believe that these new refined
product pipelines, when fully operational, will have a material adverse effect
on our financial condition or results of operations.
GENERAL RATE REGULATION
Prior to July 2000, affiliates of Valero Energy owned and operated our
pipelines. These affiliates were the only shippers in most of the pipelines,
including the common carrier pipelines. In preparation for Valero L.P.'s public
offering, we filed revised tariff rates with the appropriate regulatory
commissions to adjust the tariff rates on many of our pipelines to better
reflect current throughput volumes and market conditions or cost-based pricing.
Also in connection with Valero L.P.'s initial public offering, we obtained the
agreement of Valero Energy, which is the only shipper in most of the pipelines,
not to challenge the validity of the tariff rates until at least April 1, 2008.
INTERSTATE RATE REGULATION
The Federal Energy Regulatory Commission regulates the rates and practices of
common carrier petroleum pipelines, which include crude oil, petroleum product
and petrochemical pipelines, engaged in interstate transportation under the
Interstate Commerce Act. The Interstate Commerce Act and its implementing
regulations require that the tariff rates and practices for interstate crude oil
pipelines be just and reasonable and non-discriminatory. The Interstate Commerce
Act permits challenges to proposed new or changed rates or practices by protest
and challenges to rates and practices that are already on file and in effect by
complaint. Upon the appropriate showing, a successful complainant may obtain
damages or reparations for generally up to two years prior to the filing of a
complaint. Valero Energy has agreed to be responsible for any Interstate
Commerce Act liabilities with respect to activities or conduct occurring during
periods prior to April 16, 2001, and we will be responsible for Interstate
Commerce Act liabilities with respect to activities or conduct occurring after
April 16, 2001.
90
The FERC is authorized to suspend the effectiveness of a new or changed tariff
rate for a period of up to seven months and to investigate the rate. The FERC
may also place into effect a new or changed tariff rate on at least one day's
notice, subject to refund and investigation. If upon the completion of an
investigation the FERC finds that the rate is unlawful, it may require the
pipeline operator to refund to shippers, with interest, any difference between
the rates the FERC determines to be lawful and the rates under investigation. In
addition, the FERC will order the pipeline to change its rates prospectively to
the lawful level. In general, petroleum pipeline rates must be cost-based,
although settlement rates, which are rates that have been agreed to by all
shippers, are permitted, and market-based rates may be permitted in certain
circumstances.
ENERGY POLICY ACT OF 1992 AND SUBSEQUENT DEVELOPMENTS
The Energy Policy Act deemed certain interstate petroleum pipeline rates that
were in effect on the date of enactment of the Energy Policy Act, to be just and
reasonable (i.e., "grandfathered") under the Interstate Commerce Act. Some of
the our pipeline rates were grandfathered under the Energy Policy Act, which has
the benefit of making those rates more difficult to challenge.
The Energy Policy Act further required FERC to issue rules establishing a
simplified and generally applicable ratemaking methodology for interstate
petroleum pipelines and to streamline procedures in petroleum pipeline
proceedings. FERC responded to this mandate by adopting a new indexing rate
methodology for interstate petroleum pipelines. Under these regulations,
effective January 1, 1995, petroleum pipelines are able to change their rates
within prescribed ranges that are tied to changes in the Producer Price Index
for Finished Goods (PPI), minus one percent. The new indexing methodology is
applicable to any existing rates, including grandfathered rates, and the scope
of any challenges to rate increases made under the indexing methodology are
limited. As a result of FERC's reassessment of this index and certain court
litigation, on February 24, 2003, FERC changed the index to equal the PPI. Under
FERC's February 24, 2003 Order, pipelines may file to change their tariff rates
to reflect the applicable ceiling levels bases on the PPI, calculated as though
this index had been in effect from July 1, 2001.
INTRASTATE RATE REGULATION
The rates and practices for our intrastate common carrier pipelines are subject
to regulation by the Texas Railroad Commission and the Colorado Public Utility
Commission. The applicable state statutes and regulations generally require that
pipeline rates and practices be reasonable and non-discriminatory.
OUR PIPELINES RATES
Neither the FERC nor the state commissions have investigated our rates or
practices. We do not believe that it is likely that there will be a challenge to
our rates by a current shipper that would materially affect our revenues or cash
flows because Valero Energy is the only current shipper in substantially all of
our pipelines. Valero Energy has committed not to challenge our rates until at
least April 2008. However, the FERC or a state regulatory commission could
investigate our tariff rates at the urging of a third party. Also, because our
pipelines are common carrier pipelines, we may be required to accept new
shippers who wish to transport in our pipelines. It is possible that any new
shippers may decide to challenge our tariff rates. If a rate were challenged, we
would seek to either rely on a cost of service justification or to
91
establish that, due to the presence of competing alternatives to our pipeline,
the tariff rate should be a market-based rate. Although no assurance can be
given that our intrastate rates would ultimately be upheld if challenged, we
believe that the tariffs now in effect are not likely to be challenged. However,
if any rate challenge or challenges were successful, cash available for
distribution to Valero L.P. could be materially reduced.
ENVIRONMENTAL REGULATION
GENERAL
Our operations are subject to extensive federal, state and local environmental
laws and regulations, including those relating to the discharge of materials
into the environment, waste management and pollution prevention measures, and to
environmental regulation by several federal, state and local authorities. The
principal environmental risks associated with our operations relate to
unauthorized emissions into the air and unauthorized releases into soil, surface
water or groundwater. Our operations are also subject to extensive federal and
state health and safety laws and regulations, including those relating to
pipeline safety. Compliance with these laws, regulations and permits increases
our capital expenditures and our overall costs of business. However, violations
of these laws, regulations and/or permits can result in significant civil and
criminal liabilities, injunctions or other penalties. Accordingly, we have
adopted policies, practices and procedures in the areas of pollution control,
product safety, occupational health and the handling, storage, use and disposal
of hazardous materials in an effort to prevent material environmental or other
damage, and to ensure the safety of our pipelines, our employees, the public and
the environment. Future governmental action and regulatory initiatives could
result in changes to expected operating permits, additional remedial actions or
increased capital expenditures and operating costs that cannot be assessed with
certainty at this time. In addition, contamination resulting from spills of
crude oil and refined products occurs within the industry. Risks of additional
costs and liabilities are inherent within the industry, and there can be no
assurances that significant costs and liabilities will not be incurred in the
future.
In connection with Valero L.P.'s initial public offering on April 16, 2001 and
our acquisition of crude oil and refined products pipeline and terminalling
assets from Valero Energy's predecessor, Valero Energy agreed to indemnify us
for environmental liabilities that arose prior to April 16, 2001 and are
discovered within 10 years after April 16, 2001. Excluded from this
indemnification are costs that arise from changes in environmental law after
April 16, 2001. In addition, as an operator or owner of the assets, we could be
held liable for pre-April 16, 2001 environmental damage should Valero Energy be
unable to fulfill its obligation. As of December 31, 2002, we have not incurred
any material environmental liabilities that were not covered by the
environmental indemnification.
In connection with the South Texas Pipelines and Terminals acquisition, Valero
Energy has agreed to indemnify us from environmental liabilities that are known
as of March 18, 2003 or are discovered within 10 years after March 18, 2003
related to:
- the South Texas Pipelines and Terminals that arose as a result of
events occurring or conditions existing prior to March 18, 2003; and
- any real or personal property on which the South Texas Pipelines and
Terminals are located that arose prior to March 18, 2003.
92
In connection with the Crude Oil Storage Tanks acquisition, Valero Energy has
agreed to indemnify us from environmental liabilities related to:
- the Crude Oil Storage Tanks that arose as a result of events occurring
or conditions existing prior to March 18, 2003;
- any real or personal property on which the Crude Oil Storage Tanks are
located that arose prior to March 18, 2003; and
- any actions taken by Valero Energy before, on or after March 18, 2003,
in connection with the ownership, use or operation of the West plant of
the Corpus Christi refinery, the Texas City refinery and the Benicia
refinery or the property on which the Crude Oil Storage Tanks are
located, or any accident or occurrence in connection therewith.
WATER
The Oil Pollution Act was enacted in 1990 and amends provisions of the Federal
Water Pollution Control Act of 1972, also referred to as the Clean Water Act,
and other statutes as they pertain to prevention and response to petroleum
spills. The Oil Pollution Act subjects owners of facilities to strict, joint and
potentially unlimited liability for removal costs and other consequences of a
petroleum spill, where the spill is into navigable waters, along shorelines or
in the exclusive economic zone of the U.S. In the event of a petroleum spill
into navigable waters, substantial liabilities could be imposed upon us. States
in which we operate have also enacted similar laws. Regulations developed under
the Oil Pollution Act and state laws may also impose additional regulatory
burdens on our operations. Spill prevention control and countermeasure
requirements of federal laws and some state laws require diking, booms and
similar structures to help prevent contamination of navigable waters in the
event of a petroleum overflow, rupture or leak. In addition, these laws require,
in some instances, the development of spill prevention control and
countermeasure plans. Additionally, the United States Department of
Transportation's Office of Pipeline Safety (OPS) has approved our petroleum
spill emergency response plans.
The Clean Water Act imposes restrictions and strict controls regarding the
discharge of pollutants into navigable waters. Permits must be obtained to
discharge pollutants into federal and state waters. The Clean Water Act imposes
substantial potential liability for the costs of removal, remediation and
damages. In addition, some states maintain groundwater protection programs that
require permits for discharges or operations that may impact groundwater
conditions.
AIR EMISSIONS
Our operations are subject to the Federal Clean Air Act and comparable state and
local statutes. Amendments to the Federal Clean Air Act enacted in late 1990
require most industrial operations in the U.S. to incur capital expenditures in
order to meet air emission control standards developed by the Environmental
Protection Agency and state environmental agencies. In addition, Title V of the
1990 Federal Clean Air Act Amendments created a new operating permit program for
major sources, which applies to some of our facilities. We will be required to
incur certain capital expenditures in the next several years for air pollution
control equipment in connection with maintaining or obtaining permits and
approvals addressing air emission related issues.
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SOLID WASTE
We generate non-hazardous solid wastes that are subject to the requirements of
the Federal Resource Conservation and Recovery Act and comparable state
statutes. The Federal Resource Conservation and Recovery Act also governs the
disposal of hazardous wastes. We are not currently required to comply with a
substantial portion of the Federal Resource Conservation and Recovery Act
requirements because our operations generate minimal quantities of hazardous
wastes. However, it is possible that additional wastes, which could include
wastes currently generated during operations, will in the future be designated
as "hazardous wastes." Hazardous wastes are subject to more rigorous and costly
disposal requirements than are non-hazardous wastes.
HAZARDOUS SUBSTANCES
The Comprehensive Environmental Response, Compensation and Liability Act,
referred to as CERCLA, also known as Superfund, imposes liability, without
regard to fault or the legality of the original act, on some classes of persons
that contributed to the release of a "hazardous substance" into the environment.
These persons include the owner or operator of the site and entities that
disposed or arranged for the disposal of the hazardous substances found at the
site. CERCLA also authorizes the Environmental Protection Agency and, in some
instances, third parties to act in response to threats to the public health or
the environment and to seek to recover from the responsible classes of persons
the costs that they incur. In the course of our ordinary operations, we may
generate waste that falls within CERCLA's definition of a "hazardous substance."
While we responsibly manage the hazardous substances that we control, the
intervening acts of third parties may expose us to joint and several liability
under CERCLA for all or part of the costs required to clean up sites at which
these hazardous substances have been disposed of or released into the
environment.
We currently own or lease, and have in the past owned or leased, properties
where hydrocarbons are being or have been handled. Although we have utilized
operating and disposal practices that were standard in the industry at the time,
hydrocarbons or other wastes may have been disposed of or released on or under
the properties owned or leased by us or on or under other locations where these
wastes have been taken for disposal. In addition, many of these properties have
been operated by third parties whose treatment and disposal or release of
hydrocarbons or other wastes was not under our control. These properties and
wastes disposed thereon may be subject to CERCLA, the Federal Resource
Conservation and Recovery Act and analogous state laws. Under these laws, we
could be required to remove or remediate previously disposed wastes (including
wastes disposed of or released by prior owners or operators), to clean up
contaminated property (including contaminated groundwater) or to perform
remedial operations to prevent future contamination.
ENDANGERED SPECIES ACT
The Endangered Species Act restricts activities that may affect endangered
species or their habitats. The discovery of previously unidentified endangered
species could cause us to incur additional costs or operational restrictions or
bans in the affected area.
HAZARDOUS MATERIALS TRANSPORTATION REQUIREMENTS
OPS has promulgated extensive regulations governing pipeline safety. These
regulations generally require pipeline operators to implement measures designed
to reduce the
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environmental impact from onshore crude oil and refined product pipeline
releases and to maintain comprehensive spill response plans, including extensive
spill response training certifications for pipeline personnel. These regulations
also require pipeline operators to develop qualification programs for
individuals performing "covered tasks" on pipeline facilities to ensure there is
a qualified work force and to reduce the risk of accidents from human error. In
addition, OPS regulations contain detailed specifications for pipeline operation
and maintenance, such as the implementation of integrity management programs
that continually assess the integrity of pipelines in high consequence areas
(such as areas with concentrated populations, navigable waterways or other
unusually sensitive areas). In addition to federal regulations, some states,
including Texas and Oklahoma, have certified state pipeline safety programs
governing intrastate pipelines. Other states, such as New Mexico, have entered
into agreements with OPS to help implement safety regulations on intrastate
pipelines.
PIPELINE SAFETY IMPROVEMENT ACT OF 2002
In December 2002, the Pipeline Safety Improvement Act of 2002 was enacted. This
expands the government's regulatory authority over pipeline safety and, among
other things, requires pipeline operators to maintain qualification programs for
key pipeline operating personnel, to review and update their existing pipeline
safety public education programs, and to provide information for the National
Pipeline Mapping System. The act also strengthens the national "One-call"
system, which is intended to minimize the risk of pipelines being damaged by
third-party excavators and provides "whistleblower" protection to pipeline
employees and contractors who identify pipeline safety risks. Some of the act's
requirements are effective immediately, while other requirements will become
effective during 2003 and 2004. We believe that we are in substantial compliance
with the act, and will continue to be in substantial compliance with the act
following the effectiveness of these other requirements. In addition, while this
act may affect our maintenance capital expenditures and operating expenses, we
believe that the act does not affect our competitive position and will not have
a material affect on our financial conditions or results of operations.
OSHA
We are subject to the requirements of the Federal Occupational Safety and Health
Act and comparable state statutes that regulate the protection of the health and
safety of workers. In addition, the Federal Occupational Safety and Health Act
hazard communication standard requires that information be maintained about
hazardous materials used or produced in operations and that this information be
provided to employees, state and local government authorities and citizens.
TITLE TO PROPERTIES
We believe that we have satisfactory title to all of our assets. Although title
to these properties is subject to encumbrances in some cases, such as customary
interests generally retained in connection with acquisition of real property,
liens related to environmental liabilities associated with historical
operations, liens for current taxes and other burdens and minor easements,
restrictions and other encumbrances to which the underlying properties were
subject at the time of acquisition by us or our predecessors, we believe that
none of these burdens will materially detract from the value of these properties
or from our interest in these properties or will materially interfere with our
use in the operation of our business. In addition, we believe that we have
obtained sufficient rights-of-way grants and permits from public authorities and
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private parties for us to operate our business in all material respects as
described in this prospectus.
EMPLOYEES
Our operations are controlled and managed by our general partner, a wholly owned
subsidiary of Valero L.P. Riverwalk Logistics, Valero L.P.'s general partner, is
responsible for the management of Valero L.P. Valero GP, LLC, the general
partner of Riverwalk Logistics, is responsible for managing the affairs of the
general partner, and through it, the affairs of Valero L.P. and us. As of March
31, 2003, Valero GP, LLC, on our behalf, employed approximately 225 individuals
that perform services for us. We also receive administrative services from other
Valero Energy employees under the services agreement and services and secondment
agreements. Prior to January 1, 2003 these employees were employed by Valero
Energy.
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EXCHANGE OFFER
We sold the outstanding notes on March 18, 2003, pursuant to the purchase
agreement dated as of March 12, 2003, by and among us, Valero L.P., Valero GP,
Inc., Riverwalk Logistics, L.P., Valero GP, LLC and the initial purchasers named
therein. The outstanding notes were subsequently offered by the initial
purchasers to qualified institutional buyers pursuant to Rule 144A under the
Securities Act and outside the United States to persons other than U.S. persons
in reliance on Regulation S under the Securities Act.
PURPOSE AND EFFECT OF THE EXCHANGE OFFER
In connection with the issuance of the outstanding notes, we, Valero L.P. and
the initial purchasers entered into a registration rights agreement dated as of
March 18, 2003. A copy of the registration rights agreement has been filed as an
exhibit to the registration statement of which this prospectus is a part.
Pursuant to the registration rights agreement, we and Valero L.P. agreed to:
- file with the Commission, no later than 90 days after the closing date
of the offering of the outstanding notes, an exchange offer registration
statement under the Securities Act for the exchange notes; and
- use our best efforts to cause the exchange offer registration statement
for the exchange notes to become effective no later than 180 days after
the closing date.
When the exchange offer registration statement is effective, we will offer the
holders of the outstanding notes who are able to make the representations
described below the opportunity to exchange their notes for the exchange notes
in the exchange offer. The exchange offer will be open for a period of at least
20 business days and will be completed within 210 days after the closing date of
the offering of the outstanding notes. During the exchange offer period, we will
exchange the exchange notes for all outstanding notes properly surrendered and
not withdrawn before the expiration date. The exchange notes will be registered
and the transfer restrictions, registration rights and provisions for additional
interest relating to the outstanding notes will not apply to the exchange notes.
Under existing interpretations by the staff of the Commission, the exchange
notes generally will be freely transferable after the exchange offer without
further registration under the Securities Act, except that broker-dealers
receiving exchange notes in the exchange offer will be subject to a prospectus
delivery requirement with respect to resales of those exchange notes. The staff
of the Commission has taken the position that participating broker-dealers may
fulfill their prospectus delivery requirements with respect to the exchange
notes (other than a resale of an unsold allotment from the original sale of the
notes) by delivery of the prospectus contained in the exchange offer
registration statement. Under the registration rights agreement, we and Valero
L.P. are required to allow participating broker-dealers and other persons, if
any, subject to similar prospectus delivery requirements, to use this prospectus
in connection with the resale of such exchange notes. We and Valero L.P. have
agreed, if requested by the initial purchasers or by one or more participating
broker-dealers, to keep the exchange offer registration statement effective for
up to 180 days following consummation of the exchange offer to permit resales of
exchange notes acquired by broker-dealers in after-market transactions.
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If you wish to participate in the exchange offer, you will be required to make
certain representations, including representations that:
- any exchange notes that you receive will be acquired in the ordinary
course of your business;
- you have no arrangement or understanding with any person or entity to
participate in the distribution of the exchange notes;
- you are not engaged in and do not intend to engage in the distribution
of the exchange notes;
- if you are a broker-dealer that will receive exchange notes for your
own account in exchange for outstanding notes, you acquired those
outstanding notes as a result of market-making activities or other
trading activities and you will deliver this prospectus, as required by
law, in connection with any resale of the exchange notes; and
- you are not Valero L.P.'s or our "affiliate," as defined in Rule 405
under the Securities Act.
If you are a broker-dealer that will receive exchange notes for your own account
in exchange for outstanding notes that you acquired as a result of market-making
activities or other trading activities, you will be required to acknowledge that
you will deliver this prospectus in connection with any resale of the exchange
notes.
We have agreed that if:
- Commission interpretations are changed before we complete the exchange
offer such that the exchange notes received by each holder, except for
certain restricted holders, are not or would not be transferable without
restriction;
- the exchange offer has not been completed within 210 days after the
closing date of the offering of the outstanding notes;
- the exchange offer has been completed and subject to certain conditions
the registration rights agreement specifies, a registration statement
must be filed and a prospectus must be delivered by certain of the
initial purchasers in connection with the offering or sale of the
outstanding notes; or
- any applicable law or interpretation does not allow any holder to
participate in the exchange offer,
then we will file with the Commission a shelf registration statement covering
resales of the outstanding notes within 45 days of that obligation arising.
Holders who wish to sell their outstanding notes under the shelf registration
statement must satisfy certain conditions relating to the provision of
information in connection with the shelf registration statement.
We will use our best efforts to cause the shelf registration statement to become
effective no later than 90 days after such shelf registration statement is filed
and to remain effective for a period ending on the earlier of:
- the second anniversary of the closing date of the offering of the
outstanding notes, or, if Rule 144(k) under the Securities Act is amended
to provide a shorter restrictive period, such shorter period; or
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- until there are no longer outstanding any securities eligible for
registration under the registration rights agreement.
If we file a shelf registration statement with respect to any outstanding notes,
we will be entitled from time to time to require holders of those notes to
discontinue the sale or other disposition of those notes pursuant to that shelf
registration statement under certain circumstances relating to possible
acquisitions or business combinations or other transactions, business
developments or other events involving us, or because the related prospectus
contains an untrue statement of a material fact or omits to state a material
fact required to be stated therein or necessary to make the statements therein
not misleading. There shall not be more than two such suspensions in effect
during any 365-day period, and such suspensions may not exceed a combined 60
days during such 365-day period. If we effect an exchange offer with respect to
the outstanding notes, we will also be entitled to require any participating
broker-dealers to discontinue the sale or other disposition of exchange notes
pursuant to the prospectus included in the applicable exchange offer
registration statement on the same terms and conditions as those described above
in this paragraph.
A holder of the outstanding notes that sells the outstanding notes pursuant to
the shelf registration statement:
- generally will be required to be named as a selling securityholder in
the related prospectus and to deliver a prospectus to the purchaser of
the outstanding notes;
- will be subject to certain of the civil liability provisions of the
Securities Act in connection with such sales; and
- will be bound by the provisions of the registration rights agreement
applicable to that holder, including indemnification obligations.
We will pay additional interest on the outstanding notes, over and above the
stated interest rate, at a rate of 0.25% per year during the first 90 days, and
0.50% per year thereafter during the period any of the following conditions
exist:
- we and Valero L.P. have not filed the exchange offer registration
statement within 90 days following the closing date of the offering of
the outstanding notes;
- we and Valero L.P. have not filed a shelf registration statement within
45 days following the date the obligation to file a shelf registration
statement arises;
- the exchange offer registration statement is not declared effective by
the Commission within 180 days following the closing date of the offering
of the outstanding notes;
- a shelf registration statement is not declared effective by the
Commission within 90 days following the date the obligation to file a
shelf registration statement arises;
- we do not complete the exchange offer within 210 days after the closing
date of the offering of the outstanding notes; or
- any registration statement required under the registration rights
agreement has been declared effective but ceases to be effective, except
as specifically permitted in the registration rights agreement, without
being succeeded immediately by an additional registration statement filed
and declared effective.
The foregoing circumstances under which we may be required to pay additional
interest are not cumulative. In no event will the additional interest on the
outstanding notes exceed 0.50%
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per year. Further, any additional interest will cease to accrue when all of the
events described above have been cured or upon the expiration of the second
anniversary of the closing date, or, if Rule 144(k) under the Securities Act is
amended to provide a shorter restrictive period, the applicable shorter period.
Any additional interest shall cease to accrue at any time that there are no
notes outstanding that are subject to any registration rights under the
registration rights agreement.
The description of the registration rights agreement contained in this section
is a summary only. For more information, you should review the provisions of the
registration rights agreement that we filed with the Commission as an exhibit to
the exchange offer registration statement of which this prospectus is a part.
On June 6, 2002, we filed a shelf registration statement on Form S-3 (File No.
333-89978) with the Commission covering the offer and sale of common units and
debt securities, which shelf registration statement does not satisfy the
requirement that we file a shelf registration statement under the circumstances
described above.
RESALE OF EXCHANGE NOTES
Based on no-action letters of the Commission staff issued to third parties, we
believe that exchange notes may be offered for resale, resold and otherwise
transferred by you without further compliance with the registration and
prospectus delivery provisions of the Securities Act if:
- you are not our or Valero L.P.'s "affiliate" within the meaning of Rule
405 under the Securities Act;
- such exchange notes are acquired in the ordinary course of your
business; and
- you do not intend to participate in a distribution of the exchange
notes.
The Commission, however, has not considered the exchange offer for the exchange
notes in the context of a no-action letter, and the Commission staff may not
make a similar determination as in the no-action letters issued to these third
parties.
If you tender in the exchange offer with the intention of participating in any
manner in a distribution of the exchange notes, you:
- cannot rely on such interpretations by the Commission staff; and
- must comply with the registration and prospectus delivery requirements
of the Securities Act in connection with a secondary resale transaction.
Unless an exemption from registration is otherwise available, any security
holder intending to distribute exchange notes should be covered by an effective
registration statement under the Securities Act. The registration statement
should contain the selling security holder's information required by Item 507 of
Regulation S-K under the Securities Act.
This prospectus may be used for an offer to resell, resale or other transfer of
exchange notes only as specifically described in this prospectus. If you are a
broker-dealer, you may participate in the exchange offer only if you acquired
the outstanding notes as a result of market-making activities or other trading
activities. Each broker-dealer that receives exchange notes for its own account
in exchange for outstanding notes, where such outstanding notes were acquired by
such broker-dealer as a result of market-making activities or other trading
activities, must acknowledge by way of the letter of transmittal that it will
deliver this prospectus in
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connection with any resale of the exchange notes. Please read "Plan of
distribution" for more details regarding the transfer of exchange notes.
TERMS OF THE EXCHANGE OFFER
Subject to the terms and conditions described in this prospectus and in the
letter of transmittal, we will accept for exchange any outstanding notes
properly tendered and not withdrawn prior to 5:00 p.m., New York City time, on
the expiration date. We will issue exchange notes in a principal amount equal to
the principal amount of outstanding notes surrendered in the exchange offer.
Outstanding notes may be tendered only for exchange notes and only in
denominations of $1,000 and integral multiples of $1,000.
The exchange offer is not conditioned upon any minimum aggregate principal
amount of outstanding notes being tendered in the exchange offer.
As of the date of this prospectus, $250,000,000 in aggregate principal amount of
the outstanding notes are outstanding. This prospectus is being sent to the
Depository Trust Company, or DTC, the sole registered holder of the outstanding
notes, and to all persons that we can identify as beneficial owners of the
outstanding notes. There will be no fixed record date for determining registered
holders of outstanding notes entitled to participate in the exchange offer.
We intend to conduct the exchange offer in accordance with the provisions of the
registration rights agreement, the applicable requirements of the Securities Act
and the Securities Exchange Act of 1934, as amended, and the rules and
regulations of the Commission. Outstanding notes whose holders do not tender
them for exchange in the exchange offer will remain outstanding and continue to
accrue interest. These outstanding notes will be entitled to the rights and
benefits such holders have under the indenture relating to the outstanding notes
and the registration rights agreement.
We will be deemed to have accepted for exchange properly tendered outstanding
notes when we have given oral or written notice of the acceptance to the
exchange agent and complied with the applicable provisions of the registration
rights agreement. The exchange agent will act as agent for the tendering holders
for the purposes of receiving the exchange notes from us.
If you tender outstanding notes in the exchange offer, you will not be required
to pay brokerage commissions or fees or, if applicable, transfer taxes with
respect to the exchange of outstanding notes. We will pay all charges and
expenses, other than certain applicable taxes described below, in connection
with the exchange offer. Please read "--Fees and expenses" for more details
regarding fees and expenses incurred in connection with the exchange offer.
We will return any outstanding notes that we do not accept for exchange for any
reason without expense to their tendering holder promptly after the expiration
or termination of the exchange offer.
EXPIRATION DATE
The exchange offer will expire at 5:00 p.m., New York City time, on ,
2003, unless, in our sole discretion, we extend it.
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EXTENSIONS, DELAYS IN ACCEPTANCE, TERMINATION OR AMENDMENT
We expressly reserve the right, at any time or various times, to extend the
period of time during which the exchange offer is open. We may delay acceptance
of any outstanding notes by giving oral or written notice of such extension to
their holders at any time until the exchange offer expires or terminates. During
any such extension, all outstanding notes previously tendered will remain
subject to the exchange offer, and we may accept them for exchange.
To extend the exchange offer, we will notify the exchange agent orally or in
writing of any extension. We will notify the registered holders of outstanding
notes of the extension no later than 9:00 a.m., New York City time, on the
business day after the previously scheduled expiration date.
If any of the conditions described below under "--Conditions to the exchange
offer" have not been satisfied, we reserve the right, in our sole discretion:
- to delay accepting for exchange any outstanding notes;
- to extend the exchange offer; or
- to terminate the exchange offer,
by giving oral or written notice of such delay, extension or termination to the
exchange agent. Subject to the terms of the registration rights agreement, we
also reserve the right to amend the terms of the exchange offer in any manner at
any time prior to termination or expiration of the exchange offer.
Any such delay in acceptance, extension, termination or amendment will be
followed as promptly as practicable by oral or written notice thereof to holders
of outstanding notes. If we amend the exchange offer in a manner that we
determine to constitute a material change, we will promptly disclose such
amendment by means of a prospectus supplement. The supplement will be
distributed to holders of the outstanding notes. Depending upon the significance
of the amendment and the manner of disclosure to holders, we will extend the
exchange offer if the exchange offer would otherwise expire during such period.
If an amendment constitutes a material change to the exchange offer, including
the waiver of a material condition, we will extend the exchange offer, if
necessary, to remain open for at least five business days after the date of the
amendment. In the event of any increase or decrease in the price of the notes or
in the percentage of outstanding notes being sought by us, we will extend the
exchange offer to remain open for at least 10 business days after the date we
provide notice of such increase or decrease to the registered holders of
outstanding notes.
CONDITIONS TO THE EXCHANGE OFFER
We will not be required to accept for exchange, or exchange any exchange notes
for, any outstanding notes if the exchange offer, or the making of any exchange
by a holder of outstanding notes, would violate applicable law or any applicable
interpretation of the staff of the Commission. Similarly, we may terminate the
exchange offer as provided in this prospectus before accepting outstanding notes
for exchange in the event of such a potential violation.
We will not be obligated to accept for exchange the outstanding notes of any
holder that has not made to us the representations described under "--Purpose
and effect of the exchange offer" and "--Your representations to us" and such
other representations as may be
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reasonably necessary under applicable Commission rules, regulations or
interpretations to allow us to use an appropriate form to register the exchange
notes under the Securities Act.
Additionally, we will not accept for exchange any outstanding notes tendered,
and will not issue exchange notes in exchange for any such outstanding notes, if
at such time any stop order has been threatened or is in effect with respect to
the exchange offer registration statement of which this prospectus constitutes a
part or the qualification of the indenture under the Trust Indenture Act of
1939, or the TIA.
We expressly reserve the right to amend or terminate the exchange offer, and to
reject for exchange any outstanding notes not previously accepted for exchange,
upon the occurrence of any of the conditions to the exchange offer specified
above. We will give oral or written notice of any extension, amendment,
non-acceptance or termination to the holders of the outstanding notes as
promptly as practicable.
These conditions are for our sole benefit, and we may assert them or waive them
in whole or in part at any time or at various times prior to expiration of the
exchange offer in our sole discretion. If we fail at any time to exercise any of
these rights, this failure will not mean that we have waived our rights. Each
such right will be deemed an ongoing right that we may assert at any time or at
various times prior to expiration of the exchange offer.
PROCEDURES FOR TENDERING
To participate in the exchange offer, you must properly tender your outstanding
notes to the exchange agent as described below. We will only issue exchange
notes in exchange for outstanding notes that you timely and properly tender.
Therefore, you should allow sufficient time to ensure timely delivery of the
outstanding notes, and you should follow carefully the instructions on how to
tender your outstanding notes. It is your responsibility to properly tender your
outstanding notes. We have the right to waive any defects. However, we are not
required to waive defects, and neither we, nor the exchange agent are required
to notify you of any defects or irregularities with respect to your tender.
If you have any questions or need help in exchanging your outstanding notes,
please call the exchange agent whose address and phone number are described in
the "Summary--Exchange offer" section of this prospectus.
All of the outstanding notes were issued in book-entry form, and all of the
outstanding notes are currently represented by a global certificate held by Cede
& Co. for the account of DTC. We have confirmed with DTC that the outstanding
notes may be tendered using the automatic tender offer program, or ATOP. The
exchange agent will establish an account with DTC for purposes of the exchange
offer promptly after the commencement of the exchange offer, and DTC
participants may electronically transmit their acceptance of the exchange offer
by causing DTC to transfer their outstanding notes to the exchange agent using
the ATOP procedures. In connection with the transfer, DTC will send an "agent's
message" to the exchange agent. The agent's message will state that DTC has
received instructions from the participant to tender outstanding notes and that
the participant agrees to be bound by the terms of the letter of transmittal.
By using the ATOP procedures to exchange outstanding notes, you will not be
required to deliver a letter of transmittal to the exchange agent. However, you
will be bound by its terms, and you will be deemed to have made the
acknowledgements and the representations and warranties it contains, just as if
you had signed it.
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There is no procedure for guaranteed late delivery of the outstanding notes.
DETERMINATIONS UNDER THE EXCHANGE OFFER
We will determine in our sole discretion all questions as to the validity, form,
eligibility, time of receipt, acceptance of tendered outstanding notes and
withdrawal of tendered outstanding notes. Our determination will be final and
binding. We reserve the absolute right to reject any outstanding notes not
properly tendered or any outstanding notes our acceptance of which would, in the
opinion of our counsel, be unlawful. We also reserve the right to waive any
defect, irregularities or conditions of tender as to particular outstanding
notes. Our interpretation of the terms and conditions of the exchange offer,
including the instructions in the letter of transmittal, will be final and
binding on all parties. Unless waived, all defects or irregularities in
connection with tenders of outstanding notes must be cured within such time as
we shall determine. Although we intend to notify holders of defects or
irregularities with respect to tenders of outstanding notes, neither we, the
exchange agent nor any other person will incur any liability for failure to give
such notification. Tenders of outstanding notes will not be deemed made until
such defects or irregularities have been cured or waived. Any outstanding notes
received by the exchange agent that are not properly tendered and as to which
the defects or irregularities have not been cured or waived will be returned to
the tendering holder as soon as practicable following the expiration date of the
exchange offer.
WHEN WE WILL ISSUE EXCHANGE NOTES
In all cases, we will issue exchange notes for outstanding notes that we have
accepted for exchange under the exchange offer only after the exchange agent
receives, prior to 5:00 p.m., New York City time, on the expiration date,
- a book-entry confirmation of such outstanding notes into the exchange
agent's account at DTC; and
- a properly transmitted agent's message.
RETURN OF OUTSTANDING NOTES NOT ACCEPTED OR EXCHANGED
If we do not accept any tendered outstanding notes for exchange or if
outstanding notes are submitted for a greater principal amount than the holder
desires to exchange, the unaccepted or non-exchanged outstanding notes will be
returned without expense to their tendering holder. Such non-exchanged
outstanding notes will be credited to an account maintained with DTC. These
actions will occur as promptly as practicable after the expiration or
termination of the exchange offer.
YOUR REPRESENTATIONS TO US
By agreeing to be bound by the letter of transmittal, you will represent to us
that, among other things:
- any exchange notes that you receive will be acquired in the ordinary
course of your business;
- you have no arrangement or understanding with any person or entity to
participate in the distribution of the exchange notes;
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- you are not engaged in and do not intend to engage in the distribution
of the exchange notes;
- if you are a broker-dealer that will receive exchange notes for your
own account in exchange for outstanding notes, you acquired those
outstanding notes as a result of market-making activities or other
trading activities and you will deliver this prospectus, as required by
law, in connection with any resale of the exchange notes; and
- you are not Valero L.P.'s or our "affiliate," as defined in Rule 405
under the Securities Act.
WITHDRAWAL OF TENDERS
Except as otherwise provided in this prospectus, you may withdraw your tender at
any time prior to 5:00 p.m., New York City time, on the expiration date. For a
withdrawal to be effective, you must comply with the appropriate ATOP
procedures. Any notice of withdrawal must specify the name and number of the
account at DTC to be credited with withdrawn outstanding notes and otherwise
comply with the ATOP procedures.
We will determine all questions as to the validity, form, eligibility and time
of receipt of notice of withdrawal. Our determination shall be final and binding
on all parties. We will deem any outstanding notes so withdrawn not to have been
validly tendered for exchange for purposes of the exchange offer.
Any outstanding notes that have been tendered for exchange but that are not
exchanged for any reason will be credited to an account maintained with DTC for
the outstanding notes. This return or crediting will take place as soon as
practicable after withdrawal, rejection of tender, expiration or termination of
the exchange offer. You may retender properly withdrawn outstanding notes by
following the procedures described under "--Procedures for tendering" above at
any time on or prior to the expiration date.
FEES AND EXPENSES
We will bear the expenses of soliciting tenders. The principal solicitation is
being made by mail; however, we may make additional solicitations by telephone
or in person by our officers and regular employees and certain of our
affiliates.
We have not retained any dealer-manager in connection with the exchange offer
and will not make any payments to broker-dealers or others soliciting
acceptances of the exchange offer. We will, however, pay the exchange agent
reasonable and customary fees for its services and reimburse it for its related
reasonable out-of-pocket expenses.
We will pay the cash expenses to be incurred in connection with the exchange
offer. They include:
- Commission registration fees;
- fees and expenses of the exchange agent and trustee;
- accounting and legal fees and printing costs; and
- related fees and expenses.
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TRANSFER TAXES
We will pay all transfer taxes, if any, applicable to the exchange of
outstanding notes under the exchange offer. The tendering holder, however, will
be required to pay any transfer taxes, whether imposed on the registered holder
or any other person, if a transfer tax is imposed for any reason other than the
exchange of outstanding notes under the exchange offer.
CONSEQUENCES OF FAILURE TO EXCHANGE
If you do not exchange your outstanding notes for exchange notes pursuant to the
exchange offer, the outstanding notes you hold will continue to be subject to
the existing restrictions on transfer. In general, you may not offer or sell the
outstanding notes except under an exemption from, or in a transaction not
subject to, the Securities Act and applicable state securities laws. We do not
intend to register outstanding notes under the Securities Act unless the
registration rights agreement requires us to do so.
ACCOUNTING TREATMENT
We will record the exchange notes in our accounting records at the same carrying
value as the outstanding notes. This carrying value is the aggregate principal
amount of the outstanding notes less any bond discount, as reflected in our
accounting records on the date of exchange. Accordingly, we will not recognize
any gain or loss for accounting purposes in connection with the exchange offer.
OTHER
Participation in the exchange offer is voluntary, and you should consider
carefully whether to accept. You are urged to consult your financial and tax
advisors in making your own decision on what action to take.
We may in the future seek to acquire untendered outstanding notes in open market
or privately negotiated transactions, through subsequent exchange offers or
otherwise. We have no present plans to acquire any outstanding notes that are
not tendered in the exchange offer or to file a registration statement to permit
resales of any untendered outstanding notes.
DESCRIPTION OF THE EXCHANGE NOTES AND THE GUARANTEES
The exchange notes will be issued and the outstanding notes were issued under
the indenture among us, Valero L.P., as guarantor, and The Bank of New York, as
trustee, dated as of July 15, 2002, as supplemented by the second supplemental
indenture creating the outstanding notes and the exchange notes.
This description of exchange notes is a summary of the material provisions of
the exchange notes, the guarantee and the indenture. Since this description of
exchange notes is only a summary, you should refer to the exchange notes, the
guarantee and the indenture, copies of which are available from us, for a
detailed description of our obligations and your rights.
References to the "notes" in this section of the prospectus include both the
outstanding notes issued on March 18, 2003 and the exchange notes. In this
description of exchange notes, when we refer to "us," "we," "our" or "ours," we
are describing Valero Logistics Operations, L.P. and not its parent or
subsidiaries. References to the "guarantor" mean only Valero L.P. and not its
subsidiaries.
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The exchange notes, together with the outstanding notes, will constitute a
single series of debt securities under the indenture for voting purposes. If the
exchange offer is consummated, holders of outstanding notes who do not exchange
their notes for exchange notes will vote together with the holders of the
exchange notes for all relevant purposes under the indenture. In that regard,
the indenture requires that certain actions by the holders under the indenture
(including acceleration after an event of default) must be taken, and certain
rights must be exercised, by specified minimum percentages of the aggregate
principal amount of all outstanding debt securities issued under the indenture
or of a specified series of debt securities issued under the indenture, as
described below under "--The notes--Events of default." In determining whether
holders of the requisite percentage in principal amount have given any notice,
consent or waiver or taken any other action permitted under the indenture, any
outstanding notes that remain outstanding after the exchange offer will be
aggregated with the exchange notes, and the holders of the outstanding notes and
the exchange notes shall vote together as a single series for all such purposes.
Accordingly, all references in this description of exchange notes to specified
percentages in aggregate principal amount of the outstanding notes shall be
deemed to mean, at any time after the exchange offer for the outstanding notes
is consummated, such percentage in aggregate principal amount of the outstanding
notes and the exchange notes then outstanding.
In addition to the outstanding notes, there are currently outstanding under the
indenture $100 million in aggregate principal amount of 6.875% senior notes due
2012.
BRIEF DESCRIPTION OF THE NOTES AND THE GUARANTEES
GENERAL
The indenture provides that we may issue debt securities under the indenture
from time to time in one or more series and permits us to establish the terms of
each series of debt securities at the time of issuance. The indenture does not
limit the amount of debt securities that we may issue under the indenture.
The outstanding notes constitute, and, if issued, the exchange notes will
constitute, a separate series of debt securities under the indenture, which
shall not be limited in aggregate principal amount. Under the indenture we may,
without the consent of the outstanding holders of the notes or the exchange
notes, "reopen" that series and issue additional notes of that series and
exchange notes of that series from time to time in the future.
The exchange notes offered by this prospectus, and any additional notes or
exchange notes that we may issue in the future upon a reopening will be treated
as a single series of debt securities under the indenture. This means that, in
circumstances where the indenture provides for the holders of debt securities to
vote or take any other action as a single class, the outstanding notes and, if
issued, the exchange notes, as well as any additional notes of that series and
exchange notes of that series that we may issue by reopening the series, will
vote or take that action as a single class.
THE NOTES
The notes:
- are our general unsecured obligations;
- are unconditionally guaranteed on a senior unsecured basis by Valero
L.P.;
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- rank equally in right of payment with all our other existing and future
senior debt including our existing 6.875% senior notes due 2012;
- effectively rank junior to any of our secured debt, to the extent of
the security for that debt;
- rank senior in right of payment to all of our future subordinated debt;
and
- are non-recourse to our general partner.
Subject to the exceptions, and subject to compliance with the applicable
requirements, set forth in the indenture, we may discharge our obligations under
the indenture with respect to the notes as described below under "--Discharging
our obligations."
THE VALERO L.P. GUARANTEE
Our payment obligations under the notes are fully and unconditionally guaranteed
by Valero L.P. Valero L.P. will execute a notation of guarantee as further
evidence of its guarantee. Pursuant to the parent guarantee, Valero L.P.
guarantees the due and punctual payment of the principal of, and interest and
premium, if any, on, the notes, when the same shall become due, whether by
acceleration or otherwise. The parent guarantee is enforceable against Valero
L.P. without any need to first enforce the notes against us.
The guarantee by Valero L.P.:
- is a general unsecured obligation of Valero L.P.;
- ranks equally in right of payment with all other existing and future
senior unsecured debt of Valero L.P.;
- effectively ranks junior to any secured debt of Valero L.P., to the
extent of the security for that debt;
- ranks senior in right of payment to any future subordinated
indebtedness of Valero L.P.; and
- is non-recourse to the general partner of Valero L.P.
PRINCIPAL, MATURITY AND INTEREST
The notes are issued initially in an aggregate principal amount of $250 million.
The notes are in denominations of $1,000 and integral multiples of $1,000. The
notes mature on March 15, 2013.
Interest on the notes will:
- accrue at the rate of 6.05% per annum;
- accrue from the date of issuance or the most recent interest payment
date;
- be payable in cash semi-annually in arrears on each March 15 and
September 15, commencing on September 15, 2003;
- be payable to the holders of record on March 1 and September 1
immediately preceding the related interest payment date;
- be computed on the basis of a 360-day year comprised of twelve 30-day
months; and
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- be payable, to the extent lawful, on overdue interest to the extent
permitted by law at the same rate as interest is payable on principal.
If any interest payment date, maturity date or redemption date falls on a day
that is not a business day, the payment will be made on the next business day
with the same force and effect as if made on the relevant interest payment date,
maturity date or redemption date. Unless we default on a payment, no interest
will accrue for the period from and after the maturity date or redemption date.
If an exchange offer is not completed or a shelf registration statement with
respect to the notes is not declared effective by a specified date, then, in
addition to the interest otherwise payable on the notes, additional interest, as
discussed above, will accrue and be payable on the notes until that requirement
is satisfied. Please read "Exchange offer--Purpose and effect of the exchange
offer."
OPTIONAL REDEMPTION
The notes will be redeemable by us, in whole or in part, at any time at a
redemption price equal to the greater of:
- 100% of the principal amount of the notes then outstanding to be
redeemed; or
- the sum of the present values of the remaining scheduled payments of
principal and interest thereon (exclusive of interest accrued to the date
of redemption) from the redemption date to the maturity date computed by
discounting such payments to the redemption date on a semiannual basis,
assuming a 360-day year consisting of twelve 30-day months, at a rate
equal to the sum of 37.5 basis points plus the Adjusted Treasury Rate on
the third business day prior to the redemption date,
plus, in each case, unpaid interest accrued to the date of redemption.
"Adjusted Treasury Rate" means:
- the yield, under the heading which represents the average for the week
immediately preceding the week of publication, appearing in the then most
recently published statistical release designated "H.15(519)" or any
successor publication which is published weekly by the Board of Governors
of the Federal Reserve System and which contains yields on actively
traded U.S. Treasury securities adjusted to constant maturity under the
caption "Treasury Constant Maturities," for the maturity corresponding to
the Comparable Treasury Issue (if no maturity is within three months
before or after the remaining term of the notes, yields for the two
published maturities most closely corresponding to the Comparable
Treasury Issue will be determined and the Adjusted Treasury Rate will be
interpolated or extrapolated from such yields on a straight line basis,
rounding to the nearest month); or
- if such release (or any successor release) is not published during the
week including or immediately preceding the calculation date or does not
contain such yields, the rate per annum equal to the semiannual
equivalent yield to maturity of the Comparable Treasury Issue, calculated
using a price for the Comparable Treasury Issue (expressed as a
percentage of its principal amount) equal to the Comparable Treasury
Price for such redemption date.
"Comparable Treasury Issue" means the U.S. Treasury security selected by an
Independent Investment Banker as having a maturity comparable to the remaining
term of the notes that
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would be utilized, at the time of selection and in accordance with customary
financial practice, in pricing new issues of corporate debt securities of
comparable maturity to the remaining term of the notes or, if, in the reasonable
judgment of the Independent Investment Banker, there is no such security, then
the Comparable Treasury Issue will mean the U.S. Treasury security or securities
selected by an Independent Investment Banker as having an actual or interpolated
maturity or maturities comparable to the remaining term of the notes.
"Comparable Treasury Price" means (1) the average of five Reference Treasury
Dealer Quotations for the third business day prior to the applicable redemption
date, after excluding the highest and lowest Reference Treasury Dealer
Quotations, or (2) if the Independent Investment Banker obtains fewer than five
such Reference Treasury Dealer Quotations, the average of all such quotations.
"Independent Investment Banker" means J.P. Morgan Securities Inc. and any
successor firm selected by us, or if any such firm is unwilling or unable to
serve as such, an independent investment and banking institution of national
standing appointed by us.
"Reference Treasury Dealer Quotations" means the average, as determined by the
Independent Investment Banker, of the bid and asked prices for the Comparable
Treasury Issue (expressed in each case as a percentage of its principal amount)
quoted in writing to the Independent Investment Banker and the trustee at 5:00
p.m., New York City time, on the third business day preceding such redemption
date.
The redemption price will be calculated by J.P. Morgan Securities Inc. If J.P.
Morgan Securities Inc. is unwilling or unable to make the calculation, we will
appoint an independent investment banking institution of national standing to
make the calculation.
We will mail notice of redemption at least 30 days but not more than 60 days
before the applicable redemption date to each holder of the notes to be
redeemed. Any notice to holders of notes of such redemption will include the
appropriate calculation of the redemption price, but need not include the
redemption price itself. The actual redemption price, calculated as provided
above, will be set forth in an officer's certificate delivered to the trustee no
later than two business days prior to the redemption date.
Upon the payment of the redemption price, plus accrued and unpaid interest, if
any, to the date of redemption, interest will cease to accrue on and after the
applicable redemption date on the notes or portions thereof called for
redemption.
In the case of any partial redemption, selection of the notes for redemption
will be made by the trustee on a pro rata basis, by lot or by such other method
as the trustee in its sole discretion shall deem to be fair and appropriate.
Notes will be redeemed only in multiples of $1,000 in principal amount. If any
note is to be redeemed in part only, the notice of redemption will state the
portion of the principal amount to be redeemed. A new note in principal amount
equal to the unredeemed portion of the original note will be issued upon the
cancellation of the original note.
In the case of any redemption in part, we will not be required:
- to issue, register the transfer of or exchange notes either during a
period beginning 15 business days prior to the day of mailing of
redemption notice of notes and ending on the close of business on the day
of that mailing; or
- to register the transfer of or exchange the notes or portion of the
notes called for redemption, except the unredeemed portion of the notes
we are redeeming in part.
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NO SINKING FUND
We are not required to make mandatory redemption or sinking fund payments with
respect to the notes.
COVENANTS
For the benefit of the noteholders, we have agreed to the following restrictive
covenants in the indenture. Except to the extent described below, the indenture
does not limit the amount of indebtedness or other obligations that we may
incur.
LIMITATION ON LIENS
The indenture provides that we will not, nor will we permit any subsidiary to,
create, assume, incur or suffer to exist any lien upon any property or assets of
ours, whether owned or leased on the date of the indenture or thereafter
acquired, to secure any of our or its debt or the debt of any other person
(other than the notes and other senior debt securities issued thereunder),
without in any such case making effective provision whereby the notes and all
other senior debt securities outstanding thereunder shall be secured equally and
ratably with, or prior to, such debt so long as such debt shall be so secured.
This restriction does not apply to:
1. Permitted Liens, as defined below;
2. any lien upon any property or assets of ours or any subsidiary in
existence on the date the notes are first issued or created pursuant to an
"after-acquired property" clause or similar term or provided for pursuant to
agreements existing on such date;
3. any lien upon any property or assets created at the time of acquisition
of such property or assets by us or any subsidiary or within one year after such
time to secure all or a portion of the purchase price for such property or
assets or debt incurred to finance such purchase price, whether such debt was
incurred prior to, at the time of or within one year after the date of such
acquisition;
4. any lien upon any property or assets existing thereon at the time of the
acquisition thereof by us or any subsidiary; provided, however, that such lien
only encumbers the property or assets so acquired;
5. any lien upon any property or assets of a person existing thereon at the
time such person becomes a subsidiary by acquisition, merger or otherwise;
provided, however, that such lien only encumbers the property or assets of such
person at the time such person becomes a subsidiary;
6. any lien upon any property or assets to secure all or part of the cost
of construction, development, repair or improvements thereon or to secure debt
incurred prior to, at the time of, or within one year after completion of such
construction, development, repair or improvements or the commencement of full
operations thereof, whichever is later, to provide funds for any such purpose;
7. liens imposed by law or order as a result of any proceeding before any
court or regulatory body that is being contested in good faith, and liens which
secure a judgment or other court-ordered award or settlement as to which we or
the applicable subsidiary has not exhausted its appellate rights;
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8. any lien upon any additions, improvements, replacements, repairs,
fixtures, appurtenances or component parts thereof attaching to or required to
be attached to property or assets pursuant to the terms of any mortgage, pledge
agreement, security agreement or other similar instrument creating a lien upon
such property or assets permitted by clauses (1) through (7) above;
9. any extension, renewal, refinancing, refunding or replacement (or
successive extensions, renewals, refinancings, refundings or replacements) of
any lien, in whole or in part, referred to in clauses (1) through (8),
inclusive, above; provided, however, that the principal amount of debt secured
thereby shall not exceed the principal amount of debt so secured at the time of
such extension, renewal, refinancing, refunding or replacement (plus in each
case the aggregate amount of premiums, other payments, costs and expenses
required to be paid or incurred in connection with such extension, renewal,
refinancing, refunding or replacement); provided, further, however, that such
extension, renewal, refinancing, refunding or replacement lien shall be limited
to all or a part of the property (including improvements, alterations and
repairs on such property) subject to the encumbrance so extended, renewed,
refinanced, refunded or replaced (plus improvements, alterations and repairs on
such property); or
10. any lien resulting from the deposit of moneys or evidence of
indebtedness in trust for the purpose of defeasing debt of ours or any
subsidiary.
Notwithstanding the foregoing, we may, and may permit any subsidiary to, create,
assume, incur, or suffer to exist any lien upon any property or assets to secure
our debt, its debt or the debt of any person (other than the notes and other
senior debt securities issued under the indenture) that is not excepted by
clauses (1) through (10), inclusive, above without securing the notes and other
senior debt securities issued under the indenture, provided that the aggregate
principal amount of all debt then outstanding secured by such lien and all
similar liens, together with all Attributable Indebtedness, as defined below,
from Sale-Leaseback Transactions, as defined below (excluding Sale-Leaseback
Transactions permitted by clauses (1) through (4), inclusive, of the first
paragraph of the restriction on sale-leasebacks covenant described below) does
not exceed 10% of Consolidated Net Tangible Assets (as defined below).
"Permitted Liens" means:
1. liens upon rights-of-way for pipeline purposes created by a person other
than us;
2. any statutory or governmental lien or lien arising by operation of law,
or any mechanics', repairmen's, materialmen's, suppliers', carriers',
landlords', warehousemen's or similar lien incurred in the ordinary course of
business which is not yet due or which is being contested in good faith by
appropriate proceedings and any undetermined lien which is incidental to
construction, development, improvement or repair;
3. the right reserved to, or vested in, any municipality or public authority
by the terms of any right, power, franchise, grant, license, permit or by any
provision of law, to purchase or recapture or to designate a purchaser of, any
property;
4. liens of taxes and assessments which are (A) for the then current year,
(B) not at the time delinquent, or (C) delinquent but the validity of which is
being contested in good faith at the time by us or any subsidiary;
5. liens of, or to secure the performance of, leases, other than capital
leases;
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6. any lien upon, or deposits of, any assets in favor of any surety company
or clerk of court for the purpose of obtaining indemnity or stay of judicial
proceedings;
7. any lien upon property or assets acquired or sold by us or any subsidiary
resulting from the exercise of any rights arising out of defaults on
receivables;
8. any lien incurred in the ordinary course of business in connection with
worker's compensation, unemployment insurance, temporary disability, social
security, retiree health or similar laws or regulations or to secure obligations
imposed by statute or governmental regulations;
9. any lien in favor of us or any subsidiary;
10. any lien in favor of the United States of America or any state thereof,
or any department, agency or instrumentality or political subdivision of the
United States of America or any state thereof, to secure partial, progress,
advance, or other payments pursuant to any contract or statute, or any debt
incurred by us or any subsidiary for the purpose of financing all or any part of
the purchase price of, or the cost of constructing, developing, repairing or
improving, the property or assets subject to such lien;
11. any lien securing industrial development, pollution control or similar
revenue bonds;
12. any lien securing debt of ours or any subsidiary, all or a portion of
the net proceeds of which are used, substantially concurrent with the funding
thereof (and for purposes of determining such "substantial concurrence," taking
into consideration, among other things, required notices to be given to holders
of outstanding senior debt securities under the indenture in connection with
such refunding, refinancing or repurchase, and the required corresponding
durations thereof), to refinance, refund or repurchase the notes and all other
outstanding senior debt securities under the indenture including the amount of
all accrued interest thereon and reasonable fees and expenses and premium, if
any, incurred by us or any subsidiary in connection therewith;
13. liens in favor of any person to secure obligations under the provisions
of any letters of credit, bank guarantees, bonds or surety obligations required
or requested by any governmental authority in connection with any contract or
statute; or
14. any lien upon or deposits of any assets to secure performance of bids,
trade contracts, leases or statutory obligations.
"Consolidated Net Tangible Assets" means, at any date of determination, the
total amount of assets after deducting therefrom:
- all current liabilities, excluding (A) any current liabilities that by
their terms are extendable or renewable at the option of the obligor
thereon to a time more than 12 months after the time as of which the
amount thereof is being computed, and (B) current maturities of long-term
debt; and
- the value, net of any applicable amortization, of all goodwill, trade
names, trademarks, patents, unamortized debt discount and expense and
other like intangible assets,
all as set forth on our consolidated balance sheet for our most recently
completed fiscal quarter, prepared in accordance with United States generally
accepted accounting principles.
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RESTRICTIONS ON SALE-LEASEBACKS
The indenture provides that we will not, and will not permit any subsidiary to,
engage in the sale or transfer by us or any subsidiary of any property or assets
to a person (other than us or a subsidiary) and the taking back by us or any
subsidiary, as the case may be, of a lease of such property or assets (a
"Sale-Leaseback Transaction"), unless:
1. the Sale-Leaseback Transaction occurs within one year from the date of
completion of the acquisition of the property or assets subject thereto or the
date of the completion of construction, development or substantial repair or
improvement, or commencement of full operations on such property or assets,
whichever is later;
2. the Sale-Leaseback Transaction involves a lease for a period, including
renewals, of not more than three years;
3. we or such subsidiary would be entitled to incur debt secured by a lien
on the property or assets subject thereto in a principal amount equal to or
exceeding the Attributable Indebtedness from such Sale-Leaseback Transaction
without equally and ratably securing the notes and other senior debt securities
issued under the indenture; or
4. we or such subsidiary, within a one-year period after such
Sale-Leaseback Transaction, applies or causes to be applied an amount not less
than the Attributable Indebtedness from such Sale-Leaseback Transaction to (A)
the prepayment, repayment, redemption, reduction or retirement of our Pari Passu
Debt, or (B) the expenditure or expenditures for property or assets used or to
be used in the ordinary course of business of ours or our subsidiaries.
Notwithstanding the foregoing, we may, and may permit any of our subsidiaries
to, effect any Sale-Leaseback Transaction that is not excepted by numbers (1)
through (4), inclusive, above; provided that the Attributable Indebtedness from
the Sale-Leaseback Transaction, together with the aggregate principal amount of
then outstanding debt other than the senior debt securities secured by liens
upon any property or assets of ours or our subsidiaries not excepted by clauses
(1) through (10), inclusive, of the second paragraph of the limitation on liens
covenant described above, do not exceed 10% of the Consolidated Net Tangible
Assets.
"Attributable Indebtedness," when used with respect to any Sale-Leaseback
Transaction, means, as at the time of determination, the present value,
discounted at the rate set forth or implicit in the terms of the lease included
in the transaction, of the total obligations of the lessee for rental payments,
other than amounts required to be paid on account of property taxes,
maintenance, repairs, insurance, assessments, utilities, operating and labor
costs and other items that constitute payments for property rights, during the
remaining term of the lease included in the Sale-Leaseback Transaction,
including any period for which the lease has been extended. In the case of any
lease that is terminable by the lessee upon the payment of a penalty or other
termination payment, the amount shall be the lesser of the amount determined
assuming termination upon the first date the lease may be terminated, in which
case the amount shall also include the amount of the penalty or termination
payment, but no rent shall be considered as required to be paid under the lease
subsequent to the first date upon which it may be so terminated, or the amount
determined assuming no termination.
"Pari Passu Debt" means any of our debt, whether outstanding on the date the
notes or any other senior debt securities are issued under the indenture or
thereafter created, incurred or assumed, unless in the case of any particular
debt, the instrument creating or evidencing the same or pursuant to which the
same is outstanding expressly provides that such debt shall be subordinated in
right of payment to the notes or other senior debt securities.
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CONSOLIDATION, MERGER OR ASSET SALE
Pursuant to the indenture, we may not consolidate with or merge into any other
entity or sell, lease or transfer our properties and assets as, or substantially
as, an entirety to, any entity, unless:
- (a) in the case of a merger, we are the surviving entity, or (b) the
entity formed by such consolidation or into which we are merged or the
entity which acquires by sale or transfer, or which leases, our
properties and assets as, or substantially as, an entirety expressly
assumes the due and punctual payment of the principal of and any premium
and interest on the notes and all other debt securities under the
indenture and the performance or observance of every covenant of the
indenture on our part to be performed or observed and shall have
expressly provided for conversion rights in respect of any series of
outstanding securities with conversion rights;
- the surviving entity or successor entity is an entity organized and
existing under the laws of the United States of America, any state
thereof or the District of Columbia;
- immediately after giving effect to such transaction, no default or
event of default shall have occurred and be continuing under the
applicable indenture; and
- we have delivered to the trustee under the indenture an officers'
certificate and an opinion of counsel regarding compliance with the terms
of the applicable indenture.
FUTURE SUBSIDIARY GUARANTORS
We will cause any of our future subsidiaries that become guarantors or
co-obligors of our Funded Debt, as defined below, to fully and unconditionally
guarantee, as "guarantors," our payment obligations on the notes. In particular,
the indenture requires those subsidiaries who become guarantors or borrowers
under our revolving credit facility to equally guarantee the notes.
The term "subsidiary" means, with respect to any person:
- any corporation, association or other business entity of which more
than 50% of the total voting power of the equity interests entitled,
without regard to the occurrence of any contingency, to vote in the
election of directors, managers or trustees thereof is at the time owned
or controlled, directly or indirectly, by that person or one or more of
the other subsidiaries of that person or a combination thereof; or
- any partnership of which more than 50% of the partner's equity
interests, considering all partners' equity interests as a single class,
is at the time owned or controlled, directly or indirectly, by that
person or one or more of the other subsidiaries of that person or a
combination thereof.
"Funded Debt" means all debt:
- maturing one year or more from the date of its creation;
- directly or indirectly renewable or extendable, at the option of the
debtor, by its terms or by the terms of any instrument or agreement
relating to the debt, to a date one year or more from the date of its
creation; or
- under a revolving credit or similar agreement obligating the lender or
lenders to extend credit over a period of one year or more.
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ADDITION AND RELEASE OF GUARANTORS
The indenture provides that if any of our subsidiaries is a guarantor or obligor
of any of our Funded Debt at any time on or subsequent to the date on which the
notes are originally issued, then we will cause the notes to be equally and
ratably guaranteed by that subsidiary. We also will do so if the subsidiary
becomes a guarantor or obligor of any of our Funded Debt following any release
of the subsidiary from its guarantee as described below. Under the terms of the
indenture, a guarantor may be released from its guarantee if the guarantor is
not a guarantor or obligor of any of our Funded Debt, provided that no default
or event of default with respect to the notes has occurred or is continuing.
Each future guarantor would be obligated under its guarantee only up to an
amount that would not constitute a fraudulent conveyance or fraudulent transfer
under federal, state or foreign law.
REPURCHASE UPON A CHANGE OF CONTROL
If a Change of Control, as defined below, occurs, we will make an offer to
purchase all or any part, in multiples of $1,000, of the notes pursuant to the
offer described below at a price in cash equal to 100% of the aggregate
principal amount of those notes plus accrued and unpaid interest, if any, to the
date of purchase. Within 30 days following any Change of Control, we will mail a
notice to each holder of notes, with a copy to the trustee, offering to purchase
notes on the change of control payment date specified in the notice, pursuant to
the procedure required by the indenture and described in the notice.
On the change of control payment date, we will, to the extent permitted by law,
- accept for payment all notes or portions of notes properly tendered
pursuant to the change of control offer,
- deposit with the paying agent an amount equal to the aggregate change
of control payment in respect of all notes or portions of notes so
tendered, and
- deliver, or cause to be delivered, to the trustee for cancellation the
notes so accepted together with an officers' certificate stating that
those notes or portions of notes have been tendered to and purchased by
us.
The paying agent will promptly mail to each holder of notes the change of
control payment for such notes, and the trustee will promptly authenticate and
mail to each holder a new note equal in principal amount to any unpurchased
portion of the notes surrendered, if any, provided, that each such new note will
be in a principal amount of $1,000 or an integral multiple thereof. We will
publicly announce the results of the change of control offer on or as soon as
practicable after the change of control payment date.
We will comply with the requirements of Rule 14e-1 and Rule 13e-4 under the
Securities Exchange Act of 1934 and any other securities laws and regulations
thereunder to the extent such laws or regulations are applicable in connection
with the repurchase of the notes pursuant to a change of control offer. To the
extent that the provisions of any securities laws or regulations conflict with
the provisions of the indenture, we will comply with the applicable securities
laws and regulations and will not be deemed to have breached our obligations
described in the indenture by virtue thereof.
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"Change of Control" means the occurrence of any transaction that results in:
- the failure of Valero Energy or an Investment Grade Person (as defined
below), to own, directly or indirectly, 51% of the general partner
interests in Valero L.P.;
- the failure of Valero L.P. or an Investment Grade Person to own,
directly or indirectly, all of the general partner interests in us; or
- the failure of Valero L.P. or an Investment Grade Person to own,
directly or indirectly, all of the limited partner interests in us.
"Investment Grade Person" means an entity that has issued unsecured senior debt
that has at least two of the following ratings on the date the transaction
constituting a Change of Control is consummated:
- BBB- or above, in the case of Standard & Poor's Ratings Services, a
Division of The McGraw-Hill Companies, Inc. (or its equivalent under any
successor rating categories of S&P);
- Baa3 or above, in the case of Moody's Investors Service, Inc. (or its
equivalent under any successor rating categories of Moody's); or
- the equivalent in respect of the rating categories of any rating
agencies substituted for S&P or Moody's.
EVENTS OF DEFAULT
The following are "events of default" with respect to the notes:
- failure to pay interest on the notes for 30 days;
- failure to pay the principal of or any premium on the notes when due;
- failure to perform any other covenant or warranty in the indenture
(other than a term, covenant or warranty a default in whose performance
or whose breach is elsewhere in this event of default section
specifically dealt with or which has expressly been included in the
indenture solely for the benefit of a series of debt securities other
than the notes) that continues for 60 days after written notice is given
to us by the trustee or to us and the trustee by the holders of at least
25% in principal amount of the notes, specifying such default and
requiring it to be remedied and stating that such notice is a "Notice of
Default" under the indenture;
- failure to pay any of our indebtedness for borrowed money in excess of
$10 million, whether at final maturity (after the expiration of any
applicable grace periods) or upon acceleration of the maturity thereof,
if such indebtedness is not discharged, or such acceleration is not
annulled, within 10 days after written notice is given to us by the
trustee or to the trustee and us by the holders of at least 25% in
principal amount of the outstanding debt securities of the series,
specifying such default and requiring it to be remedied and stating that
such notice is a "Notice of Default" under the applicable indenture; or
- certain events of bankruptcy, insolvency or reorganization.
An Event of Default for a particular series of debt securities does not
necessarily constitute an Event of Default for any other series of debt
securities issued under the indenture. The trustee may withhold notice to the
holders of the notes of any default, except in the payment of
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principal or interest, if it considers such withholding of notice to be in the
best interests of the holders of the notes.
If an Event of Default for the notes occurs and continues, the trustee or the
holders of at least 25% in aggregate principal amount of the notes may declare
the entire principal of, and any accrued but unpaid interest on, the notes to be
due and payable immediately. If this happens, subject to certain conditions, the
holders of a majority of the aggregate principal amount of the notes can rescind
the declaration. If an event of default relating to certain events of
bankruptcy, insolvency or reorganization occurs, the entire principal of all the
outstanding debt securities issued under the indenture, including the notes,
shall be due and payable immediately without further action or notice.
Other than its duties in case of a default, the trustee is not obligated to
exercise any of its rights or powers under the indenture at the request, order
or direction of any holders, unless the holders offer the trustee reasonable
indemnity. If they provide this reasonable indemnification, the holders of a
majority in principal amount of the notes may, subject to certain limitations,
direct the time, method and place of conducting any proceeding or any remedy
available to the trustee, or exercising any power conferred upon the trustee,
for the notes.
MODIFICATION OF THE INDENTURE
We may modify or amend the indenture if the holders of a majority in principal
amount of the outstanding debt securities of all series issued under the
indenture affected by the modification or amendment consent to it. Generally,
without the consent of each holder of a note, however, no modification may:
- change the stated maturity of the principal of or any installment of
principal of or interest on the notes;
- reduce the principal amount of, the interest rate on or the premium
payable upon redemption of the notes;
- change the redemption date for the notes;
- reduce the principal amount of an original issue discount note payable
upon acceleration of maturity;
- change the place of payment where the notes or any premium or interest
on the notes is payable;
- change the coin or currency in which the notes or any premium or
interest on the notes is payable;
- impair the right to institute suit for the enforcement of any payment
on the notes;
- modify the provisions of the indenture in a manner adversely affecting
any right to convert or exchange the notes into another security;
- reduce the percentage in principal amount of outstanding notes
necessary to modify the indenture, to waive compliance with certain
provisions of the indenture or to waive certain defaults and their
consequences; or
- modify any of the above provisions.
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We may modify or amend the indenture without the consent of any holders of the
notes in certain circumstances, including:
- to provide for the assumption of our obligations under the indenture
and the notes and other debt securities issued under the indenture by a
successor;
- to provide for the assumption of Valero L.P.'s guarantee under the
indenture by a successor;
- to add covenants and events of default or to surrender any rights we
have under the indenture;
- to secure the notes as described above under "Covenants--Limitations on
liens;"
- to make any change that does not adversely affect any outstanding notes
in any material respect;
- to supplement the indenture in order to establish a new series of debt
securities under the indenture;
- to provide for successor trustees;
- to cure any ambiguity, omission, defect or inconsistency;
- to provide for uncertificated securities in addition to certificated
securities;
- to supplement any provision of the indenture necessary to permit or
facilitate the defeasance and discharge of the notes so long as that
action does not adversely affect the interests of the holders of the
notes;
- to comply with the rules or regulations of any securities exchange or
automated quotation system on which any of the debt securities issued
thereunder may be listed or traded; and
- to qualify the indenture under the Trust Indenture Act.
The holders of a majority in principal amount of the outstanding notes may waive
past defaults with respect to the notes under the indenture. The holders of a
majority in principal amount of the outstanding debt securities of all affected
series issued under the indenture (voting as one class) may waive compliance by
us with our covenants with respect to the debt securities of those series. Those
holders may not, however, waive any default in any payment on any debt security
of that series or compliance with a provision that cannot be modified or amended
without the consent of each holder affected.
DISCHARGING OUR OBLIGATIONS
We may choose either to discharge our obligations on the notes in a legal
defeasance or to release ourselves from our covenant restrictions on the notes
in a covenant defeasance. We may do so at any time on the 91st day after we
deposit with the trustee sufficient cash or government securities to pay the
principal, interest, any premium and any other sums due on the stated maturity
date or a redemption date of the notes. If we choose the legal defeasance
option, the holders of the notes will not be entitled to the benefits of the
indenture except for registration of transfer and exchange of notes, replacement
of lost, stolen or mutilated notes, conversion or exchange of notes, sinking
fund payments and receipt of principal and interest on the original stated due
dates or specified redemption dates.
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We may discharge our obligations under the indenture or release ourselves from
covenant restrictions only if we meet certain requirements. Among other things,
we must deliver to the trustee an opinion of our legal counsel to the effect
that holders of the notes will not recognize income, gain or loss for federal
income tax purposes as a result of such defeasance and will be subject to
federal income tax on the same amount and in the same manner and at the same
times as would have been the case if such deposit and defeasance had not
occurred. In the case of legal defeasance only, this opinion must be based on
either a ruling received from or published by the IRS or change in federal
income tax law. We may not have a default on the notes discharged on the date of
deposit. The discharge may not violate any of our agreements. The discharge may
not result in our becoming an investment company in violation of the Investment
Company Act of 1940.
THE TRUSTEE
RESIGNATION OR REMOVAL OF TRUSTEE
Under provisions of the indenture and the Trust Indenture Act of 1939, as
amended, governing trustee conflicts of interest, any uncured Event of Default
with respect to the notes will force the trustee to resign as trustee under the
indenture. Any resignation will require the appointment of a successor trustee
under the indenture in accordance with the terms and conditions of the
indenture. We may appoint a separate trustee for the notes. The holders of a
majority in aggregate principal amount of the notes may remove the trustee with
respect to the notes.
LIMITATIONS ON TRUSTEE IF IT IS OUR CREDITOR
There are limitations on the right of the trustee, in the event that it becomes
one of our creditors, to obtain payment of claims in certain cases, or to
realize on certain property received in respect of any such claim as security or
otherwise.
ANNUAL TRUSTEE REPORT TO HOLDERS OF DEBT SECURITIES
The trustee is required to submit an annual report to the holders of the notes
regarding, among other things, the trustee's eligibility to serve as such, the
priority of the trustee's claims regarding certain advances made by it, and any
action taken by the trustee materially affecting the notes.
CERTIFICATES AND OPINIONS TO BE FURNISHED TO TRUSTEE
Every application by us for action by the trustee shall be accompanied by a
certificate of certain of our officers and an opinion of counsel (who may be our
counsel) stating that, in the opinion of the signers, we have complied with all
conditions precedent to such action.
GOVERNING LAW
The indenture and the notes will be governed by the laws of the State of New
York.
NO PERSONAL LIABILITY OF GENERAL PARTNER
Our general partner and its directors, officers, employees and stockholders (in
their capacity as such) will not have any liability for our obligations under
the indenture or the notes. In addition, Valero GP, LLC, the general partner of
Valero L.P.'s general partner, and the directors, officers, employees and
members of Valero GP, LLC will not have any liability for Valero L.P.'s
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obligations as a guarantor under the indenture or the notes. Each holder of
notes by accepting a notes waives and releases all such liability. The waiver
and release are part of the consideration for the issuance of the notes. This
waiver may not be effective, however, to waive liabilities under the federal
securities laws, and it is the view of the SEC that such a waiver is against
public policy.
FORM, EXCHANGE, REGISTRATION AND TRANSFER
The notes will be exchangeable for other notes with the same total principal
amount and the same terms but in different authorized denominations in
accordance with the indenture. Holders may present debt securities for
registration of transfer at the office of the security registrar or any transfer
agent we designate. The security registrar or transfer agent will effect the
transfer or exchange when it is satisfied with the documents of title and
identity of the person making the request. We will not charge a service charge
for any registration of transfer or exchange of the notes. We may, however,
require the payment of any tax or other governmental charge payable for that
registration.
We have appointed The Bank of New York, the trustee under the indenture, as
security registrar for the notes. We may at any time designate additional
transfer agents for the notes.
PAYMENT AND PAYING AGENT
Payment of principal, or premium, if any, and interest on notes in global form
registered in the name of or held by the depositary or its nominee will be made
in immediately available funds to the depositary or its nominee, as the case may
be, as the registered holder of such global note. If any of the notes are no
longer represented by global notes, all payments on such notes will be made at
the corporate trust office of the trustee, which has been designated as our
paying agent for payments on the notes, in New York City, located initially at
101 Barclay Street, New York, New York 10286; however, any payment of interest
on such notes may be made, at our option, by check mailed directly to registered
holders at their registered addresses or, at the option of a registered holder,
by wire transfer to an account designated in writing by the holder.
GLOBAL SECURITIES; BOOK-ENTRY SYSTEM
CERTAIN BOOK-ENTRY PROCEDURES FOR THE GLOBAL SECURITIES
We will issue the exchange notes in the form of one or more global notes in
fully registered form initially in the name of Cede & Co., as nominee of DTC, or
such other name as may be requested by an authorized representative of DTC. The
global notes will be deposited with the trustee as custodian for DTC and may not
be transferred except as a whole by DTC to a nominee of DTC or by a nominee of
DTC to DTC or another nominee of DTC or by DTC or any nominee to a successor of
DTC or a nominee of such successor.
The descriptions of the operations and procedures of DTC, Euroclear and
Clearstream Luxembourg set forth below are provided solely as a matter of
convenience. These operations and procedures are solely within the control of
the respective settlement systems and are subject to change by them from time to
time. We do not take any responsibility for these operations or procedures, and
investors are urged to contact the relevant system or its participants directly
to discuss these matters.
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DTC has advised us that it is:
- a limited-purpose trust company organized under the laws of the State
of New York;
- a "banking organization" within the meaning of the New York Banking
Law;
- a member of the Federal Reserve System;
- a "clearing corporation" within the meaning of the New York Uniform
Commercial Code, as amended; and
- a "clearing agency" registered pursuant to Section 17 A of the
Securities Exchange Act of 1934.
DTC was created to hold securities for its participants (collectively, the
"participants") and to facilitate the clearance and settlement of securities
transactions between participants through electronic book-entry changes to the
accounts of its participants, thereby eliminating the need for physical transfer
and delivery of certificates. DTC's participants include securities brokers and
dealers (including some or all of the initial purchasers), banks and trust
companies, clearing corporations and certain other organizations. Indirect
access to DTC's system is also available to other entities such as banks,
brokers, dealers and trust companies (collectively, the "indirect participants")
that clear through or maintain a custodial relationship with a participant,
either directly or indirectly. Investors who are not participants may
beneficially own securities held by or on behalf of DTC only through
participants or indirect participants.
We expect that, pursuant to procedures established by DTC:
- upon deposit of each global security, DTC will credit, on its
book-entry registration and transfer system, the accounts of participants
designated by the initial purchasers with an interest in that global
security; and
- ownership of beneficial interests in the global securities will be
shown on, and the transfer of ownership interests in the global
securities will be effected only through, records maintained by DTC (with
respect to the interests of participants) and by participants and
indirect participants (with respect to the interests of persons other
than participants).
The laws of some jurisdictions may require that some purchasers of securities
take physical delivery of those securities in definitive form. Accordingly, the
ability to transfer beneficial interests in notes represented by a global
security to those persons may be limited. In addition, because DTC can act only
on behalf of its participants, who in turn act on behalf of persons who hold
interests through participants, the ability of a person holding a beneficial
interest in a global security to pledge or transfer that interest to persons or
entities that do not participate in DTC's system, or to otherwise take actions
in respect of that interest, may be affected by the lack of a physical security
in respect of that interest.
So long as DTC or its nominee is the registered owner of a global security, DTC
or that nominee, as the case may be, will be considered the sole legal owner or
holder of the notes represented by that global security for all purposes of the
notes and the Indenture. Except as provided below, owners of beneficial
interests in a global security will not be entitled to have the notes
represented by that global security registered in their names, will not receive
or be entitled to receive physical delivery of certificated securities, and will
not be considered the owners or holders of the notes represented by that
beneficial interest under the Indenture for any purpose, including with respect
to the giving of any direction, instruction or approval to
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the trustee. Accordingly, each holder owning a beneficial interest in a global
security must rely on the procedures of DTC and, if that holder is not a
participant or an indirect participant, on the procedures of the participant
through which that holder owns its interest, to exercise any rights of a holder
of notes under the Indenture or that global security. We understand that under
existing industry practice, in the event that we request any action of holders
of notes, or a holder that is an owner of a beneficial interest in a global
security desires to take any action that DTC, as the holder of that global
security, is entitled to take, DTC would authorize the participants to take that
action and the participants would authorize holders owning through those
participants to take that action or would otherwise act upon the instruction of
those holders.
Neither we nor the trustee will have any responsibility or liability for any
aspect of the records relating to or payments made on account of notes by DTC,
or for maintaining, supervising or reviewing any records of DTC relating to the
notes.
Payments with respect to the principal of and premium, if any, additional
interest, if any, and interest on a global security will be payable by the
trustee to or at the direction of DTC or its nominee in its capacity as the
registered holder of the global security under the Indenture. Under the terms of
the Indenture, we and the trustee may treat the persons in whose names the
notes, including the global securities, are registered as the owners thereof for
the purpose of receiving payment thereon and for any and all other purposes
whatsoever. Accordingly, neither we nor the trustee has or will have any
responsibility or liability for the payment of those amounts to owners of
beneficial interests in a global security. Payments by the participants and the
indirect participants to the owners of beneficial interests in a global security
will be governed by standing instructions and customary industry practice and
will be the responsibility of the participants and indirect participants and not
of DTC.
Transfers between participants in DTC will be effected in accordance with DTC's
procedures, and will be settled in same-day funds. Transfers between
participants in Euroclear or Clearstream Luxembourg will be effected in the
ordinary way in accordance with their respective rules and operating procedures.
Subject to compliance with the transfer restrictions applicable to the notes,
cross-market transfers between the participants in DTC, on the one hand, and
Euroclear or Clearstream Luxembourg participants, on the other hand, will be
effected through DTC in accordance with DTC's rules on behalf of Euroclear or
Clearstream Luxembourg, as the case may be, by its respective depositary;
however, those crossmarket transactions will require delivery of instructions to
Euroclear or Clearstream Luxembourg, as the case may be, by the counterparty in
that system in accordance with the rules and procedures and within the
established deadlines (Brussels time) of that system. Euroclear or Clearstream
Luxembourg, as the case may be, will, if the transaction meets its settlement
requirements, deliver instructions to its respective depositary to take action
to effect final settlement on its behalf by delivering or receiving interests in
the relevant global securities in DTC, and making or receiving payment in
accordance with normal procedures for same-day funds settlement applicable to
DTC Euroclear participants and Clearstream Luxembourg participants may not
deliver instructions directly to the depositaries for Euroclear or Clearstream
Luxembourg.
Because of time zone differences, the securities account of a Euroclear or
Clearstream Luxembourg participant purchasing an interest in a global security
from a participant in DTC will be credited, and any such crediting will be
reported to the relevant Euroclear or Clearstream Luxembourg participant, during
the securities settlement processing day (which
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must be a business day for Euroclear and Clearstream Luxembourg) immediately
following the settlement date of DTC Cash received in Euroclear or Clearstream
Luxembourg as a result of sales of interest in a global security by or through a
Euroclear or Clearstream Luxembourg participant to a participant in DTC will be
received with value on the settlement date of DTC but will be available in the
relevant Euroclear or Clearstream Luxembourg cash account only as of the
business day for Euroclear or Clearstream Luxembourg following DTC's settlement
date.
Although we understand that DTC, Euroclear and Clearstream Luxembourg have
agreed to the foregoing procedures to facilitate transfers of interests in the
global securities among participants in DTC, Euroclear and Clearstream
Luxembourg, they are under no obligation to perform or to continue to perform
those procedures, and those procedures may be discontinued at any time. Neither
we nor the trustee will have any responsibility for the performance by DTC,
Euroclear or Clearstream Luxembourg or their respective participants or indirect
participants of their respective obligations under the rules and procedures
governing their operations.
We obtained the information in this section and elsewhere in this offering
memorandum concerning DTC, Euroclear and Clearstream Luxembourg and their
respective book-entry systems from sources that we believe are reliable, but we
take no responsibility for the accuracy of any of this information.
SAME-DAY SETTLEMENT AND PAYMENT
Settlement for the notes will be made by the initial purchasers in immediately
available funds. So long as DTC continues to make its settlement system
available to us, all payments of principal of and premium, if any, and interest
on the global securities will be made by us in immediately available funds.
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MATERIAL FEDERAL INCOME TAX CONSEQUENCES
The following is a general discussion of the material United States federal
income tax consequences applicable to the exchange of exchange notes for
outstanding notes in the exchange offer and, in the case of an initial
beneficial owner of the notes that is a "non-United States holder", the material
federal income tax consequences of the ownership and disposition of the exchange
notes. This discussion is not a complete discussion of all the potential tax
consequences that may be relevant to you. This discussion is based upon the
Internal Revenue Code of 1986, as amended, its legislative history, existing and
proposed regulations thereunder, published rulings, and court decisions, all as
in effect on the date of this prospectus, and all of which are subject to
change, possibly on a retroactive basis. For purposes of this discussion, you
are a "United States holder" if you are a beneficial owner of notes and you are
a "United States person" for United States federal tax purposes or a "non-
United States holder" if you are a beneficial owner of notes and are not a
United States holder. A "United States person" is:
- a citizen or resident of the United States or any political subdivision
thereof;
- a corporation, partnership, or other entity treated as a corporation or
partnership for United States federal income tax purposes, created or
organized in the United States or under the laws of the United States or
of any state thereof including the District of Columbia;
- an estate whose income is subject to United States federal income
taxation regardless of its source; or
- a trust if a U.S. court is able to exercise primary supervision over
the administration of the trust and one or more United States persons
have the authority to control all substantial decisions of the trust or
certain electing trusts that were in existence on August 19, 1996, and
treated as a domestic trust on that date.
If a partnership or other entity treated as a partnership for United States
federal income tax purposes holds notes, the tax treatment of a partner will
generally depend on the status of the partner and on the activities of the
partnership. Partners of partnerships holding notes should consult their tax
advisors.
This discussion only applies to you if you are a beneficial owner of notes who
holds the notes as capital assets. The tax treatment of holders of the notes may
vary depending upon their particular situations. Certain holders, including
insurance companies, tax exempt organizations, financial institutions,
broker-dealers and persons holding the notes as part of a "straddle," "hedge" or
"conversion transaction," may be subject to special rules not discussed below.
We urge you to consult your own tax advisors regarding the particular United
States federal tax consequences of holding and disposing of notes, as well as
any tax consequences that may arise under the laws of any relevant foreign,
state, local, or other taxing jurisdiction or under any applicable tax treaty.
TAX CONSEQUENCES OF THE EXCHANGE OFFER
The exchange of exchange notes for outstanding notes pursuant to the exchange
offer will not be a taxable event for United States federal income tax purposes.
United States holders and non-United States holders will not recognize any
taxable gain or loss as a result of the
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exchange and will have the same tax basis and holding period in the exchange
notes as they had in the outstanding notes immediately before the exchange.
TAX CONSEQUENCES TO NON-UNITED STATES HOLDERS
INTEREST
Interest that we pay to you will not be subject to U.S. federal income tax and
withholding of U.S. federal income tax will not be required on that payment if
you:
- do not actually or constructively own 10% or more of our capital or
profits interests;
- are not a controlled foreign corporation with respect to which we are a
related person within the meaning of the Internal Revenue Code;
- are not a bank whose receipt of interest is described in Section
881(c)(3)(A) of the Internal Revenue Code; and
- you certify to us, our payment agent, or the person who would otherwise
be required to withhold United States tax, on Form W-8BEN (or applicable
substitute form), under penalties of perjury, that you are not a United
States person and provide your name and address.
If you do not satisfy the preceding requirements, your interest on an exchange
note would generally be subject to United States withholding tax at a rate of
30% (or a lower applicable treaty rate).
If you are engaged in trade or business in the United States, and if interest on
an exchange note is effectively connected with the conduct of that trade or
business (or in the case of an applicable tax treaty, is attributable to a
permanent establishment maintained by you in the United States), you will be
exempt from United States withholding tax but will be subject to regular United
States federal income tax on the interest in the same manner as if you were a
United States holder. Because this discussion does not address the United States
federal income tax consequences of the ownership and disposition of exchange
notes by a United States holder, you should consult your own tax advisor if you
are engaged in a trade or business in the United States. In order to establish
an exemption from United States withholding tax, you may provide to us, our
payment agent or the person who would otherwise be required to withhold United
States tax, a properly completed and executed IRS Form W-8ECI (or applicable
substitute form). In addition to regular United States federal income tax, if
you are a foreign corporation, you may be subject to a United States branch
profits tax.
GAIN ON DISPOSITION
You generally will not be subject to United States federal income tax with
respect to gain recognized on a sale, redemption, exchange or other disposition
of an exchange note unless:
- the gain is effectively connected with the conduct by you of a trade or
business within the United States, or, under an applicable tax treaty, is
attributable to a permanent establishment maintained by you in the United
States;
- if you are an individual, you are present in the United States for 183
or more days in the taxable year of disposition and certain other
requirements are met; or
- the gain represents accrued interest, in which case the rules for
interest would apply.
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INFORMATION REPORTING AND BACKUP WITHHOLDING
Backup withholding and information reporting generally will not apply to
payments of principal or interest on the exchange notes by us or our paying
agent to you if you certify as to your non-U.S. status under penalties of
perjury or otherwise establish an exemption (provided that neither we nor our
paying agent has actual knowledge that you are a United States person or that
the conditions of any other exemptions are not in fact satisfied). However,
payments of interest on the exchange notes are required to be reported on IRS
Form 1042-S even if the payments are not otherwise subject to information
reporting. The backup withholding rate is currently 28%. After December 31,
2010, the backup withholding rate will be increased to 31%.
The payment of the proceeds of the disposition of exchange notes to or through
the United States office of a United States or foreign broker will be subject to
information reporting and backup withholding unless you provide the
certification described above or otherwise establish an exemption. The proceeds
of a disposition effected outside the United States by you of exchange notes to
or through a foreign office of a broker generally will not be subject to backup
withholding or information reporting. However, if that broker is a United States
person, a controlled foreign corporation for United States tax purposes, a
foreign person 50% or more of whose gross income from all sources for certain
periods is effectively connected with a trade or business in the United States,
or a foreign partnership that is engaged in the conduct of a trade or business
in the United States or that has one or more partners that are United States
persons who in the aggregate hold more than 50% of the income or capital
interests in the partnership, information reporting requirements will apply
unless that broker has documentary evidence in its files of your non-U.S. status
and has no actual knowledge to the contrary or unless you otherwise establish an
exemption.
You should consult your tax advisors regarding the application of information
reporting and backup withholding to your particular situation, the availability
of an exemption therefrom, and the procedure for obtaining such an exemption, if
available. Backup withholding is not an additional tax. Any amounts withheld
from a payment to you under the backup withholding rules will be allowed as a
credit against your United States federal income tax liability and may entitle
you to a refund, provided you furnish the required information to the United
States Internal Revenue Service.
THIS FEDERAL INCOME TAX DISCUSSION IS INCLUDED FOR GENERAL INFORMATION ONLY AND
MAY NOT BE APPLICABLE DEPENDING UPON YOUR PARTICULAR SITUATION. YOU SHOULD
CONSULT YOUR TAX ADVISORS WITH RESPECT TO THE TAX CONSEQUENCES OF THE OWNERSHIP
AND DISPOSITION OF THE EXCHANGE NOTES, INCLUDING THE TAX CONSEQUENCES UNDER
STATE, LOCAL, FOREIGN AND OTHER TAX LAWS AND POSSIBLE EFFECTS OF CHANGES IN
FEDERAL OR OTHER TAX LAWS.
APPLICABLE TAX TREATIES
You should consult with your own tax advisor as to any applicable income tax
treaties which may provide for a lower rate of withholding tax, exemption from,
or a reduction of, branch profits tax, or other rules different from those rules
under United States federal tax laws.
127
PLAN OF DISTRIBUTION
Based on interpretations by the staff of the Commission in no-action letters
issued to third parties, we believe that you may transfer exchange notes issued
under the exchange offer in exchange for the outstanding notes if:
- you acquire the exchange notes in the ordinary course of your business;
and
- you are not engaged in, and do not intend to engage in, and have no
arrangement or understanding with any person to participate in, a
distribution of such exchange notes.
You may not participate in the exchange offer if you are:
- our or Valero L.P.'s "affiliate" within the meaning of Rule 405 under
the Securities Act; or
- a broker-dealer that acquired outstanding notes directly from us.
Each broker-dealer that receives exchange notes for its own account pursuant to
the exchange offer must acknowledge that it will deliver this prospectus in
connection with any resale of such exchange notes. To date, the staff of the
Commission has taken the position that broker-dealers may fulfill their
prospectus delivery requirements with respect to transactions involving an
exchange of securities such as this exchange offer, other than a resale of an
unsold allotment from the original sale of the outstanding notes, with the
prospectus contained in the exchange offer registration statement. This
prospectus, as it may be amended or supplemented from time to time, may be used
by a broker-dealer in connection with resales of exchange notes received in
exchange for outstanding notes where such outstanding notes were acquired as a
result of market-making activities or other trading activities. We have agreed
that, for a period of up to 180 days after the effective date of the exchange
offer registration statement, we will make this prospectus, as amended or
supplemented, available to any broker-dealer for use in connection with any such
resale. In addition, until such date, all dealers effecting transactions in
exchange notes may be required to deliver this prospectus.
If you wish to exchange exchange notes for your outstanding notes in the
exchange offer, you will be required to make representations to us as described
in "Exchange offer--Purpose and effect of the exchange offer" and "Exchange
offer--Your representations to us" in this prospectus. As indicated in the
letter of transmittal, you will be deemed to have made these representations by
tendering your outstanding notes in the exchange offer. In addition, if you are
a broker-dealer who receives exchange notes for your own account in exchange for
outstanding notes that were acquired by you as a result of market-making
activities or other trading activities, you will be required to acknowledge, in
the same manner, that you will deliver this prospectus in connection with any
resale by you of such exchange notes.
We will not receive any proceeds from any sale of exchange notes by
broker-dealers. Exchange notes received by broker-dealers for their own account
pursuant to the exchange offer may be sold from time to time in one or more
transactions in the over-the-counter market:
- in negotiated transactions;
- through the writing of options on the exchange notes or a combination
of such methods of resale;
128
- at market prices prevailing at the time of resale; and
- at prices related to such prevailing market prices or negotiated
prices.
Any such resale may be made directly to purchasers or to or through brokers or
dealers who may receive compensation in the form of commissions or concessions
from any such broker-dealer or the purchasers of any such exchange notes. Any
broker-dealer that resells exchange notes that were received by it for its own
account pursuant to the exchange offer and any broker or dealer that
participates in a distribution of such exchange notes may be deemed to be an
"underwriter" within the meaning of the Securities Act. The letter of
transmittal states that by acknowledging that it will deliver and by delivering
this prospectus, a broker-dealer will not be deemed to admit that it is an
"underwriter" within the meaning of the Securities Act.
For a period of 180 days after the effective date of this exchange offer
registration statement, we will promptly send additional copies of this
prospectus and any amendment or supplement to this prospectus to any
broker-dealer that requests such documents in the letter of transmittal. We have
agreed to pay all expenses incident to the exchange offer (including the
expenses of one counsel for the holders of the outstanding notes) other than
commissions or concessions of any broker-dealers and will indemnify the holders
of the outstanding notes (including any broker-dealers) against certain
liabilities, including liabilities under the Securities Act.
LEGAL MATTERS
The validity of the exchange notes and certain federal income tax matters
related to the notes will be passed upon for us by Andrews & Kurth L.L.P.,
Houston, Texas.
INDEPENDENT ACCOUNTANTS
The consolidated balance sheets of Valero L.P. and subsidiaries as of December
31, 2002 and 2001, and the related consolidated statements of income, cash flows
and partners' equity for the year ended December 31, 2002 and the balance sheet
of the Valero South Texas Pipeline and Terminal Business as of December 31,
2002, and the related statements of income, cash flows and changes in net parent
investment for the year then ended, appearing in this prospectus have been
audited by Ernst & Young LLP, independent auditors, as set forth in their
reports thereon appearing elsewhere herein, and are included in reliance upon
such reports given on the authority of such firm as experts in accounting and
auditing.
The consolidated statements of income, cash flows and partners' equity of Valero
L.P. and subsidiaries for the year ended December 31, 2001 and the consolidated
financial statements of Valero L.P. and subsidiaries for the year ended December
31, 2000, appearing in this prospectus have been audited by Arthur Andersen LLP,
independent public accountants, as set forth in their report thereon appearing
elsewhere herein, and are included in reliance on the authority of said firm as
experts in giving said report. On March 22, 2002, upon the recommendation of the
audit committee, the board of directors of Valero GP, LLC approved the dismissal
of Arthur Andersen LLP as Valero L.P.'s independent public accountants and the
selection of Ernst & Young LLP to audit the consolidated financial statements of
Valero L.P. for the year ending December 31, 2002.
129
WHERE YOU CAN FIND MORE INFORMATION
We are a 100%-owned subsidiary of Valero L.P., the guarantor of our obligations
under the exchange notes. Valero L.P. files annual, quarterly and other reports
and other information with the Commission. You may read and copy any document we
file with the Commission at the Commission's public reference room at 450 Fifth
Street, N.W., Washington, D.C. 20549. Please call the Commission at
1-800-SEC-0330 for further information on the operation of the Commission's
public reference room. Our Commission filings are also available at the
Commission's website at http://www.sec.gov.
The Commission allows us to "incorporate by reference" the information we have
filed with the Commission. This means that we can disclose important information
to you without actually including the specific information in this prospectus by
referring you to another document filed separately with the Commission. The
information incorporated by reference is an important part of this prospectus.
Information that we file later with the Commission will automatically update and
may replace information in this prospectus and information previously filed with
the Commission.
We incorporate by reference the documents listed below that Valero L.P. has
previously filed with the Commission and any future filings made with the
Commission under Sections 13(a), 13(c), 14 or 15(d) of the Securities Exchange
Act of 1934 (excluding any information furnished pursuant to Item 9 or Item 12
on any Current Report on Form 8-K) subsequent to the date of this prospectus and
prior to the completion of this offering. They contain important information
about us, our financial condition and results of operations. We also incorporate
by reference any future filings made with the Commission under the Exchange Act
subsequent to the date of the initial registration statement and prior to
effectiveness of the registration statement.
- Valero L.P.'s Annual Report on Form 10-K for the year ended December
31, 2002;
- Valero L.P.'s Quarterly Report on Form 10-Q for the quarter ended March
31, 2003;
- Valero L.P.'s Current Reports on Form 8-K as filed February 27, 2003,
March 10, 2003, March 14, 2003, March 17, 2003, April 2, 2003 and April
21, 2003; and
- the description of Valero L.P.'s common units contained in Valero
L.P.'s registration statement on Form 8-A, filed on March 30, 2001.
You may obtain any of the documents incorporated by reference in this document
through us or from the Commission through the Commission's website at the
address provided above. Documents incorporated by reference are available from
us without charge, excluding any exhibits to those documents, unless the exhibit
is specifically incorporated by reference in this document, by requesting them
in writing or by telephone from us at the address below. You may also obtain
these documents through our website at www.valerolp.com.
Investor Relations
Valero L.P.
One Valero Place
San Antonio, Texas 78212
Telephone: (210) 370-2000
To obtain timely delivery of any of the documents incorporated by reference in
this prospectus, you must request the information no later than , 2003.
CAUTIONARY STATEMENT REGARDING
FORWARD-LOOKING INFORMATION
130
This prospectus includes forward-looking statements regarding future events and
our future financial performance. All forward-looking statements are based on
our beliefs as well as assumptions made by and information currently available
to us. Words such as "believe", "expect", "intend", "forecast", "project" and
similar expressions, identify forward-looking statements within the meaning of
the Securities Litigation Reform Act of 1995. These statements reflect our
current views with respect to future events and are subject to various risks,
uncertainties and assumptions including:
- Any reduction in the quantities of crude oil and refined products
transported in our pipelines and handled at our terminals and storage
tanks;
- Any significant decrease in the demand for refined products in the
markets served by our pipelines;
- Any material decline in production by any of Valero Energy's McKee,
Three Rivers, Corpus Christi, Texas City, Benicia or Ardmore refineries;
- Any downward pressure on market prices caused by new competing refined
product pipelines that could cause Valero Energy to decrease the volumes
transported in our pipelines;
- Any challenges to our tariff rates or changes in the FERC's ratemaking
methodology;
- Any material decrease in the supply of or material increase in the
price of crude oil available for transport through our pipelines and
storage tanks;
- Inability to expand our business and acquire new assets as well as to
attract third party shippers;
- Conflicts of interest with Valero Energy;
- Any inability to borrow additional funds;
- Any substantial costs related to environmental risks, including
increased costs of compliance;
- Any change in the credit rating assigned to our indebtedness;
- Any change in the credit rating assigned to Valero Energy's
indebtedness;
- Any reductions in space allocated to us in interconnecting third party
pipelines;
- Any material increase in the price of natural gas;
- Terrorist attacks, threats of war or terrorist attacks or political or
other disruptions that limit crude oil production;
- Valero L.P.'s former use of Arthur Andersen LLP as its independent
auditor; and
- Proposed changes in federal income tax laws.
If one or more of these risks or uncertainties materialize, or if the underlying
assumptions prove incorrect, actual results may vary materially from those
described in the forward-looking statement. Readers are cautioned not to place
undue reliance on this forward-looking information, which is as of the date of
this prospectus, and we undertake no obligation to
131
update publicly or revise any forward-looking information, whether as a result
of new information, future events or otherwise. When reviewing forward-looking
information, please review carefully the risk factors described under "Risk
factors" in this prospectus.
132
ANNEX A
LETTER OF TRANSMITTAL
TO TENDER
OUTSTANDING 6.05% SENIOR NOTES DUE 2013
OF
VALERO LOGISTICS OPERATIONS, L.P.
PURSUANT TO THE
EXCHANGE OFFER AND PROSPECTUS DATED , 2003
THE EXCHANGE OFFER AND WITHDRAWAL RIGHTS WILL EXPIRE AT 5:00 P.M.,
NEW YORK CITY TIME, ON , 2003 (THE "EXPIRATION DATE"),
UNLESS THE EXCHANGE OFFER IS EXTENDED BY THE COMPANY.
The Exchange Agent for the Exchange Offer is:
THE BANK OF NEW YORK
Attn: Carolle Montreuil
Corporate Trust Operations
Reorganization Unit
101 Barclay Street -- 7 East
New York, New York 10286
By Facsimile Transmission:
(212) 298-1915
For Information or Confirmation by Telephone:
(212) 815-5920
IF YOU WISH TO EXCHANGE CURRENTLY OUTSTANDING 6.05% SENIOR NOTES DUE 2013 (THE
"OUTSTANDING NOTES") FOR AN EQUAL AGGREGATE PRINCIPAL AMOUNT OF 6.05% EXCHANGE
NOTES DUE 2013 PURSUANT TO THE EXCHANGE OFFER, YOU MUST VALIDLY TENDER (AND NOT
WITHDRAW) OUTSTANDING NOTES TO THE EXCHANGE AGENT PRIOR TO 5:00 P.M., NEW YORK
CITY TIME, ON THE EXPIRATION DATE BY CAUSING AN AGENT'S MESSAGE TO BE RECEIVED
BY THE EXCHANGE AGENT PRIOR TO SUCH TIME.
The undersigned hereby acknowledges receipt of the prospectus, dated ,
2003 (the "Prospectus"), of Valero Logistics Operations, L.P., a Delaware
limited partnership (the "Operating Partnership"), and this Letter of
Transmittal (the "Letter of Transmittal"), which together describe the Operating
Partnership's offer (the "Exchange Offer") to exchange its 6.05% Exchange Notes
due 2013 (the "Exchange Notes") that have been registered under the Securities
Act of 1933, as amended (the "Securities Act"), for a like principal amount of
its issued and outstanding 6.05% Senior Notes due 2013 (the "Outstanding
Notes"). Capitalized terms used but not defined herein have the respective
meaning given to them in the Prospectus.
The Operating Partnership reserves the right, at any time or from time to time,
to extend the Exchange Offer at its discretion, in which event the term
"Expiration Date" shall mean the latest date to which the Exchange Offer is
extended. The Operating Partnership shall notify the Exchange Agent and each
registered holder of the Outstanding Notes of any extension by oral or written
notice prior to 9:00 a.m., New York City time, on the next business day after
the previously scheduled Expiration Date.
This Letter of Transmittal is to be used by holders of the Outstanding Notes.
Tender of Outstanding Notes is to be made according to the Automated Tender
Offer Program ("ATOP") of the Depository Trust Company ("DTC") pursuant to the
procedures set forth in the prospectus under the caption "Exchange
offer--Procedures for tendering." DTC participants that are accepting the
Exchange Offer must transmit their acceptance to DTC, which will verify the
acceptance and execute a book-entry delivery to the Exchange Agent's DTC
account. DTC will then send a computer generated message known as an "agent's
message" to the exchange agent for its acceptance. For you to validly tender
your Outstanding Notes in the Exchange Offer, the Exchange Agent must receive,
prior to the Expiration Date, an agent's message under the ATOP procedures that
confirms that:
- DTC has received your instructions to tender your Outstanding Notes;
and
- You agree to be bound by the terms of this Letter of Transmittal.
BY USING THE ATOP PROCEDURES TO TENDER OUTSTANDING NOTES, YOU WILL NOT BE
REQUIRED TO DELIVER THIS LETTER OF TRANSMITTAL TO THE EXCHANGE AGENT. HOWEVER,
YOU WILL BE BOUND BY ITS TERMS, AND YOU WILL BE DEEMED TO HAVE MADE THE
ACKNOWLEDGMENTS AND THE REPRESENTATIONS AND WARRANTIES IT CONTAINS, JUST AS IF
YOU HAD SIGNED IT.
A-2
PLEASE READ THE ACCOMPANYING INSTRUCTIONS CAREFULLY
Ladies and Gentlemen:
1. By tendering Outstanding Notes in the Exchange Offer, you acknowledge receipt
of the Prospectus and this Letter of Transmittal.
2. By tendering Outstanding Notes in the Exchange Offer, you represent and
warrant that you have full authority to tender the Outstanding Notes described
above and will, upon request, execute and deliver any additional documents
deemed by the Operating Partnership to be necessary or desirable to complete the
tender of Outstanding Notes.
3. The tender of the Outstanding Notes pursuant to all of the procedures set
forth in the Prospectus will constitute an agreement between you and the
Operating Partnership as to the terms and conditions set forth in the
Prospectus.
4. The Exchange Offer is being made in reliance upon interpretations contained
in no-action letters issued to third parties by the staff of the Securities and
Exchange Commission (the "Commission"), including Exxon Capital Holdings Corp.,
Commission No-Action Letter (available May 13, 1988), Morgan Stanley & Co.,
Inc., Commission No-Action Letter (available June 5, 1991) and Shearman &
Sterling, Commission No-Action Letter (available July 2, 1993), that the
Exchange Notes issued in exchange for the Outstanding Notes pursuant to the
Exchange Offer may be offered for resale, resold and otherwise transferred by
holders thereof (other than a broker-dealer who purchased Outstanding Notes
exchanged for such Exchange Notes directly from the Operating Partnership to
resell pursuant to Rule 144A or any other available exemption under the
Securities Act of 1933, as amended (the "Securities Act") and any such holder
that is an "affiliate" of the Operating Partnership or Valero L.P. (the
"Partnership") within the meaning of Rule 405 under the Securities Act), without
compliance with the registration and prospectus delivery provisions of the
Securities Act, provided that such Exchange Notes are acquired in the ordinary
course of such holders' business and such holders are not participating in, and
have no arrangement with any person to participate in, the distribution of such
Exchange Notes.
5. By tendering Outstanding Notes in the Exchange Offer, you represent and
warrant that:
(a) the Exchange Notes acquired pursuant to the Exchange Offer are
being obtained in the ordinary course of your business, whether or not you
are the holder;
(b) neither you nor any such other person is engaging in or intends to
engage in a distribution of such Exchange Notes;
(c) neither you nor any such other person has an arrangement or
understanding with any person to participate in the distribution of such
Exchange Notes; and
(d) neither the holder nor any such other person is an "affiliate," as
such term is defined under Rule 405 promulgated under the Securities Act,
of the Operating Partnership or the Partnership.
6. You may, if you are unable to make all of the representations and warranties
contained in paragraph 5 above and as otherwise permitted in the Registration
Rights Agreement (as defined below), elect to have your Outstanding Notes
registered in the shelf registration statement described in the Registration
Rights Agreement, dated as of March 18, 2003 (the "Registration Rights
Agreement"), by and among the Operating Partnership, the Partnership
A-3
and the Initial Purchasers (as defined therein). Such election may be made only
by notifying the Operating Partnership in writing at Valero L.P., One Valero
Place, San Antonio, Texas 78212, Attention: Secretary. By making such election,
you agree, as a holder of Outstanding Notes participating in a shelf
registration, to indemnify and hold harmless the Operating Partnership, each of
the directors of Valero GP, LLC, the general partner of the Partnership (the
"General Partner"), each of the officers of the General Partner who signs such
shelf registration statement, each person who controls the Operating Partnership
within the meaning of either the Securities Act or the Securities Exchange Act
of 1934, as amended (the "Exchange Act"), and each other holder of Outstanding
Notes, from and against any and all losses, claims, damages or liabilities
caused by any untrue statement or alleged untrue statement of a material fact
contained in any shelf registration statement or prospectus, or in any
supplement thereto or amendment thereof, or caused by the omission or alleged
omission to state therein a material fact required to be stated therein or
necessary to make the statements therein, in the light of the circumstances
under which they were made, not misleading; but only with respect to information
relating to you furnished in writing by or on behalf of you expressly for use in
a shelf registration statement, a prospectus or any amendments or supplements
thereto. Any such indemnification shall be governed by the terms and subject to
the conditions set forth in the Registration Rights Agreement, including,
without limitation, the provisions regarding notice, retention of counsel,
contribution and payment of expenses set forth therein. The above summary of the
indemnification provision of the Registration Rights Agreement is not intended
to be exhaustive and is qualified in its entirety by the Registration Rights
Agreement.
7. If you are a broker-dealer that will receive Exchange Notes for your own
account in exchange for Outstanding Notes that were acquired as a result of
market-making activities or other trading activities, you acknowledge, by
tendering Outstanding Notes in the Exchange Offer, that you will deliver a
prospectus in connection with any resale of such Exchange Notes; however, by so
acknowledging and by delivering a prospectus, you will not be deemed to admit
that you are an "underwriter" within the meaning of the Securities Act. If you
are a broker-dealer and Outstanding Notes held for your own account were not
acquired as a result of market-making or other trading activities, such
Outstanding Notes cannot be exchanged pursuant to the Exchange Offer.
8. Any of your obligations hereunder shall be binding upon your successors,
assigns, executors, administrators, trustees in bankruptcy and legal and
personal representatives.
A-4
INSTRUCTIONS
FORMING PART OF THE TERMS AND CONDITIONS
OF THE EXCHANGE OFFER
1. BOOK-ENTRY CONFIRMATIONS. Any confirmation of a book-entry transfer to the
Exchange Agent's account at DTC of Outstanding Notes tendered by book-entry
transfer (a "Book-Entry Confirmation"), as well as an agent's message, and any
other documents required by this Letter of Transmittal, must be received by the
Exchange Agent at its address set forth herein prior to 5:00 p.m., New York City
time, on the Expiration Date.
2. PARTIAL TENDERS. Tenders of Outstanding Notes will be accepted only in
denominations of $1,000 and integral multiples of $1,000. THE ENTIRE PRINCIPAL
AMOUNT OF OUTSTANDING NOTES DELIVERED TO THE EXCHANGE AGENT WILL BE DEEMED TO
HAVE BEEN TENDERED UNLESS OTHERWISE COMMUNICATED TO THE EXCHANGE AGENT. IF THE
ENTIRE PRINCIPAL AMOUNT OF ALL OUTSTANDING NOTES IS NOT TENDERED, THEN
OUTSTANDING NOTES FOR THE PRINCIPAL AMOUNT OF OUTSTANDING NOTES NOT TENDERED AND
EXCHANGE NOTES ISSUED IN EXCHANGE FOR ANY OUTSTANDING NOTES ACCEPTED WILL BE
DELIVERED TO THE HOLDER VIA THE FACILITIES OF DTC PROMPTLY AFTER THE OUTSTANDING
NOTES ARE ACCEPTED FOR EXCHANGE.
3. VALIDITY OF TENDERS. All questions as to the validity, form, eligibility
(including time of receipt), acceptance, and withdrawal of tendered Outstanding
Notes will be determined by the Operating Partnership, in its sole discretion,
which determination will be final and binding. The Operating Partnership
reserves the absolute right to reject any or all tenders not in proper form or
the acceptance for exchange of which may, in the opinion of counsel for the
Operating Partnership, be unlawful. The Operating Partnership also reserves the
absolute right to waive any of the conditions of the Exchange Offer or any
defect or irregularity in the tender of any Outstanding Notes. The Operating
Partnership's interpretation of the terms and conditions of the Exchange Offer
(including the instructions on this Letter of Transmittal) will be final and
binding on all parties. Unless waived, any defects or irregularities in
connection with tenders of Outstanding Notes must be cured within such time as
the Operating Partnership shall determine. Although the Operating Partnership
intends to notify holders of defects or irregularities with respect to tenders
of Outstanding Notes, neither the Operating Partnership, the Exchange Agent, nor
any other person shall be under any duty to give notification of any defects or
irregularities in tenders or incur any liability for failure to give such
notification. Tenders of Outstanding Notes will not be deemed to have been made
until such defects or irregularities have been cured or waived. Any Outstanding
Notes received by the Exchange Agent that are not properly tendered and as to
which the defects or irregularities have not been cured or waived will be
returned by the Exchange Agent to the tendering holders via the facilities of
DTC, as soon as practicable following the Expiration Date.
A-5
INDEX TO FINANCIAL STATEMENTS
VALERO L.P. AND SUBSIDIARIES
UNAUDITED FINANCIAL STATEMENTS
Consolidated balance sheets as of March 31, 2003 and
December 31, 2002...................................... F-2
Consolidated statements of income for the three months
ended March 31, 2003 and 2002.......................... F-3
Consolidated statements of cash flows for the three
months ended March 31, 2003 and 2002................... F-4
Notes to consolidated financial statements............... F-5
AUDITED FINANCIAL STATEMENTS
Report of independent auditors........................... F-19
Report of independent public accountants................. F-20
Consolidated balance sheets as of December 31, 2002 and
December 31, 2001...................................... F-21
Consolidated and combined statements of income for the
years ended December 31, 2002 and 2001, the six months
ended December 31, 2000 (successor) and six months
ended June 30, 2000 (predecessor)...................... F-22
Consolidated and combined statements of cash flows for
the years ended December 31, 2002 and 2001, the six
months ended December 31, 2000 (successor) and six
months ended June 30, 2000 (predecessor)............... F-23
Combined statements of partners' equity/net parent
investment for the six months ended December 31, 2000
and the six months ended June 30, 2000................. F-24
Consolidated and combined statements of partners' equity
for the years ended December 31, 2002 and 2001......... F-25
Notes to consolidated and combined financial
statements............................................. F-26
VALERO SOUTH TEXAS PIPELINE AND TERMINAL BUSINESS
Report of independent auditors........................... F-50
Balance sheet as of December 31, 2002.................... F-51
Statement of income for the year ended December 31,
2002................................................... F-52
Statement of cash flows for the year ended December 31,
2002................................................... F-53
Statement of changes in net parent investment for the
year ended December 31, 2002........................... F-54
Notes to financial statements............................ F-55
-------------------------------------------------------------------
F-1
VALERO L.P. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
--------------------------------------------------------------------------------------
MARCH 31, DECEMBER 31,
(UNAUDITED, IN THOUSANDS) 2003 2002
--------------------------------------------------------------------------------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................ $ 13,042 $ 33,533
Receivable from Valero Energy............................ 12,277 8,482
Accounts receivable...................................... 1,455 1,502
Other current assets..................................... 1,888 177
------------------------
TOTAL CURRENT ASSETS.................................. 28,662 43,694
------------------------
Property, plant and equipment............................... 853,415 486,939
Less accumulated depreciation and amortization.............. (141,934) (137,663)
------------------------
Property, plant and equipment, net....................... 711,481 349,276
Goodwill, net............................................... 4,715 4,715
Investment in Skelly-Belvieu Pipeline Company............... 16,073 16,090
Other noncurrent assets, net................................ 4,002 1,733
------------------------
TOTAL ASSETS.......................................... $ 764,933 $ 415,508
------------------------
LIABILITIES AND PARTNERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt........................ $ 449 $ 747
Accounts payable and accrued liabilities................. 9,763 8,133
Payable to Valero Energy................................. 6,053 --
Taxes other than income taxes............................ 2,611 3,797
------------------------
TOTAL CURRENT LIABILITIES............................. 18,876 12,677
Long-term debt, less current portion........................ 383,442 108,911
Other long-term liabilities................................. 25 25
Commitments and contingencies (see Note 5)
Partners' equity:
Common units............................................. 238,886 170,655
Subordinated units....................................... 116,048 117,042
General partner's equity................................. 7,656 6,198
------------------------
TOTAL PARTNERS' EQUITY................................ 362,590 293,895
------------------------
TOTAL LIABILITIES AND PARTNERS' EQUITY................ $ 764,933 $ 415,508
--------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
F-2
VALERO L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
---------------------------------------------------------------------------------------
THREE MONTHS ENDED
MARCH 31,
-------------------------
(UNAUDITED, IN THOUSANDS, EXCEPT UNIT AND PER UNIT DATA) 2003 2002
---------------------------------------------------------------------------------------
REVENUES.................................................... $ 31,816 $ 26,024
-------------------------
COSTS AND EXPENSES:
Operating expenses....................................... 11,661 9,184
General and administrative expenses...................... 1,844 1,788
Depreciation and amortization............................ 4,283 4,356
-------------------------
TOTAL COSTS AND EXPENSES.............................. 17,788 15,328
-------------------------
OPERATING INCOME............................................ 14,028 10,696
Equity income from Skelly-Belvieu Pipeline Company....... 731 678
Interest expense, net.................................... (2,377) (556)
-------------------------
INCOME BEFORE INCOME TAX EXPENSE............................ 12,382 10,818
Income tax expense....................................... -- (395)
-------------------------
NET INCOME.................................................. $ 12,382 $ 10,423
-------------------------
ALLOCATION OF NET INCOME:
Net income............................................... $ 12,382 $ 10,423
Less net income applicable to the Wichita Falls Business
for the month ended January 31, 2002.................. -- (650)
-------------------------
Net income applicable to the general and limited
partners' interests................................... 12,382 9,773
General partner's interest in net income................. (624) (195)
-------------------------
Limited partners' interest in net income................. $ 11,758 $ 9,578
-------------------------
Basic and diluted net income per unit applicable to
limited partners...................................... $ 0.60 $ 0.50
-------------------------
Weighted average number of basic and diluted units
outstanding........................................... 19,556,486 19,241,617
-------------------------
Cash distributions per unit applicable to limited
partners.............................................. $ 0.70 $ 0.65
---------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
F-3
VALERO L.P. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
---------------------------------------------------------------------------------
THREE MONTHS
ENDED MARCH 31,
-------------------
(UNAUDITED, IN THOUSANDS) 2003 2002
---------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................. $ 12,382 $10,423
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization............................ 4,283 4,356
Equity income from Skelly-Belvieu Pipeline Company....... (731) (678)
Distributions of equity income from Skelly-Belvieu
Pipeline Company....................................... 731 771
Provision for deferred income taxes...................... -- 54
Changes in operating assets and liabilities:
Increase in receivable from Valero Energy............. (3,795) (35)
Decrease in accounts receivable....................... 47 259
Increase in other current assets...................... (1,711) (460)
Increase (decrease) in accounts payable and accrued
liabilities.......................................... 1,630 (109)
Increase in payable to Valero Energy.................. 6,053 --
Decrease in taxes other than income taxes............. (1,186) (674)
Other, net............................................... 2,595 130
-------------------
NET CASH PROVIDED BY OPERATING ACTIVITIES....... 20,298 14,037
-------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Maintenance capital expenditures............................ (1,192) (789)
Expansion capital expenditures.............................. (940) (1,009)
Acquisitions................................................ (364,807) (64,000)
Distributions in excess of equity income from Skelly-Belvieu
Pipeline Company......................................... 17 --
-------------------
NET CASH USED IN INVESTING ACTIVITIES........... (366,922) (65,798)
-------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from 6.05% senior note placement, net of discount
and issuance costs....................................... 247,819 --
Proceeds from other long-term debt borrowings............... 25,000 64,000
Repayment of long-term debt................................. (298) (46)
Distributions to unitholders and general partner............ (14,121) (11,788)
Distributions to Valero Energy and affiliates............... -- (512)
General partner contribution, net of redemption............. 1,456 --
Proceeds from sale of common units to the public, net of
issuance costs........................................... 200,342 --
Redemption of common units held by UDS Logistics, LLC....... (134,065) --
-------------------
NET CASH PROVIDED BY FINANCING ACTIVITIES....... 326,133 51,654
-------------------
Net decrease in cash and cash equivalents................... (20,491) (107)
Cash and cash equivalents as of the beginning of period..... 33,533 7,796
-------------------
Cash and cash equivalents as of the end of period........... $ 13,042 $ 7,689
-------------------
NON-CASH ACTIVITIES -- Adjustment related to the transfer of
the Wichita Falls Business to Valero L.P. by Valero
Energy:
Property, plant and equipment............................... $ -- $64,160
Accrued liabilities and taxes other than income taxes....... -- (382)
Deferred income tax liabilities............................. -- (13,147)
Net Valero Energy investment................................ -- (50,631)
---------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
F-4
VALERO L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 2003 AND 2002
(UNAUDITED)
NOTE 1: ORGANIZATION, BASIS OF PRESENTATION, REVENUE CHANGES AND FASB
STATEMENT NO. 143
ORGANIZATION
Valero L.P. is a Delaware limited partnership and through its wholly owned
subsidiary, Valero Logistics Operations, L.P. (Valero Logistics), owns and
operates most of the crude oil and refined product pipeline and terminalling
assets that serve Valero Energy Corporation's (Valero Energy) McKee, Three
Rivers and Corpus Christi refineries located in Texas and the Ardmore refinery
located in Oklahoma. Valero Logistics also owns and operates the crude oil and
intermediate feedstock storage tanks that serve Valero Energy's West plant of
the Corpus Christi refinery, the Texas City refinery located in Texas and the
Benicia refinery located in California. The pipeline, terminalling and storage
tank assets provide for the transportation of crude oil and other feedstocks to
the refineries and the transportation of refined products from the refineries to
terminals or third-party pipelines for further distribution. Revenues of Valero
L.P. and its subsidiaries are earned primarily from providing these services to
Valero Energy (see Note 6).
As used in this report, the term Partnership may refer, depending on the
context, to Valero L.P., Valero Logistics, or both of them taken as a whole.
Riverwalk Logistics, L.P., a wholly owned subsidiary of Valero Energy, is the 2%
general partner of Valero L.P. Valero Energy, through various affiliates, is
also a limited partner in Valero L.P., resulting in a combined ownership of
49.5% as of March 31, 2003 (see Note 8). The remaining 50.5% limited partnership
interest is held by public unitholders.
Valero Energy is an independent refining and marketing company. Its operations
consist of 12 refineries with a total throughput capacity of 1.9 million barrels
per day and an extensive network of company-operated and dealer-operated
convenience stores. Valero Energy's refining operations rely on various
logistics assets (pipelines, terminals, marine dock facilities, bulk storage
facilities, refinery delivery racks and rail car loading equipment) that support
its refining and retail operations, including the logistics assets owned and
operated by the Partnership. Valero Energy markets the refined products produced
at the McKee, Three Rivers, Ardmore, Corpus Christi, Texas City and Benicia
refineries primarily in Texas, Oklahoma, Colorado, New Mexico, Arizona,
California and several mid-continent states through a network of
company-operated and dealer-operated convenience stores, as well as through
other wholesale and spot market sales and exchange agreements.
BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with United States generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q and Article
10 of Regulation S-X of the Securities Exchange Act of 1934. Accordingly, they
do not include all of the information and notes required by United States
generally accepted accounting principles (GAAP) for complete financial
statements. In the opinion of management, all adjustments (consisting of normal
F-5
recurring accruals) considered necessary for a fair presentation have been
included. Certain previously reported amounts have been reclassified to conform
to the 2003 presentation.
Operating results for the three months ended March 31, 2003 are not necessarily
indicative of the results that may be expected for the year ending December 31,
2003. The balance sheet as of December 31, 2002 has been derived from the
audited consolidated financial statements as of that date and does not include
the balances of the Telfer asphalt terminal acquired in January 2003 or the
South Texas Pipelines and Terminals or the Crude Oil Storage Tanks acquired in
March 2003 as discussed in Note 3. These consolidated financial statements of
Valero L.P. and subsidiaries should be read along with the audited consolidated
financial statements and notes thereto included on pages F-19 to F-49.
REVENUE CHANGES
Effective January 1, 2003, the Partnership began purchasing the additives that
are blended with refined products at the various refined product terminals. As a
result, the fee charged to Valero Energy to blend additives into refined
products was increased from $0.04 per barrel to $0.12 per barrel to cover the
additional cost of the additive.
In conjunction with the acquisitions discussed in Note 3, the Partnership began
charging a filtering fee for jet fuel terminalled at the Hobby Airport terminal,
and began charging a throughput fee for each barrel of crude oil and
intermediate feedstocks received by the West plant of the Corpus Christi
refinery, the Texas City refinery and the Benicia refinery representing the type
of feedstock stored in the crude oil storage tank assets that were acquired from
Valero Energy.
FASB STATEMENT NO. 143
In June 2001, the Financial Accounting Standards Board (FASB) issued Statement
No. 143, "Accounting for Asset Retirement Obligations." This statement
establishes standards for accounting for an obligation associated with the
retirement of a tangible long-lived asset. An asset retirement obligation should
be recognized in the financial statements in the period in which it meets the
definition of a liability as defined in FASB Concepts Statement No. 6, "Elements
of Financial Statements." The amount of the liability would initially be
measured at fair value. Subsequent to initial measurement, an entity would
recognize changes in the amount of the liability resulting from (a) the passage
of time and (b) revisions to either the timing or amount of estimated cash
flows. Statement No. 143 also establishes standards for accounting for the cost
associated with an asset retirement obligation. It requires that, upon initial
recognition of a liability for an asset retirement obligation, an entity
capitalize that cost by recognizing an increase in the carrying amount of the
related long-lived asset. The capitalized asset retirement cost would then be
allocated to expense using a systematic and rational method.
The Partnership adopted the provisions of Statement No. 143 effective January 1,
2003 and has determined that it is obligated by contractual or regulatory
requirements to remove assets or perform other remediation upon retirement of
certain of its assets. Determination of the amounts to be recognized upon
adoption is based upon numerous estimates and assumptions, including expected
settlement dates, future retirement costs, future inflation rates and the
credit-adjusted risk-free interest rate. However, the fair value of the asset
retirement obligation cannot be reasonably estimated, since the settlement dates
are indeterminate. The Partnership will record an asset retirement obligation in
the period in which it determines the settlement
F-6
dates. Accordingly, the adoption of Statement No. 143 did not have an impact on
the Partnership's financial position or results of operations.
NOTE 2: EQUITY AND DEBT OFFERINGS, REDEMPTION OF COMMON UNITS AND RELATED
TRANSACTIONS
In conjunction with the Partnership's acquisition from Valero Energy of the
South Texas Pipelines and Terminals and the Crude Oil Storage Tanks discussed in
Note 3, the Partnership entered into the following transactions on March 18,
2003:
COMMON UNIT OFFERING
Valero L.P. consummated a public offering of common units, selling 5,750,000
common units to the public at $36.75 per unit, before underwriters' discount of
$1.56 per unit. Net proceeds were $202.3 million, or $35.19 per unit, before
offering expenses of $2.0 million. In order to maintain a 2% general partner
interest, Riverwalk Logistics, L.P. contributed $4.3 million to Valero L.P. (see
Note 9).
PRIVATE PLACEMENT OF 6.05% SENIOR NOTES
Concurrent with the closing of the common unit offering, Valero Logistics
issued, in a private placement, $250.0 million of 6.05% senior notes, due March
2013, at a price of 99.719% before consideration of debt issuance costs of $1.5
million. In addition, Valero Logistics borrowed $25.0 million under its amended
$175.0 million revolving credit facility.
REDEMPTION OF COMMON UNITS AND AMENDMENT TO PARTNERSHIP AGREEMENT
Subsequent to the common unit offering and private placement of 6.05% senior
notes discussed above, Valero L.P. redeemed from UDS Logistics, LLC, a wholly
owned subsidiary of Valero Energy, 3,809,750 common units at a total cost of
$134.1 million, or $35.19 per common unit, which is equal to the net per unit
price received by Valero L.P. in the common unit offering. In order to maintain
a 2% general partner interest, Valero L.P. redeemed a portion of Riverwalk
Logistics, L.P.'s general partner interest at a total cost of $2.9 million. In
addition to the redemption transaction, Valero L.P. amended its partnership
agreement to reduce the vote required to remove the general partner from 66 2/3%
to 58% of its outstanding units and to exclude from participating in such a vote
the common and subordinated units held by affiliates of the general partner.
SUMMARY
The net proceeds from the common unit offering, the private placement of 6.05%
senior notes and the borrowings under the revolving credit facility were used to
redeem common units held by UDS Logistics, LLC and acquire the South Texas
Pipelines and Terminals and the Crude Oil
F-7
Storage Tanks discussed in Note 3. A summary of the proceeds received and use of
proceeds is as follows (in thousands):
-----------------------------------------------------------------------
Proceeds received:
Sale of common units to the public....................... $202,342
Private placement of 6.05% senior notes.................. 249,298
Borrowings under the revolving credit facility........... 25,000
General partner contribution............................. 4,313
--------
Total proceeds.................................. 480,953
--------
Use of proceeds:
South Texas Pipelines and Terminals...................... 150,000
Crude Oil Storage Tanks.................................. 200,000
Redemption of common units............................... 134,065
Redemption of general partner interest................... 2,857
Professional fees and other costs of equity issuance..... 2,000
Debt issuance costs...................................... 1,479
--------
Total use of proceeds........................... 490,401
--------
Net cash on hand paid out................................... $ (9,448)
-----------------------------------------------------------------------
Both the South Texas Pipelines and Terminals and the Crude Oil Storage Tanks
acquisitions were approved by the conflicts committee of the board of directors
of Valero GP, LLC, the general partner of Riverwalk Logistics, L.P., based in
part on an opinion from its independent financial advisor that the consideration
paid by the Partnership was fair, from a financial point of view, to the
Partnership and its public unitholders.
NOTE 3: ACQUISITIONS
TELFER ASPHALT TERMINAL
On January 7, 2003, the Partnership completed its acquisition of Telfer Oil
Company's (Telfer) California asphalt terminal for $15.1 million. The asphalt
terminal includes two storage tanks with a combined storage capacity of 350,000
barrels, six 5,000-barrel polymer modified asphalt tanks, a truck rack, rail
facilities and various other tanks and equipment. In conjunction with the Telfer
acquisition, the Partnership entered into a six-year Terminal Storage and
Throughput Agreement with Valero Energy (see Note 6). A portion of the purchase
price represented payment to the principal owner of Telfer for a non-compete
agreement and for the lease of certain facilities adjacent to the terminal
operations.
SOUTH TEXAS PIPELINES AND TERMINALS
On March 18, 2003, Valero Energy contributed a South Texas pipeline system to
the Partnership for $150.0 million. The South Texas pipeline system is comprised
of the Houston pipeline system, the Valley pipeline system and the San Antonio
pipeline system (together referred to as the South Texas Pipelines and
Terminals) as follows:
- The Houston pipeline system is a 204-mile refined product pipeline
originating in Corpus Christi, Texas and ending in Pasadena, Texas at the
Houston ship channel. The pipeline has the capacity to transport 105,000
barrels per day of refined products produced at Valero Energy's Corpus
Christi refinery and third party refineries located in
F-8
Corpus Christi. The pipeline system includes four refined product
terminals (Hobby Airport, Placedo, Houston asphalt and Almeda, which is
currently idle) with a combined storage capacity of 310,900 barrels of
refined products and 75,000 barrels of asphalt.
- The Valley pipeline system is a 130-mile refined product pipeline
originating in Corpus Christi and ending in Edinburg, Texas. The pipeline
has the capacity to transport 27,100 barrels per day of refined products.
Currently, the pipeline transports refined products produced at Valero
Energy's Corpus Christi refinery. The pipeline system includes a refined
product terminal in Edinburg with a storage capacity of 184,600 barrels.
- The San Antonio pipeline system is comprised of two segments: the north
segment, which runs from Pettus, Texas to San Antonio, Texas and the
south segment which runs from Pettus to Corpus Christi. The north segment
is 74 miles long and has a capacity of 24,000 barrels per day. The south
segment is 60 miles long and has a capacity of 15,000 barrels per day and
ends at Valero Energy's Corpus Christi refinery. The pipeline system
includes a refined product terminal in east San Antonio with a storage
capacity of 148,200 barrels.
In conjunction with the South Texas Pipelines and Terminals acquisition, the
Partnership entered into several agreements with Valero Energy (see Note 6).
PRO FORMA FINANCIAL INFORMATION
The following unaudited pro forma financial information assumes that the South
Texas Pipelines and Terminals acquisition was funded with $111.0 million of net
proceeds from the issuance of the 6.05% senior notes, $25.0 million of
borrowings under the revolving credit facility, $6.7 million of net proceeds
from the issuance of 185,422 common units and the related general partner
interest capital contribution and $7.3 million of available cash. The unaudited
pro forma financial information for the three months ended March 31, 2003 and
2002, assumes that each of these transactions occurred on January 1, 2003 and
2002, respectively.
-------------------------------------------------------------------------------
THREE MONTHS
ENDED MARCH 31,
-----------------
(IN THOUSANDS) 2003 2002
-------------------------------------------------------------------------------
Revenues.................................................... $37,660 $32,545
Operating income............................................ 16,018 12,058
Net income.................................................. 12,718 9,909
Net income per unit applicable to limited partners.......... 0.61 0.47
-------------------------------------------------------------------------------
CRUDE OIL STORAGE TANKS
On March 18, 2003, Valero Energy contributed 58 crude oil storage tanks and
related assets (the Crude Oil Storage Tanks) to the Partnership for $200.0
million. The Crude Oil Storage Tanks consist of certain tank shells,
foundations, tank valves, tank gauges, pressure equipment, temperature
equipment, corrosion protection, leak detection, tank lighting and related
equipment located at the following Valero Energy refineries:
- West plant of the Corpus Christi refinery, which has a total capacity
to process 225,000 barrels per day of crude oil and other feedstocks;
F-9
- Texas City refinery, which has a total capacity to process 243,000
barrels per day of crude oil and other feedstocks; and
- Benicia refinery, which has a total capacity to process 180,000 barrels
per day of crude oil and other feedstocks.
Historically, the Crude Oil Storage Tanks have been operated as part of Valero
Energy's refining operations and, as a result, no separate fee has been charged
related to these assets and, accordingly, no revenues have been recorded. The
Crude Oil Storage Tanks have not been accounted for separately and have not been
operated as an autonomous business unit. As a result, the purchase of the Crude
Oil Storage Tanks represents an asset acquisition and, therefore, no pro forma
impact of this transaction has been included above. In conjunction with the
Crude Oil Storage Tanks acquisition, the Partnership entered into several
agreements with Valero Energy (see Note 6).
PURCHASE PRICE ALLOCATIONS
The Telfer, South Texas Pipelines and Terminals and Crude Oil Storage Tanks
acquisitions were accounted for using the purchase method in accordance with
FASB Statement No. 141. The purchase price for each acquisition has been
initially allocated based on the estimated fair values of the individual assets
acquired and liabilities assumed at the date of acquisition based on each
asset's anticipated contribution to the Partnership, pending completion of final
purchase price allocations.
----------------------------------------------------------------------------------------------
SOUTH TEXAS CRUDE OIL
PIPELINES AND STORAGE
(IN THOUSANDS) TELFER TERMINALS TANKS
----------------------------------------------------------------------------------------------
Property, plant and equipment........................... $14,807 $150,000 $200,000
Intangible assets....................................... 250 -- --
----------------------------------------------------------------------------------------------
NOTE 4: LONG-TERM DEBT
Long-term debt consisted of the following:
--------------------------------------------------------------------------------------
MARCH 31, DECEMBER 31,
(IN THOUSANDS) 2003 2002
--------------------------------------------------------------------------------------
6.05% senior notes due 2013................................. $249,607 $ --
6.875% senior notes due 2012................................ 99,624 99,700
8.0% Port Authority of Corpus Christi note payable.......... 9,660 9,958
Revolving credit facility................................... 25,000 --
------------------------
Total debt............................................... 383,891 109,658
Less current portion........................................ (449) (747)
------------------------
Long-term debt, less current portion..................... $383,442 $108,911
--------------------------------------------------------------------------------------
Interest payments totaled $3.8 million and $0.5 million for the three months
ended March 31, 2003 and 2002, respectively.
F-10
Valero L.P. has no operations and its only asset is its investment in Valero
Logistics, which owns and operates the Partnership's pipelines, terminals and
crude oil storage tank assets. Valero L.P. has fully and unconditionally
guaranteed the senior notes issued by Valero Logistics and any obligations under
Valero Logistics' revolving credit facility.
6.05% SENIOR NOTES
On March 18, 2003, Valero Logistics completed the sale of $250.0 million of
6.05% senior notes due March 15, 2013, issued in a private placement, for total
proceeds of $249.3 million, before debt issuance costs. Debt issuance costs of
$1.5 million are being amortized over the life of the senior notes using the
effective interest method. The 6.05% senior notes do not have sinking fund
requirements. Interest on the 6.05% senior notes is payable semiannually in
arrears on March 15 and September 15 of each year beginning September 15, 2003.
The 6.05% senior notes rank equally with all other existing senior unsecured
indebtedness of Valero Logistics, including indebtedness under the revolving
credit facility and the 6.875% senior notes due July 15, 2012. The 6.05% senior
notes contain restrictions on Valero Logistics' ability to incur secured
indebtedness unless the same security is also provided for the benefit of
holders of the 6.05% senior notes. In addition, the 6.05% senior notes limit
Valero Logistics' ability to incur indebtedness secured by certain liens and to
engage in certain sale-leaseback transactions. The 6.05% senior notes are
irrevocably and unconditionally guaranteed on a senior unsecured basis by Valero
L.P. The guarantee by Valero L.P. ranks equally with all of its existing
unsecured and unsubordinated indebtedness and is required to rank equally with
any future unsecured and unsubordinated indebtedness.
The 6.05% senior notes have not been registered under the Securities Act of 1933
or any other securities laws and consequently the 6.05% senior notes are subject
to transfer and resale restrictions. At the option of Valero Logistics, the
6.05% senior notes may be redeemed in whole or in part at any time at a
redemption price, which includes a make-whole premium, plus accrued and unpaid
interest to the redemption date. The 6.05% senior notes also include
registration rights which provide that Valero Logistics will use its best
efforts to file, within 90 days of issuance, a registration statement for the
exchange of the 6.05% senior notes for new notes of the same series that
generally will be freely transferable, and to consummate the exchange offer
within 210 days. The 6.05% senior notes also include a change-in-control
provision, which requires that an investment grade entity own and control the
general partner of Valero L.P. and Valero Logistics. Otherwise, Valero Logistics
must offer to purchase the 6.05% senior notes at a price equal to 100% of their
outstanding principal balance plus accrued interest through the date of
purchase.
$175.0 MILLION REVOLVING CREDIT FACILITY
On March 6, 2003, Valero Logistics entered into an amended revolving credit
facility with the various banks included in the existing revolving credit
facility and with a group of new banks to increase the revolving credit facility
to $175.0 million. In addition, the amount that may be borrowed to fund
distributions to unitholders was increased from $25.0 million to $40.0 million.
No other significant terms and conditions of the revolving credit facility were
changed, except that the "Total Debt to EBITDA Ratio" as defined in the
revolving credit facility was changed such that the ratio may not exceed 4.0 to
1.0 (as opposed to 3.0 to 1.0 in the original facility), and Valero L.P. is now
guaranteeing the revolving credit facility. This
F-11
guarantee by Valero L.P. ranks equally with all of its existing unsecured senior
obligations and is required to rank equally with any future unsecured senior
obligations.
INTEREST RATE SWAPS
During the three months ended March 31, 2003, Valero Logistics entered into
interest rate swap agreements to manage its exposure to changes in interest
rates. The interest rate swap agreements have an aggregate notional amount of
$105.0 million, of which $60.0 million is tied to the maturity of the 6.875%
senior notes and $45.0 million is tied to the maturity of the 6.05% senior
notes. Under the terms of the interest rate swap agreements, the Partnership
will receive a fixed rate (6.875% and 6.05% for the $60.0 million and $45.0
million of interest rate swap agreements, respectively) and will pay a variable
rate based on LIBOR plus a percentage that varies with each agreement. As of
March 31, 2003, the weighted average effective interest rate for the interest
rate swaps was 3.7%. The Partnership accounts for the interest rate swaps as
fair value hedges, with changes in the fair value of each swap and the related
debt instrument recorded as an adjustment to interest expense in the
consolidated statement of income.
NOTE 5: COMMITMENTS AND CONTINGENCIES
ENVIRONMENTAL
The Partnership's operations are subject to extensive federal, state and local
environmental laws and regulations. Although the Partnership believes its
operations are in substantial compliance with applicable environmental laws and
regulations, risks of additional costs and liabilities are inherent in pipeline,
terminalling and storage operations, and there can be no assurance that
significant costs and liabilities will not be incurred. Moreover, it is possible
that other developments, such as increasingly stringent environmental laws,
regulations and enforcement policies thereunder, and claims for damages to
property or persons resulting from the operations, could result in substantial
costs and liabilities. Accordingly, the Partnership has adopted policies,
practices and procedures in the areas of pollution control, product safety,
occupational health and the handling, storage, use and disposal of hazardous
materials that are designed to prevent material environmental or other damage,
and to limit the financial liability which could result from such events.
However, some risk of environmental or other damage is inherent in pipeline,
terminalling and storage operations, as it is with other entities engaged in
similar businesses. Although environmental costs may have a significant impact
on results of operations for any single period, the Partnership believes that
such costs will not have a material adverse effect on its financial position.
In connection with the South Texas Pipelines and Terminals acquisition discussed
in Note 3, Valero Energy has agreed to indemnify the Partnership from
environmental liabilities that are known as of March 18, 2003 or are discovered
within 10 years after March 18, 2003 related to:
- the South Texas Pipelines and Terminals that arose as a result of
events occurring or conditions existing prior to March 18, 2003; and
- any real or personal property on which the South Texas Pipelines and
Terminals are located that arose prior to March 18, 2003.
F-12
In connection with the Crude Oil Storage Tanks acquisition, Valero Energy has
agreed to indemnify the Partnership from environmental liabilities related to:
- the Crude Oil Storage Tanks that arose as a result of events occurring
or conditions existing prior to March 18, 2003;
- any real or personal property on which the Crude Oil Storage Tanks are
located that arose prior to March 18, 2003; and
- any actions taken by Valero Energy before, on or after March 18, 2003,
in connection with the ownership, use or operation of the West plant of
the Corpus Christi refinery, the Texas City refinery and the Benicia
refinery or the property on which the Crude Oil Storage Tanks are
located, or any accident or occurrence in connection therewith.
LEGAL
The Partnership is involved in various lawsuits, claims and regulatory
proceedings incidental to its business. In the opinion of management, the
outcome of such matters will not have a material adverse effect on the
Partnership's financial position or results of operations.
NOTE 6: RELATED PARTY TRANSACTIONS
The Partnership has related party transactions with Valero Energy for pipeline
tariff, terminalling fee and crude oil storage tank fee revenues, certain
employee costs, insurance costs, operating expenses, administrative costs and
rent expense. The receivable from Valero Energy as of December 31, 2002 and
through March 18, 2003 represented the net amount due for these related party
transactions and the net cash collected under Valero Energy's centralized cash
management program on the Partnership's behalf. Beginning March 19, 2003, the
receivable from Valero Energy represents amounts due for pipeline tariff,
terminalling fee and tank fee revenues and the payable to Valero Energy
represents amounts due for employee costs, insurance costs, operating expenses,
administrative costs and rent expense.
The following table summarizes transactions with Valero Energy:
-------------------------------------------------------------------------------
THREE MONTHS
ENDED MARCH 31,
-----------------
(IN THOUSANDS) 2003 2002
-------------------------------------------------------------------------------
Revenues.................................................... $31,766 $25,910
Operating expenses.......................................... 4,068 3,407
General and administrative expenses......................... 1,559 1,300
-------------------------------------------------------------------------------
SERVICES AGREEMENT
Under the Services Agreement, Valero Energy provides the Partnership with the
corporate functions of legal, accounting, treasury, engineering, information
technology and other services for an annual fee of $5.2 million through July of
2008. This annual fee is in addition to the incremental general and
administrative costs to be incurred from third parties for services Valero
Energy does not provide under the Services Agreement.
The Services Agreement also requires that the Partnership reimburse Valero
Energy for various recurring costs of employees who work exclusively within the
pipeline, terminalling and storage
F-13
operations and for certain other costs incurred by Valero Energy relating solely
to the Partnership. These employee costs include salary, wage and benefit costs.
PIPELINES AND TERMINALS USAGE AGREEMENT
Under the Pipelines and Terminals Usage Agreement, Valero Energy agreed to use
the Partnership's pipelines to transport at least 75% of the crude oil shipped
to and at least 75% of the refined products shipped from Valero Energy's McKee,
Three Rivers and Ardmore refineries and to use the Partnership's refined product
terminals for terminalling services for at least 50% of all refined products
shipped from these refineries until at least April of 2008. For the three months
ended March 31, 2003, Valero Energy used the Partnership's pipelines to
transport 97% of its crude oil shipped to and 76% of the refined products
shipped from the McKee, Three Rivers and Ardmore refineries, and Valero Energy
used the Partnership's terminalling services for 57% of all refined products
shipped from these refineries.
TELFER TERMINAL STORAGE AND THROUGHPUT AGREEMENT
On January 7, 2003, the Partnership and Valero Energy entered into a Terminal
Storage and Throughput Agreement pursuant to which Valero Energy agreed to (a)
lease the asphalt storage tanks and related equipment for a monthly fee of $0.60
per barrel of storage capacity, (b) move asphalt through the terminal during the
term of the agreement for a fee of $1.25 per barrel of throughput with a
guaranteed minimum annual throughput of 280,000 barrels, and (c) reimburse the
Partnership for certain costs, including utilities.
SOUTH TEXAS PIPELINES AND TERMINALS AGREEMENTS
In conjunction with the acquisition of the South Texas Pipelines and Terminals,
Valero Energy and the Partnership entered into the following agreements:
- Throughput Commitment Agreement pursuant to which Valero Energy agreed,
for an initial period of seven years, to (i) transport in the Houston and
Valley pipeline systems an aggregate of 40% of the Corpus Christi
refinery gasoline and distillate production but only if the combined
throughput on these pipelines is less than 110,000 barrels per day, (ii)
transport in the Pettus to San Antonio refined product pipeline 25% of
the Three Rivers refinery gasoline and distillate production and in the
Pettus to Corpus Christi refined product pipeline 90% of the Three Rivers
refinery raffinate production, (iii) use the Houston asphalt terminal for
an aggregate of 7% of the asphalt production of the Corpus Christi
refinery, (iv) use the Edinburg refined product terminal for an aggregate
of 7% of the gasoline and distillate production of the Corpus Christi
refinery, but only if the throughput at this terminal is less than 20,000
barrels per day; and (v) use the San Antonio terminal for 75% of the
throughput in the Pettus to San Antonio refined product pipeline. In the
event Valero Energy does not transport in the pipelines or use the
terminals to handle the minimum volume requirements and if its obligation
has not been suspended under the terms of the agreement, it will be
required to make a cash payment determined by multiplying the shortfall
in volume by the applicable weighted average tariff rate or terminal fee.
Also, Valero Energy agreed to allow the Partnership to increase its
tariff to compensate for any revenue shortfall in the event the
Partnership has to curtail throughput on the Corpus Christi to Edinburg
refined product pipeline as a result of repair and replacement
activities.
F-14
- Terminalling Agreements pursuant to which Valero Energy agreed, during
the initial period of five years, to pay a terminalling fee for each
barrel of refined product stored or handled by or on behalf of Valero
Energy at the terminals included in the South Texas Pipelines and
Terminals, including an additive fee for gasoline additives blended at
the terminals. At the Hobby Airport terminal, Valero Energy will also pay
a filtering fee for each barrel of jet fuel stored or handled at the
terminal.
Additionally, Valero Energy has indicated to the Partnership that the segment of
the Corpus Christi to Edinburg refined product pipeline that runs approximately
60 miles south from Corpus Christi to Seeligson Station may require repair and,
in some places, replacement. Valero Energy has agreed to indemnify the
Partnership for any costs the Partnership incurs to repair and replace this
segment in excess of $1.5 million, which is approximately the amount of capital
expenditures the Partnership expects to spend on this segment for the next three
years.
CRUDE OIL STORAGE TANKS AGREEMENTS
In conjunction with the acquisition of the Crude Oil Storage Tanks, Valero
Energy and the Partnership entered into the following agreements:
- Handling and Throughput Agreement pursuant to which Valero Energy
agreed to pay the Partnership a fee, for an initial period of ten years,
for 100% of crude oil delivered to each of the West plant of the Corpus
Christi refinery, the Texas City refinery or the Benicia refinery and to
use the Partnership for handling all deliveries to these refineries. The
throughput fees under the agreement are adjustable annually, generally
based on 75% of the regional consumer price index applicable to the
location of each refinery.
- Services and Secondment Agreements pursuant to which Valero Energy
agreed to second to the Partnership personnel who will provide operating
and routine maintenance services with respect to the Crude Oil Storage
Tanks. The annual reimbursement for services is an aggregate $3.5 million
for the initial year and is subject to adjustment based on actual
expenses incurred and increases in the regional consumer price index. The
initial term of the Services and Secondment Agreements is ten years with
a Partnership option to extend for an additional five years.
- Lease and Access Agreements pursuant to which Valero Energy will lease
to the Partnership the real property on which the Crude Oil Storage Tanks
are located for an aggregate of $0.7 million per year. The initial term
of each lease will be 25 years, subject to automatic renewal for
successive one-year periods thereafter. The Partnership may terminate any
of these leases upon 30 days notice after the initial term or at the end
of a renewal period. In addition, the Partnership may terminate any of
these leases upon 180 days notice prior to the expiration of the current
term if the Partnership ceases to operate the Crude Oil Storage Tanks or
ceases business operations.
OMNIBUS AGREEMENT
The Omnibus Agreement governs potential competition between Valero Energy and
the Partnership. Under the Omnibus Agreement, Valero Energy has agreed, and will
cause its controlled affiliates to agree, for so long as Valero Energy controls
the general partner, not to engage in the business of transporting crude oil and
other feedstocks or refined products,
F-15
including petrochemicals, or operating crude oil storage tanks or refined
product terminalling assets in the United States. This restriction does not
apply to:
- any business owned by Valero Energy at the date of its acquisition of
Ultramar Diamond Shamrock Corporation on December 31, 2001;
- any business with a fair market value of less than $10 million;
- any business acquired by Valero Energy in the future that constitutes
less than 50% of the fair market value of a larger acquisition, provided
the Partnership has been offered and declined the opportunity to purchase
the business; and
- any newly constructed pipeline, terminalling or storage tank assets
that the Partnership has not offered to purchase at fair market value
within one year of construction.
NOTE 7: EMPLOYEE BENEFIT EXPENSES
The Partnership, which has no employees, relies on employees of Valero Energy
and its affiliates to provide the necessary services to operate the
Partnership's assets. Effective January 1, 2003, most of the employees providing
services to the Partnership became employees of Valero GP, LLC, a wholly owned
subsidiary of Valero Energy. The Valero GP, LLC employees are included in the
various employee benefit plans of Valero Energy and its affiliates. These plans
include qualified, non-contributory defined benefit retirement plans, defined
contribution 401(k) plans, employee and retiree medical, dental and life
insurance plans, long-term incentive plans (i.e., unit options and bonuses) and
other such benefits.
The Partnership's share of allocated Valero Energy employee benefit plan
expenses, was $0.5 million and $0.3 million for the three months ended March 31,
2003 and 2002, respectively. These employee benefit plan expenses are included
in operating expenses with the related payroll costs.
LONG-TERM INCENTIVE PLAN
The Board of Directors of Valero GP, LLC previously adopted the "2000 Long-Term
Incentive Plan" (the LTIP) under which Valero GP, LLC may award up to 250,000
common units to certain key employees of Valero Energy's affiliates providing
services to Valero L.P. and to directors and officers of Valero GP, LLC. Awards
under the LTIP can include awards such as unit options, restricted common units,
distribution equivalent rights (DERs) and contractual rights to receive common
units.
On January 24, 2003, under the LTIP, Valero GP, LLC granted 30,000 contractual
rights to receive common units and DERs to its officers and directors, excluding
the outside directors. In conjunction with the grant of contractual rights to
receive common units under the LTIP, Valero GP, LLC purchased 30,000 newly
issued Valero L.P. common units from Valero L.P. for total consideration of $1.1
million. In addition, during the three months ended March 31, 2003, Valero GP,
LLC settled the previous purchase of 55,250 common units with the payment of
$2.3 million.
In January of 2003, one-third of the previously issued 55,250 contractual rights
vested and Valero GP, LLC distributed actual Valero L.P. common units to the
officers and directors. Certain of the officers and directors settled their tax
withholding on the vested common units by
F-16
delivering 6,491 common units to Valero GP, LLC. As of March 31, 2003, Valero
GP, LLC owns 73,319 common units of Valero L.P.
NOTE 8: PARTNERS' EQUITY
OUTSTANDING EQUITY
Prior to the redemption of common units and the common unit offering in March
2003, Valero Energy, through various affiliates, owned 73.6% of Valero L.P.'s
outstanding partners' equity. After giving effect to the redemption of common
units and the common unit offering, outstanding partners' equity of Valero L.P.
as of March 31, 2003 includes 11,624,822 common units (614,572 of which are held
by UDS Logistics, LLC and 73,319 of which are held by Valero GP, LLC), 9,599,322
subordinated units held by UDS Logistics, LLC and a 2% general partner interest
held by Riverwalk Logistics, L.P. On April 16, 2003, the underwriters of the
common unit offering exercised their overallotment option and purchased 581,000
additional common units from Valero L.P. (see Note 9); thus total common units
outstanding now total 12,205,822. As a result of the overallotment exercise,
Valero Energy now owns 48.2% of Valero L.P., including the 2% general partner
interest.
NET INCOME PER UNIT APPLICABLE TO LIMITED PARTNERS
The computation of basic net income per unit applicable to limited partners is
based on the weighted-average number of common and subordinated units
outstanding during the period. Net income per unit applicable to limited
partners is computed by dividing net income applicable to limited partners,
after deducting the general partner's 2% interest and incentive distributions,
by the weighted-average number of limited partnership units outstanding. The
general partner's incentive distribution allocation for the three months ended
March 31, 2003 and 2002 was $0.4 million and $0.1 million, respectively. The
Partnership generated sufficient net income such that the amount of net income
allocated to common units was equal to the amount allocated to the subordinated
units.
CASH DISTRIBUTIONS
The Partnership makes quarterly distributions of 100% of its available cash,
generally defined as cash receipts less cash disbursements and cash reserves
established by the general partner in its sole discretion. These quarterly
distributions are declared and paid within 45 days subsequent to each
quarter-end. Pursuant to the partnership agreement, the general partner is
entitled to incentive distributions if the amount the Partnership distributes
with respect to any quarter exceeds specified target levels shown below:
------------------------------------------------------------------------------------
PERCENTAGE OF
DISTRIBUTION
----------------------
GENERAL
QUARTERLY DISTRIBUTION AMOUNT PER UNIT UNITHOLDERS PARTNER
------------------------------------------------------------------------------------
Up to $0.60................................................. 98% 2%
Above $0.60 up to $0.66..................................... 90% 10%
Above $0.66 up to $0.90..................................... 75% 25%
Above $0.90................................................. 50% 50%
------------------------------------------------------------------------------------
F-17
The following table reflects the allocation of total cash distributions to the
general and limited partners applicable to the period in which the distributions
are earned:
-------------------------------------------------------------------------------
THREE MONTHS
ENDED MARCH 31,
-----------------
(IN THOUSANDS, EXCEPT PER UNIT DATA) 2003 2002
-------------------------------------------------------------------------------
General partner interest.................................... $ 319 $ 257
General partner incentive distribution...................... 384 86
-----------------
Total general partner distribution....................... 703 343
-----------------
Limited partners' distributions............................. 15,264 12,515
-----------------
Total cash distributions................................. $15,967 $12,858
-----------------
Cash distributions per unit applicable to limited
partners................................................. $ 0.70 $ 0.65
-------------------------------------------------------------------------------
NOTE 9: SUBSEQUENT EVENTS
DISTRIBUTIONS
On April 17, 2003, the Partnership declared a quarterly distribution of $0.70
per unit payable on May 15, 2003 to unitholders of record on May 6, 2003.
EXERCISE OF OVERALLOTMENT OPTION
On April 11, 2003, Valero L.P. was notified by the underwriters of the common
unit offering discussed in Note 2 that they wished to exercise their option to
purchase 581,000 additional common units. On April 16, 2003, Valero L.P. closed
the exercise of the overallotment option, by selling 581,000 common units at
$36.75 per unit, before underwriters' discount of $1.56 per unit. Net proceeds
from the underwriters were $20.4 million, or $35.19 per unit, and Riverwalk
Logistics, L.P. contributed $0.4 million to maintain its 2% general partner
interest. The proceeds and contribution were used to pay down the outstanding
balance on the revolving credit facility.
F-18
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Unitholders of Valero L.P.
We have audited the accompanying consolidated balance sheets of Valero L.P. and
subsidiaries (a Delaware limited partnership, the Partnership) as of December
31, 2002 and 2001, and the related consolidated statements of income, cash flows
and partners' equity for the year ended December 31, 2002. These financial
statements are the responsibility of the Partnership's management. Our
responsibility is to express an opinion on these financial statements based on
our audit. The financial statements of Valero L.P. for the years ended December
31, 2001 and 2000 were audited by other auditors who have ceased operations.
Those auditors expressed an unqualified opinion on those financial statements in
their report dated May 14, 2002.
We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Valero L.P. and
subsidiaries as of December 31, 2002 and 2001, and the results of their
operations and their cash flows for the year ended December 31, 2002 in
conformity with accounting principles generally accepted in the United States.
/s/ ERNST & YOUNG LLP
San Antonio, Texas
March 6, 2003
F-19
THIS IS A COPY OF THE AUDIT REPORT PREVIOUSLY ISSUED BY ARTHUR ANDERSEN LLP IN
CONNECTION WITH THEIR AUDITS OF VALERO L.P. AS OF DECEMBER 31, 2001 AND 2000 AND
FOR THE THREE YEARS ENDED DECEMBER 31, 2001. THIS AUDIT REPORT HAS NOT BEEN
REISSUED BY ARTHUR ANDERSEN LLP AS THEY HAVE CEASED OPERATIONS. THE "(AS
RESTATED--SEE NOTE 2)" REFERENCE BELOW RELATES TO THE RESTATEMENT OF THE
DECEMBER 31, 2001 BALANCE SHEET FOR THE WICHITA FALLS BUSINESS ACQUISITION
DISCLOSED IN NOTE 4 OF NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Unitholders of Valero L.P.:
We have audited the accompanying consolidated and combined balance sheets of
Valero L.P., formerly Shamrock Logistics, L.P. (a Delaware limited partnership)
and Valero Logistics Operations, L.P., formerly Shamrock Logistics Operations,
L.P. successor to the Ultramar Diamond Shamrock Logistics Business (a Delaware
limited partnership) (collectively, the Partnerships) as of December 31, 2001
and 2000 (successor), and the related consolidated and combined statements of
income, cash flows (as restated--see Note 2), partners' equity/net parent
investment for the year ended December 31, 2001 and the six months ended
December 31, 2000 (successor) and the related combined statements of income,
cash flows (as restated--see Note 2), partners' equity/net parent investment for
the six months ended June 30, 2000 and the year ended December 31, 1999
(predecessor). These financial statements are the responsibility of the
Partnership's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated and combined financial position of the
Partnerships as of December 31, 2001 and 2000, and the results of their
operations and their cash flows (as restated) for each of the three years in the
period ended December 31, 2001 in conformity with accounting principles
generally accepted in the United States.
/s/ ARTHUR ANDERSEN LLP
San Antonio, Texas
May 14, 2002
F-20
VALERO L.P. AND SUBSIDIARIES
(FORMERLY SHAMROCK LOGISTICS, L.P. AND SUBSIDIARY)
(SUCCESSOR TO THE ULTRAMAR DIAMOND SHAMROCK LOGISTICS BUSINESS)
CONSOLIDATED BALANCE SHEETS
-----------------------------------------------------------------------------------
DECEMBER 31,
---------------------
(IN THOUSANDS) 2002 2001
-----------------------------------------------------------------------------------
ASSETS
Current assets:
Cash and cash equivalents................................ $ 33,533 $ 7,796
Receivable from parent................................... 8,482 5,816
Accounts receivable...................................... 1,502 2,855
Other current assets..................................... 177 --
---------------------
Total current assets.................................. 43,694 16,467
---------------------
Property, plant and equipment............................... 486,939 470,401
Less accumulated depreciation and amortization.............. (137,663) (121,389)
---------------------
Property, plant and equipment, net....................... 349,276 349,012
Goodwill, net of accumulated amortization of $1,279 as of
2002 and 2001............................................ 4,715 4,715
Investment in Skelly-Belvieu Pipeline Company............... 16,090 16,492
Other noncurrent assets, net of accumulated amortization of
$250 and $90 as of 2002 and 2001, respectively........... 1,733 384
---------------------
Total assets.......................................... $ 415,508 $ 387,070
---------------------
LIABILITIES AND PARTNERS' EQUITY
Current liabilities:
Current portion of long-term debt........................ $ 747 $ 462
Accounts payable and accrued liabilities................. 8,133 4,175
Taxes other than income taxes............................ 3,797 1,458
---------------------
Total current liabilities............................. 12,677 6,095
Long-term debt, less current portion........................ 108,911 25,660
Other long-term liabilities................................. 25 2
Deferred income tax liabilities............................. -- 13,147
Commitments and contingencies (see note 10)
Partners' equity:
Common units (9,654,572 and 9,599,322 outstanding as of
2002 and 2001, respectively)........................... 170,655 169,305
Subordinated units (9,599,322 outstanding as of 2002 and
2001).................................................. 117,042 116,399
General partner's equity................................. 6,198 5,831
Net parent investment in the Wichita Falls Business...... -- 50,631
---------------------
Total partners' equity................................ 293,895 342,166
---------------------
Total liabilities and partners' equity................ $ 415,508 $ 387,070
-----------------------------------------------------------------------------------
See accompanying notes to consolidated and combined financial statements.
F-21
VALERO L.P. AND SUBSIDIARIES
(FORMERLY SHAMROCK LOGISTICS, L.P. AND SUBSIDIARY)
(SUCCESSOR TO THE ULTRAMAR DIAMOND SHAMROCK LOGISTICS BUSINESS)
CONSOLIDATED AND COMBINED STATEMENTS OF INCOME
-------------------------------------------------------------------------------------------------
SUCCESSOR PREDECESSOR
---------------------------------------- -----------
SIX MONTHS SIX MONTHS
YEARS ENDED DECEMBER 31, ENDED ENDED
(IN THOUSANDS, EXCEPT UNIT ------------------------- DECEMBER 31, JUNE 30,
AND PER UNIT DATA) 2002 2001 2000 2000
-------------------------------------------------------------------------------------------------
REVENUES................................. $ 118,458 $ 98,827 $47,550 $ 44,503
------------------------------------------------------
COSTS AND EXPENSES:
Operating expenses.................... 37,838 33,583 15,593 17,912
General and administrative expenses... 6,950 5,349 2,549 2,590
Depreciation and amortization......... 16,440 13,390 5,924 6,336
------------------------------------------------------
TOTAL COSTS AND EXPENSES........... 61,228 52,322 24,066 26,838
------------------------------------------------------
OPERATING INCOME......................... 57,230 46,505 23,484 17,665
Equity income from Skelly-Belvieu
Pipeline Company................... 3,188 3,179 1,951 1,926
Interest expense, net................. (4,880) (3,811) (4,748) (433)
------------------------------------------------------
INCOME BEFORE INCOME TAX EXPENSE
(BENEFIT)............................. 55,538 45,873 20,687 19,158
Income tax expense (benefit).......... 395 -- -- (30,812)
------------------------------------------------------
NET INCOME............................... $ 55,143 $ 45,873 $20,687 $ 49,970
------------------------------------------------------
ALLOCATION OF NET INCOME:
Net income............................ $ 55,143 $ 45,873
Less net income applicable to the
period January 1, 2001 through
April 15, 2001..................... -- (10,126)
Less net income applicable to the
Wichita Falls Business for the
month ended January 31, 2002....... (650) --
----------- -----------
Net income applicable to the general
and limited partners' interest..... 54,493 35,747
General partner's interest in net
income............................. (2,187) (715)
----------- -----------
Limited partners' interest in net
income............................. $ 52,306 $ 35,032
=========== ===========
Basic and diluted net income per unit
applicable to limited partners..... $ 2.72 $ 1.82
=========== ===========
Weighted average number of basic and
diluted units outstanding.......... 19,250,867 19,198,644
-------------------------------------------------------------------------------------------------
See accompanying notes to consolidated and combined financial statements.
F-22
VALERO L.P. AND SUBSIDIARIES
(FORMERLY SHAMROCK LOGISTICS, L.P. AND SUBSIDIARY)
(SUCCESSOR TO THE ULTRAMAR DIAMOND SHAMROCK LOGISTICS BUSINESS)
CONSOLIDATED AND COMBINED STATEMENTS OF CASH FLOWS
------------------------------------------------------------------------------------------------------------
SUCCESSOR PREDECESSOR
----------------------------------- -----------
YEARS ENDED SIX MONTHS SIX MONTHS
DECEMBER 31, ENDED ENDED
-------------------- DECEMBER 31, JUNE 30,
(IN THOUSANDS) 2002 2001 2000 2000
------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income............................................... $ 55,143 $ 45,873 $ 20,687 $ 49,970
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization......................... 16,440 13,390 5,924 6,336
Equity income from Skelly-Belvieu Pipeline Company.... (3,188) (3,179) (1,951) (1,926)
Distributions of equity income from Skelly-Belvieu
Pipeline Company................................... 3,493 2,874 1,951 1,926
Provision (benefit) for deferred income taxes......... 54 -- -- (36,677)
Changes in operating assets and liabilities:
Decrease (increase) in receivable from parent...... (2,666) 16,532 (22,347) --
Decrease (increase) in accounts receivable......... 1,353 (469) (1,676) 263
Decrease (increase) in other current assets........ (177) 3,528 (3,528) --
Increase (decrease) in accounts payable and accrued
liabilities..................................... 3,958 1,359 1,481 (106)
Increase (decrease) in taxes other than income
taxes........................................... 2,369 (2,394) 1,329 598
Other, net............................................ 877 (382) -- (137)
-------------------------------------------------
NET CASH PROVIDED BY OPERATING ACTIVITIES.......... 77,656 77,132 1,870 20,247
-------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Maintenance capital expenditures......................... (3,943) (2,786) (619) (1,699)
Expansion capital expenditures........................... (1,761) (4,340) (1,518) (3,186)
Acquisitions............................................. (75,000) (10,800) -- --
Distributions in excess of equity income from
Skelly-Belvieu Pipeline Company....................... 97 -- 401 380
-------------------------------------------------
NET CASH USED IN INVESTING ACTIVITIES.............. (80,607) (17,926) (1,736) (4,505)
-------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from senior note offering, net of issuance
costs................................................. 98,207 -- -- --
Proceeds from other long-term debt borrowings............ 75,000 25,506 -- --
Repayment of long-term debt.............................. (91,164) (10,068) (134) (284)
Distributions to unitholders and general partner......... (52,843) (21,571) -- --
Distributions to parent and affiliates................... (512) (29,000) -- (15,458)
Partners' contributions.................................. -- -- 1 --
Net proceeds from sale of common units to the public..... -- 111,912 -- --
Distribution to parent and affiliates for reimbursement
of capital expenditures............................... -- (20,517) -- --
Repayment of debt due to parent.......................... -- (107,676) -- --
-------------------------------------------------
NET CASH PROVIDED BY (USED IN) FINANCING
ACTIVITIES...................................... 28,688 (51,414) (133) (15,742)
-------------------------------------------------
Net increase in cash and cash equivalents................ 25,737 7,792 1 --
Cash and cash equivalents as of the beginning of
period................................................ 7,796 4 3 3
-------------------------------------------------
Cash and cash equivalents as of the end of period........ $ 33,533 $ 7,796 $ 4 $ 3
-------------------------------------------------
NON-CASH ACTIVITIES--Adjustment related to the transfer
of the Wichita Falls Business to Valero L.P. by Valero
Energy:
Property, plant and equipment......................... $ 64,160 $ (64,160) $ -- $ --
Accrued liabilities and taxes other than income
taxes.............................................. (382) 382 -- --
Deferred income tax liabilities....................... (13,147) 13,147 -- --
Net parent investment................................. (50,631) 50,631 -- --
------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated and combined financial statements.
F-23
SHAMROCK LOGISTICS, L.P. AND
SHAMROCK LOGISTICS OPERATIONS, L.P.
(SUCCESSOR TO THE ULTRAMAR DIAMOND SHAMROCK LOGISTICS BUSINESS)
COMBINED STATEMENTS OF PARTNERS' EQUITY/
NET PARENT INVESTMENT
SIX MONTHS ENDED DECEMBER 31, 2000 AND SIX MONTHS ENDED JUNE 30, 2000
-----------------------------------------------------------------------
(IN THOUSANDS)
-----------------------------------------------------------------------
BALANCE AS OF JANUARY 1, 2000............................... $ 254,807
Net income............................................... 49,970
Net change in parent advances............................ (15,458)
Formalization of the terms of debt due to parent......... (107,676)
---------
BALANCE AS OF JUNE 30, 2000................................. 181,643
Net income............................................... 20,687
Partners' contributions.................................. 1
Environmental liabilities as of June 30, 2000 retained by
Ultramar Diamond Shamrock Corporation.................. 2,507
---------
BALANCE AS OF DECEMBER 31, 2000............................. $ 204,838
-----------------------------------------------------------------------
See accompanying notes to consolidated and combined financial statements.
F-24
VALERO L.P. AND SUBSIDIARIES
(FORMERLY SHAMROCK LOGISTICS, L.P. AND SUBSIDIARY)
CONSOLIDATED AND COMBINED STATEMENTS OF PARTNERS' EQUITY
YEARS ENDED DECEMBER 31, 2002 AND 2001
-------------------------------------------------------------------------------------------------------
LIMITED PARTNERS TOTAL
------------------------ GENERAL NET PARENT PARTNERS'
(IN THOUSANDS) COMMON SUBORDINATED PARTNER INVESTMENT EQUITY
-------------------------------------------------------------------------------------------------------
COMBINED BALANCE AS OF JANUARY 1, 2001.... $ 202,790 $ -- $2,048 $ -- $204,838
Net income applicable to the period
January 1, 2001 through April 15,
2001................................... 10,025 -- 101 -- 10,126
Distributions to affiliates of Ultramar
Diamond Shamrock Corporation of net
income applicable to the period July 1,
2000 through April 15, 2001............ (28,710) -- (290) -- (29,000)
Distribution to affiliates of Ultramar
Diamond Shamrock Corporation for
reimbursement of capital expenditures.. (20,517) -- -- -- (20,517)
Issuance of common and subordinated units
for the contribution of Valero
Logistics Operation L.P.'s limited
partner interest....................... (113,141) 109,453 3,688 -- --
Sale of common units to the public........ 111,912 -- -- -- 111,912
Net income applicable to the period from
April 16, 2001 through December 31,
2001................................... 17,516 17,516 715 -- 35,747
Cash distributions to partners............ (10,570) (10,570) (431) -- (21,571)
Adjustment for the Wichita Falls Business
transaction............................ -- -- -- 50,631 50,631
-----------------------------------------------------------
CONSOLIDATED BALANCE AS OF DECEMBER 31,
2001................................... 169,305 116,399 5,831 50,631 342,166
Net income................................ 26,225 26,081 2,187 650 55,143
Cash distributions to partners............ (25,585) (25,438) (1,820) -- (52,843)
Adjustment resulting from the acquisition
of the Wichita Falls Business on
February 1, 2002....................... -- -- -- (51,281) (51,281)
Other..................................... 710 -- -- -- 710
-----------------------------------------------------------
CONSOLIDATED BALANCE AS OF DECEMBER 31,
2002................................... $ 170,655 $117,042 $6,198 $ -- $293,895
-------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated and combined financial statements.
F-25
VALERO L.P. AND SUBSIDIARIES
(FORMERLY SHAMROCK LOGISTICS, L.P. AND SUBSIDIARY)
(SUCCESSOR TO THE ULTRAMAR DIAMOND SHAMROCK LOGISTICS BUSINESS)
NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2002 AND 2001 AND SIX MONTHS ENDED
DECEMBER 31, 2000 AND SIX MONTHS ENDED JUNE 30, 2000
NOTE 1: ORGANIZATION, BUSINESS AND BASIS OF PRESENTATION
ORGANIZATION AND BUSINESS
Valero L.P. (formerly Shamrock Logistics, L.P.), a Delaware limited partnership,
through its wholly owned subsidiary, Valero Logistics Operations, L.P. (Valero
Logistics) owns and operates most of the crude oil and refined product pipeline,
terminalling and storage assets that service three of Valero Energy
Corporation's (Valero Energy) refineries. These refineries consist of the McKee
and Three Rivers refineries located in Texas, and the Ardmore refinery located
in Oklahoma. The pipeline, terminalling and storage assets provide for the
transportation of crude oil and other feedstocks to the refineries and the
transportation of refined products from the refineries to terminals or
third-party pipelines for further distribution. The Partnership's revenues are
earned primarily from providing these services to Valero Energy (see Note 13:
Related Party Transactions).
As used in this report, the term Partnership may refer, depending on the
context, to Valero L.P., Valero Logistics, or both of them taken as a whole.
Riverwalk Logistics, L.P., a wholly owned subsidiary of Valero Energy, is the 2%
general partner of Valero L.P. Valero Energy, through various affiliates, is
also a limited partner in Valero L.P., resulting in a combined ownership of
73.6%. The remaining 26.4% limited partnership interest is held by public
unitholders.
Valero Energy is an independent refining and marketing company. Its operations
consist of 12 refineries with a total throughput capacity of 1,900,000 barrels
per day and an extensive network of company-operated and dealer-operated
convenience stores. Valero Energy's refining operations rely on various
logistics assets (pipelines, terminals, marine dock facilities, bulk storage
facilities, refinery delivery racks and rail car loading equipment) that support
its refining and retail operations, including the logistics assets owned and
operated by the Partnership. Valero Energy markets the refined products produced
at the McKee, Three Rivers and Ardmore refineries primarily in Texas, Oklahoma,
Colorado, New Mexico, Arizona and several mid-continent states through a network
of company-operated and dealer-operated convenience stores, as well as through
other wholesale and spot market sales and exchange agreements.
THE PARTNERSHIP'S OPERATIONS
The Partnership's operations include interstate and intrastate pipelines, which
are subject to extensive federal and state environmental and safety regulations.
In addition, the tariff rates and practices under which the Partnership offers
interstate and intrastate transportation services in its pipelines are subject
to regulation by the Federal Energy Regulatory Commission (FERC), the Texas
Railroad Commission or the Colorado Public Utility Commission, depending on the
location of the pipeline. Tariff rates and practices for each pipeline are
required to be filed
F-26
with the respective commission upon completion of a pipeline and when a tariff
rate is being revised. In addition, the regulations include annual reporting
requirements for each pipeline.
The Partnership has an ownership interest in 9 crude oil pipelines with an
aggregate length of approximately 783 miles and 19 refined product pipelines
with an aggregate length of approximately 2,846 miles. In addition, the
Partnership owns a 25-mile crude hydrogen pipeline. The Partnership operates all
but three of the pipelines.
The Partnership also owns 5 crude oil storage facilities with a total storage
capacity of 3,326,000 barrels and 12 refined product terminals (including the
asphalt terminal acquired on January 7, 2003) with a total storage capacity of
3,192,000 barrels.
BASIS OF PRESENTATION
Prior to July 1, 2000, the Partnership's pipeline, terminalling and storage
assets were owned and operated by Ultramar Diamond Shamrock Corporation (UDS),
and such assets serviced the three refineries discussed above, which were also
owned by UDS at that time. These assets and their related operations are
referred to herein as the Ultramar Diamond Shamrock Logistics Business
(predecessor). Effective July 1, 2000, UDS transferred the Ultramar Diamond
Shamrock Logistics Business, along with certain liabilities, to Shamrock
Logistics Operations, L.P. (Shamrock Logistics Operations), a wholly owned
subsidiary of Shamrock Logistics, L.P. (Shamrock Logistics). Shamrock Logistics
was wholly owned by UDS. On April 16, 2001, Shamrock Logistics closed on an
initial public offering of its common units, which represented 26.4% of its
outstanding partnership interests.
On May 7, 2001, Valero Energy announced that it had entered into an Agreement
and Plan of Merger with UDS whereby UDS agreed to be acquired by Valero Energy
for total consideration of approximately $4.3 billion and the assumption of
approximately $2.0 billion of debt. The acquisition of UDS by Valero Energy
became effective on December 31, 2001. This acquisition included the acquisition
of UDS's majority ownership interest in Shamrock Logistics. Effective January 1,
2002, Shamrock Logistics changed its name to Valero L.P., and Shamrock Logistics
Operations changed its name to Valero Logistics.
On February 1, 2002, the Partnership acquired the Wichita Falls Crude Oil
Pipeline and Storage Business (the Wichita Falls Business) from Valero Energy
for $64,000,000.
The accompanying financial statements for the six months ended June 30, 2000,
reflect the operations of the Ultramar Diamond Shamrock Logistics Business (the
predecessor to Shamrock Logistics) as if it had existed as a single separate
entity from UDS. The transfer of the Ultramar Diamond Shamrock Logistics
Business to Shamrock Logistics Operations represented a reorganization of
entities under common control and was recorded at historical cost. The
consolidated and combined financial statements for the six months ended December
31, 2000, and for the years ended December 31, 2001 and 2002, represent the
consolidated operations of Valero L.P., formerly known as Shamrock Logistics.
The consolidated balance sheet as of December 31, 2001 has been restated to
reflect the acquisition of the Wichita Falls Business because the Partnership
and the Wichita Falls Business came under the common control of Valero Energy
commencing on that date and thus, represented a reorganization of entities under
common control. Similarly, the statements of income and cash flows for the year
ended December 31, 2002 reflect the operations of the Wichita Falls Business for
the entire year.
F-27
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Consolidation: All interpartnership transactions have been eliminated in the
consolidation of Valero L.P. and its subsidiaries. In addition, the operations
of certain of the crude oil and refined product pipelines and refined product
terminals that are jointly owned with other companies are proportionately
consolidated in the accompanying financial statements.
Use of Estimates: The preparation of financial statements in accordance with
United States generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates. On an ongoing basis, management reviews its estimates, including
those related to commitments, contingencies and environmental liabilities, based
on currently available information. Changes in facts and circumstances may
result in revised estimates.
Cash and Cash Equivalents: All highly liquid investments with an original
maturity of three months or less when purchased are considered to be cash
equivalents.
Property, Plant and Equipment: Property, plant and equipment is stated at cost.
Additions to property, plant and equipment, including maintenance and expansion
capital expenditures and capitalized interest, are recorded at cost. Maintenance
capital expenditures represent capital expenditures to replace partially or
fully depreciated assets to maintain the existing operating capacity of existing
assets and extend their useful lives. Expansion capital expenditures represent
capital expenditures to expand the operating capacity of existing assets,
whether through construction or acquisition. Repair and maintenance expenses
associated with existing assets that are minor in nature and do not extend the
useful life of existing assets are charged to operating expenses as incurred.
Depreciation is provided principally using the straight-line method over the
estimated useful lives of the related assets. When property, plant and equipment
is retired or otherwise disposed of, the difference between the carrying value
and the net proceeds is recognized as gain or loss in the statement of income in
the year retired.
Impairment of Long-Lived Assets: Long-lived assets, including property, plant
and equipment and the investment in Skelly-Belvieu Pipeline Company, are
reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount may not be recoverable. The evaluation of
recoverability is performed using undiscounted estimated net cash flows
generated by the related asset. If an asset is deemed to be impaired, the amount
of impairment is determined as the amount by which the net carrying value
exceeds discounted estimated net cash flows.
Goodwill: Goodwill represents the excess of cost over the fair value of net
assets acquired in 1997. The Partnership adopted Financial Accounting Standards
Board (FASB) Statement No. 142, "Goodwill and Other Intangible Assets" effective
January 1, 2002 resulting in the cessation of goodwill amortization beginning
January 1, 2002. For the years ended December 31, 2001 and 2000, goodwill
amortization expense totaled $299,000 and $301,000, respectively, or
approximately $0.02 per unit per year, assuming 19,198,644 common and
subordinated units outstanding. In addition to the cessation of amortization,
Statement No. 142 requires that goodwill be tested initially upon adoption and
annually thereafter to determine whether an impairment has occurred. An
impairment occurs when the carrying amount exceeds the fair value of the
recognized goodwill asset. If impairment has occurred, the difference between
the carrying value and the fair value is recognized as a loss in the statement
of income in that period. Based on the results of the impairment tests performed
upon initial adoption of
F-28
Statement No. 142 as of January 1, 2002, and the annual impairment test
performed as of October 1, 2002, no impairment had occurred.
Investment in Skelly-Belvieu Pipeline Company, LLC: Formed in 1993, the
Skelly-Belvieu Pipeline Company, LLC (Skelly-Belvieu Pipeline Company) owns a
natural gas liquids pipeline that begins in Skellytown, Texas and extends to
Mont Belvieu, Texas near Houston. Skelly-Belvieu Pipeline Company is owned 50%
by Valero Logistics and 50% by ConocoPhillips (previously Phillips Petroleum
Company). The Partnership accounts for this investment under the equity method
of accounting (see Note 6: Investment in Skelly-Belvieu Pipeline Company).
Deferred Financing Costs: Deferred financing costs are amortized using the
effective interest method.
Environmental Remediation Costs: Environmental remediation costs are expensed
and the associated accrual established when site restoration and environmental
remediation and cleanup obligations are either known or considered probable and
can be reasonably estimated. Accrued liabilities are not discounted to present
value and are not reduced by possible recoveries from third parties; however,
they are net of any recoveries expected from Valero Energy related to the
environmental indemnifications. Environmental costs include initial site
surveys, costs for remediation and restoration and ongoing monitoring costs, as
well as fines, damages and other costs, when estimable. Adjustments to initial
estimates are recorded, from time to time, to reflect changing circumstances and
estimates based upon additional information developed in subsequent periods.
Revenue Recognition: Revenues are derived from interstate and intrastate
pipeline transportation, storage and terminalling of refined products and crude
oil. Transportation revenues (based on pipeline tariff rates) are recognized as
refined product or crude oil is transported through the pipelines. In the case
of crude oil pipelines, the cost of the storage operations are included in the
crude oil pipeline tariff rates. Terminalling revenues (based on a terminalling
fee) are recognized as refined products are moved into the terminal and as
additives are blended with refined products (see Note 13: Related Party
Transactions).
Operating Expenses: Operating expenses consist primarily of fuel and power
costs, telecommunication costs, labor costs of pipeline field and support
personnel, maintenance, utilities, insurance and taxes other than income taxes.
Such expenses are recognized as incurred (see Note 13: Related Party
Transactions).
Federal and State Income Taxes: Valero L.P. and Valero Logistics are limited
partnerships and are not subject to federal or state income taxes. Accordingly,
the taxable income or loss of Valero L.P. and Valero Logistics, which may vary
substantially from income or loss reported for financial reporting purposes, is
generally includable in the federal and state income tax returns of the
individual partners. For transfers of publicly held units subsequent to the
initial public offering, Valero L.P. has made an election permitted by section
754 of the Internal Revenue Code to adjust the common unit purchaser's tax basis
in Valero L.P.'s underlying assets to reflect the purchase price of the units.
This results in an allocation of taxable income and expense to the purchaser of
the common units, including depreciation deductions and gains and losses on
sales of assets, based upon the new unitholder's purchase price for the common
units.
The Wichita Falls Business was included in UDS' (now Valero Energy's)
consolidated federal and state income tax returns. Deferred income taxes were
computed based on recognition of future tax expense or benefits, measured by
enacted tax rates that were attributable to taxable or
F-29
deductible temporary differences between financial statement and income tax
reporting bases of assets and liabilities. No recognition will be given to
federal or state income taxes associated with the Wichita Falls Business for
financial statement purposes for periods subsequent to its acquisition by Valero
L.P. The deferred income tax liabilities related to the Wichita Falls Business
as of February 1, 2002 were retained by Valero Energy and were credited to net
parent investment upon the transfer of the Wichita Falls Business to Valero L.P.
For the periods prior to July 1, 2000, the Ultramar Diamond Shamrock Logistics
Business was included in the consolidated federal and state income tax returns
of UDS. Deferred income taxes were computed based on recognition of future tax
expense or benefits, measured by enacted tax rates that were attributable to
taxable or deductible temporary differences between financial statement and
income tax reporting bases of assets and liabilities. The current portion of
income taxes payable prior to July 1, 2000 was due to UDS and has been included
in the net parent investment amount.
Partners' Equity: Effective April 16, 2001, Valero L.P. completed its initial
public offering of common units by selling 5,175,000 common units to the public.
After the offering, outstanding partners' equity included 9,599,322 common units
(4,424,322 of which are held by an affiliate of Valero Energy), 9,599,322
subordinated units held by an affiliate of Valero Energy and a 2% general
partner interest held by Riverwalk Logistics, L.P. In addition, Valero GP, LLC,
the general partner of Riverwalk Logistics, L.P. and an affiliate of Valero
Energy, holds 55,250 common units to settle awards of contractual rights to
receive common units previously issued to officers and directors of Valero GP,
LLC. The common units held by the public represent a 26.4% ownership interest in
the Partnership as of December 31, 2002.
Net Parent Investment: The net parent investment as of December 31, 2001
represents the historical cost to Valero Energy, net of deferred income tax
liabilities and certain other accrued liabilities, related to the Wichita Falls
Business. The Wichita Falls Business was consolidated with the Partnership as of
December 31, 2001 due to a reorganization of entities under common control
resulting from the acquisition of the Wichita Falls Business by the Partnership
(see Note 1: Organization, Business and Basis of Presentation).
The net parent investment prior to July 1, 2000, represented a net balance as
the result of various transactions between the Ultramar Diamond Shamrock
Logistics Business and UDS. There were no terms of settlement or interest
charges associated with this balance. The balance was the result of the Ultramar
Diamond Shamrock Logistics Business' participation in UDS's central cash
management program, wherein all of the Ultramar Diamond Shamrock Logistics
Business' cash receipts were remitted to UDS and all cash disbursements were
funded by UDS. Other transactions included intercompany transportation, storage
and terminalling revenues and related expenses, administrative and support
expenses incurred by UDS and allocated to the Ultramar Diamond Shamrock
Logistics Business, and income taxes. In conjunction with the transfer of the
assets and liabilities of the Ultramar Diamond Shamrock Logistics Business to
Shamrock Logistics Operations on July 1, 2000, Shamrock Logistics and Shamrock
Logistics Operations issued limited and general partner interests to various UDS
subsidiaries (see Note 1: Organization, Business and Basis of Presentation).
Income Allocation: The Partnership's net income for each quarterly reporting
period is first allocated to the general partner in an amount equal to the
general partner's incentive distribution declared for the respective reporting
period. The remaining net income is allocated among the limited and general
partners in accordance with their respective 98% and 2% interests, respectively.
F-30
Net Income per Unit Applicable to Limited Partners: The computation of basic net
income per unit applicable to limited partners is based on the weighted-average
number of common and subordinated units outstanding during the year. Net income
per unit applicable to limited partners is computed by dividing net income
applicable to limited partners, after deducting the general partner's 2%
interest and incentive distributions, by the weighted-average number of limited
partnership units outstanding. The general partner's incentive distribution
allocation for the year ended December 31, 2002 was $1,103,000 and there were no
incentive distributions for the period April 16 through December 31, 2001. In
addition, the Partnership generated sufficient net income such that the amount
of net income allocated to common units was equal to the amount allocated to the
subordinated units.
Segment Disclosures: The Partnership operates in only one segment, the petroleum
pipeline segment of the oil and gas industry.
Derivative Instruments: The Partnership currently does not hold or trade
derivative instruments.
RECENT ACCOUNTING PRONOUNCEMENT
In June 2001, the FASB issued Statement No. 143, "Accounting for Asset
Retirement Obligations." This statement establishes standards for accounting for
an obligation associated with the retirement of a tangible long-lived asset. An
asset retirement obligation should be recognized in the financial statements in
the period in which it meets the definition of a liability as defined in FASB
Concepts Statement No. 6, "Elements of Financial Statements." The amount of the
liability would initially be measured at fair value. Subsequent to initial
measurement, an entity would recognize changes in the amount of the liability
resulting from (a) the passage of time and (b) revisions to either the timing or
amount of estimated cash flows. Statement No. 143 also establishes standards for
accounting for the cost associated with an asset retirement obligation. It
requires that, upon initial recognition of a liability for an asset retirement
obligation, an entity capitalize that cost by recognizing an increase in the
carrying amount of the related long-lived asset. The capitalized asset
retirement cost would then be allocated to expense using a systematic and
rational method. Statement No. 143 will be effective for financial statements
issued for fiscal years beginning after June 15, 2002, with earlier application
encouraged. The Partnership is currently evaluating the impact of adopting this
new statement, however, at the present time does not believe the statement will
have a material impact on its financial position or results of operations.
NOTE 3: INITIAL PUBLIC OFFERING
As discussed in Note 1, on April 16, 2001, Shamrock Logistics completed its
initial public offering of common units, by selling 5,175,000 common units to
the public at $24.50 per unit. Total proceeds before offering costs and
underwriters' commissions were $126,787,000. Concurrent with the closing of the
initial public offering, Shamrock Logistics Operations borrowed $20,506,000
under its existing revolving credit facility. The net proceeds from the initial
public offering and the borrowings under the revolving credit facility were used
to repay the debt due to parent, make a distribution to affiliates of UDS for
reimbursement of previous capital expenditures incurred with respect to the
assets transferred to the Partnership, and for working capital purposes.
F-31
A summary of the proceeds received and use of proceeds is as follows (in
thousands):
Proceeds received:
Sale of common units to the public....................... $126,787
Borrowings under the revolving credit facility........... 20,506
--------
Total proceeds........................................ 147,293
--------
Use of proceeds:
Underwriters' commissions................................ 8,875
Professional fees and other costs........................ 6,000
Debt issuance costs...................................... 436
Repayment of debt due to parent.......................... 107,676
Reimbursement of capital expenditures.................... 20,517
--------
Total use of proceeds................................. 143,504
--------
Net proceeds used for working capital and general
partnership purposes..................................... $ 3,789
----------------------------------------------------------------------
NOTE 4: ACQUISITIONS
BUSINESS ACQUISITION--WICHITA FALLS BUSINESS
On February 1, 2002, the Partnership acquired the Wichita Falls Business from
Valero Energy for a total cost of $64,000,000, which the Partnership had an
option to purchase pursuant to the Omnibus Agreement between the Partnership and
Valero Energy (see Note 13: Related Party Transactions--Omnibus Agreement). The
purchase price was funded with borrowings under the Partnership's revolving
credit facility.
The Wichita Falls Business consists of the following assets:
- A 272-mile crude oil pipeline originating in Wichita Falls, Texas and
ending at Valero Energy's McKee refinery in Dumas, Texas. The pipeline
has the capacity to transport 110,000 barrels per day of crude oil
gathered or acquired by Valero Energy at Wichita Falls. The Wichita Falls
crude oil pipeline connects to third party pipelines that originate along
the Texas Gulf Coast.
- Four crude oil storage tanks located in Wichita Falls, Texas with a
total capacity of 660,000 barrels.
Since the acquisition of the Wichita Falls Business represented the transfer of
a business between entities under the common control of Valero Energy, the
consolidated balance sheet as of December 31, 2001 and the statements of income
and cash flows for the month ended January 31, 2002 (preceding the acquisition
date) have been restated to include the Wichita Falls Business. The balance
sheet of the Wichita Falls Business as of December 31, 2001, which is included
in the consolidated balance sheet of the Partnership as of December 31, 2001, is
F-32
summarized below, as well as, a reconciliation to the adjustment recorded when
the acquisition was consummated on February 1, 2002.
----------------------------------------------------------------------------
WICHITA FALLS
(IN THOUSANDS) BUSINESS
----------------------------------------------------------------------------
BALANCE SHEET AS OF DECEMBER 31, 2001:
Property, plant and equipment............................ $ 64,160
Accounts payable and accrued liabilities................. (131)
Taxes other than income taxes............................ (251)
Deferred income tax liabilities.......................... (13,147)
-------------
Net parent investment as of December 31, 2001......... 50,631
Net income for the month ended January 31, 2002............. 650
-------------
Adjustment resulting from the acquisition of the Wichita
Falls Business on February 1, 2002..................... $ 51,281
----------------------------------------------------------------------------
The following unaudited pro forma financial information for the year ended
December 31, 2001 assumes that the Wichita Falls Business was acquired on
January 1, 2001 with borrowings under the revolving credit facility.
--------------------------------------------------------------------------------
PRO FORMA YEAR
ENDED
(IN THOUSANDS) DECEMBER 31, 2001
--------------------------------------------------------------------------------
PRO FORMA INCOME STATEMENT INFORMATION:
Revenues................................................. $117,312
Total costs and expenses................................. (59,993)
Operating income......................................... 57,319
Net income............................................... 53,686
--------------------------------------------------------------------------------
Since Shamrock Logistics did not complete its IPO until April 16, 2001, pro
forma net income applicable to the period from April 16, 2001 through December
31, 2001 would have been $41,844,000, of which $41,007,000 would have related to
the limited partners. Pro forma net income per unit applicable to the period
after April 15, 2001 would have been $2.14 per unit.
ASSET ACQUISITIONS
Crude hydrogen pipeline acquisition
In May of 2002, Valero Energy completed the construction of a 30-mile pure
hydrogen pipeline, which originates at Valero Energy's Texas City refinery and
ends at Praxair, Inc.'s La Porte, Texas plant. The total cost to construct the
pipeline was $11,000,000.
On May 29, 2002, the Partnership acquired the 30-mile pure hydrogen pipeline
from Valero Energy for $11,000,000, which was funded with borrowings under the
Partnership's revolving credit facility. The Partnership then exchanged, on May
29, 2002, this 30-mile pure hydrogen pipeline for Praxair, Inc.'s 25-mile crude
hydrogen pipeline, which originates at BOC's (successor to Celanese Ltd.)
chemical facility in Clear Lake, Texas and ends at Valero Energy's Texas City
refinery in Texas City, Texas, under an exchange agreement previously negotiated
between Valero Energy and Praxair, Inc. In conjunction with the exchange, the
Partnership entered into
F-33
an operating agreement with Praxair, Inc. whereby Praxair, Inc. will operate the
pipeline for an annual fee of $92,000, plus reimbursement of repair, replacement
and relocation costs.
Valero Energy owns the crude hydrogen transported in the pipeline, and the
transportation services provided by the Partnership to Valero Energy are subject
to a Hydrogen Tolling Agreement. The Hydrogen Tolling Agreement provides that
Valero Energy will pay the Partnership minimum annual revenues of $1,400,000 for
transporting crude hydrogen.
Southlake refined product terminal and Ringgold crude oil storage facility
acquisitions
On July 2, 2001, the Partnership acquired the Southlake refined product terminal
located in Dallas, Texas from UDS for $5,600,000, which was funded with
available cash on hand. On December 1, 2001, the Partnership acquired the crude
oil storage facility at Ringgold, Texas from UDS for $5,200,000, which was
funded with borrowings under the revolving credit facility. The Partnership had
options to purchase both of these assets pursuant to the Omnibus Agreement
between the Partnership and UDS.
NOTE 5: PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment, at cost, consisted of the following:
--------------------------------------------------------------------------------------------
ESTIMATED DECEMBER 31,
USEFUL ----------------------
(IN THOUSANDS) LIVES 2002 2001
--------------------------------------------------------------------------------------------
(YEARS
Land................................................... -- $ 820 $ 820
Land improvements...................................... 20 68 68
Buildings.............................................. 35 5,647 5,392
Pipeline and equipment................................. 3 - 40 442,681 427,227
Rights of way.......................................... 20 - 35 29,860 29,857
Construction in progress............................... -- 7,863 7,037
--------- ---------
Total............................................... 486,939 470,401
Accumulated depreciation and amortization.............. (137,663) (121,389)
--------- ---------
Property, plant and equipment, net.................. $ 349,276 $ 349,012
--------------------------------------------------------------------------------------------
Capitalized interest costs included in property, plant and equipment were
$255,000 and $298,000 for the years ended December 31, 2002 and 2001,
respectively. No interest was capitalized in the six months ended December 31,
2000 or in the six months ended June 30, 2000.
F-34
NOTE 6: INVESTMENT IN SKELLY-BELVIEU PIPELINE COMPANY
The Partnership owns a 50% interest in Skelly-Belvieu Pipeline Company, which is
accounted for under the equity method. The following presents summarized
unaudited financial information related to Skelly-Belvieu Pipeline Company as of
December 31, 2002 and 2001, for the years ended December 31, 2002 and 2001 and
for the six months ended December 31, 2000 and the six months ended June 30,
2000:
---------------------------------------------------------------------------------------------
YEARS ENDED SIX MONTHS ENDED
DECEMBER 31, -----------------------
----------------- DECEMBER 31, JUNE 30,
(IN THOUSANDS) 2002 2001 2000 2000
---------------------------------------------------------------------------------------------
STATEMENT OF INCOME INFORMATION:
Revenues........................................ $12,849 $12,287 $6,883 $6,902
Income before income tax expense................ 5,605 5,587 3,517 3,469
The Partnership's share of net income........... 3,188 3,179 1,951 1,926
The Partnership's share of distributions........ 3,590 2,874 2,352 2,306
---------------------------------------------------------------------------------------------
-------------------------------------------------------------------------------
DECEMBER 31,
-----------------
(IN THOUSANDS) 2002 2001
-------------------------------------------------------------------------------
BALANCE SHEET INFORMATION:
Current assets.............................................. $ 1,572 $ 1,653
Property, plant and equipment, net.......................... 48,739 50,195
-----------------
Total assets............................................. $50,311 $51,848
-----------------
Current liabilities......................................... $ 150 $ 111
Members' equity............................................. 50,161 51,737
-----------------
Total liabilities and members' equity.................... $50,311 $51,848
-------------------------------------------------------------------------------
The excess of the Partnership's 50% share of members' equity over the carrying
value of its investment is attributable to the step-up in basis to fair value of
the initial contribution to Skelly-Belvieu Pipeline Company. This excess, which
totaled $8,990,000 as of December 31, 2002 and $9,376,000 as of December 31,
2001, is being accreted into income over 33 years.
NOTE 7: LONG-TERM DEBT
Long-term debt consisted of the following:
--------------------------------------------------------------------------------
DECEMBER 31,
------------------
(IN THOUSANDS) 2002 2001
--------------------------------------------------------------------------------
6.875% senior notes, net of unamortized discount of $300.... $ 99,700 $ --
Port Authority of Corpus Christi note payable............... 9,958 10,122
$120,000,000 revolving credit facility...................... -- 16,000
------------------
Total debt............................................... 109,658 26,122
Less current portion........................................ (747) (462)
------------------
Long-term debt, less current portion..................... $108,911 $25,660
--------------------------------------------------------------------------------
F-35
The long-term debt repayments are due as follows (in thousands):
2003........................................................ $ 747
2004........................................................ 485
2005........................................................ 524
2006........................................................ 566
2007........................................................ 611
Thereafter.................................................. 106,725
--------
Total repayments......................................... $109,658
----------------------------------------------------------------------
Interest payments, excluding related party interest payments, totaled
$1,988,000, $1,559,000, $441,000 and $433,000 for the years ended December 31,
2002 and 2001, the six months ended December 31, 2000 and the six months ended
June 30, 2000, respectively.
Valero L.P. has no operations and its only asset is its investment in Valero
Logistics, which owns and operates the Partnership's pipelines and terminals.
Valero L.P. has fully and unconditionally guaranteed the senior notes issued by
Valero Logistics and any obligations under Valero Logistics' revolving credit
facility.
6.875% SENIOR NOTES
On July 15, 2002, Valero Logistics completed the sale of $100,000,000 of 6.875%
senior notes due 2012, issued under the Partnership's shelf registration
statement, for total proceeds of $99,686,000. The net proceeds of $98,207,000,
after deducting underwriters' commissions and offering expenses of $1,479,000,
were used to repay the $91,000,000 outstanding under the revolving credit
facility. The senior notes do not have sinking fund requirements. Interest on
the senior notes is payable semiannually in arrears on January 15 and July 15 of
each year.
The senior notes rank equally with all other existing senior unsecured
indebtedness of Valero Logistics, including indebtedness under the revolving
credit facility. The senior notes contain restrictions on Valero Logistics'
ability to incur secured indebtedness unless the same security is also provided
for the benefit of holders of the senior notes. In addition, the senior notes
limit Valero Logistics' ability to incur indebtedness secured by certain liens
and to engage in certain sale-leaseback transactions. The senior notes are
irrevocably and unconditionally guaranteed on a senior unsecured basis by Valero
L.P. The guarantee by Valero L.P. ranks equally with all of its existing and
future unsecured senior obligations.
At the option of Valero Logistics, the senior notes may be redeemed in whole or
in part at any time at a redemption price, which includes a make-whole premium,
plus accrued and unpaid interest to the redemption date. The senior notes also
include a change-in-control provision, which requires that an investment grade
entity own and control the general partner of Valero L.P. and Valero Logistics.
Otherwise Valero Logistics must offer to purchase the senior notes at a price
equal to 100% of their outstanding principal balance plus accrued interest
through the date of purchase.
$120,000,000 REVOLVING CREDIT FACILITY
On December 15, 2000, Valero Logistics (formerly Shamrock Logistics Operations)
entered into a five-year $120,000,000 revolving credit facility. The revolving
credit facility expires on January 15, 2006 and borrowings under the revolving
credit facility bear interest based on either an alternative base rate or LIBOR
at the option of Valero Logistics. Valero Logistics also
F-36
incurs a facility fee on the aggregate commitments of lenders under the
revolving credit facility, whether used or unused. Borrowings under the
revolving credit facility may be used for working capital and general
partnership purposes. Borrowings to fund distributions to unitholders; however,
is limited to $25,000,000 and such borrowings must be reduced to zero for a
period of at least 15 consecutive days during each fiscal year. The amounts
available to the Partnership under the revolving credit facility are not subject
to a borrowing base computation; therefore as of December 31, 2002, the entire
$120,000,000 was available.
Borrowings under the revolving credit facility are unsecured and rank equally
with all of Valero Logistics' outstanding unsecured and unsubordinated debt. The
revolving credit facility requires that Valero Logistics maintain certain
financial ratios and includes other restrictive covenants, including a
prohibition on distributions by Valero Logistics if any default, as defined in
the revolving credit facility, exists or would result from the distribution. The
revolving credit facility also includes a change-in-control provision, which
requires that Valero Energy and its affiliates own, directly or indirectly, at
least 20% of Valero L.P.'s outstanding units or at least 100% of Valero L.P.'s
general partner interest and 100% of Valero Logistics' outstanding equity.
Management believes that the Partnership is in compliance with all of these
ratios and covenants.
See Note 17: Subsequent Events--Amended Revolving Credit Facility for a
discussion of an amendment to this revolving credit facility finalized in March
of 2003.
PORT AUTHORITY OF CORPUS CHRISTI NOTE PAYABLE
The Ultramar Diamond Shamrock Logistics Business previously entered into a
financing agreement with the Port of Corpus Christi Authority of Nueces County,
Texas (Port Authority of Corpus Christi) for the construction of a crude oil
storage facility. The original note totaled $12,000,000 and is due in annual
installments of $1,222,000 through December 31, 2015. Interest on the unpaid
principal balance accrues at a rate of 8% per annum. In conjunction with the
July 1, 2000 transfer of assets and liabilities to the Partnership, the
$10,818,000 outstanding indebtedness owed to the Port Authority of Corpus
Christi was assumed by the Partnership. The land on which the crude oil storage
facility was constructed is leased from the Port Authority of Corpus Christi
(see Note 10: Commitments and Contingencies).
SHELF REGISTRATION STATEMENT
On June 6, 2002, Valero L.P. and Valero Logistics filed a $500,000,000 universal
shelf registration statement with the Securities and Exchange Commission
covering the issuance of an unspecified amount of common units or debt
securities or a combination thereof. Valero L.P. may, in one or more offerings,
offer and sell common units representing limited partner interests in Valero
L.P. Valero Logistics may, in one or more offerings, offer and sell its debt
securities, which will be fully and unconditionally guaranteed by Valero L.P. As
a result of the July 2002 senior note offering by Valero Logistics, the
remaining balance under the universal shelf registration statement is
$400,000,000 as of December 31, 2002.
NOTE 8: DEBT DUE TO PARENT
UDS, through various subsidiaries, constructed or acquired the various crude oil
and refined product pipeline, terminalling and storage assets of the Ultramar
Diamond Shamrock Logistics Business. In conjunction with the initial public
offering of common units of Shamrock Logistics, the subsidiaries of UDS which
owned the various assets of the Ultramar Diamond Shamrock
F-37
Logistics Business formalized the terms under which certain intercompany
accounts and working capital loans would be settled by executing promissory
notes with an aggregate principal balance of $107,676,000, and this was made
effective as of June 30, 2000. The promissory notes required that the principal
be repaid no later than June 30, 2005 and bear interest at a rate of 8% per
annum on the unpaid balance. Effective July 1, 2000, the $107,676,000 of debt
due to parent was assumed by Shamrock Logistics Operations. Interest expense
accrued and recorded as a reduction of receivable from parent totaled $4,307,000
for the six months ended December 31, 2000 and $2,513,000 for the period from
January 1, 2001 through April 15, 2001.
Concurrent with the closing of Shamrock Logistics' initial public offering on
April 16, 2001, the Partnership repaid these promissory notes using a portion of
the net proceeds from the initial public offering and borrowings under the
$120,000,000 revolving credit facility (see Note 3: Initial Public Offering).
NOTE 9: ENVIRONMENTAL MATTERS
The Partnership's operations are subject to extensive federal, state and local
environmental laws and regulations. Although the Partnership believes its
operations are in substantial compliance with applicable environmental laws and
regulations, risks of additional costs and liabilities are inherent in pipeline,
terminalling and storage operations, and there can be no assurance that
significant costs and liabilities will not be incurred. Moreover, it is possible
that other developments, such as increasingly stringent environmental laws,
regulations and enforcement policies thereunder, and claims for damages to
property or persons resulting from the operations, could result in substantial
costs and liabilities. Accordingly, the Partnership has adopted policies,
practices and procedures in the areas of pollution control, product safety,
occupational health and the handling, storage, use and disposal of hazardous
materials to prevent material environmental or other damage, and to limit the
financial liability which could result from such events. However, some risk of
environmental or other damage is inherent in pipeline, terminalling and storage
operations, as it is with other entities engaged in similar businesses.
In connection with the transfer of assets and liabilities from the Ultramar
Diamond Shamrock Logistics Business to Shamrock Logistics Operations on July 1,
2000, UDS agreed to indemnify Shamrock Logistics Operations for environmental
liabilities that arose prior to July 1, 2000. In connection with the initial
public offering of Shamrock Logistics, UDS agreed to indemnify Shamrock
Logistics for environmental liabilities that arose prior to April 16, 2001 and
that are discovered within 10 years after April 16, 2001. In conjunction with
the acquisitions of the Southlake refined product terminal on July 2, 2001 and
the Ringgold crude oil storage facility on December 1, 2001, UDS agreed to
indemnify the Partnership for environmental liabilities that arose prior to the
acquisition dates and are discovered within 10 years after acquisition. Excluded
from this indemnification are liabilities that result from a change in
environmental law after April 16, 2001. Effective with the acquisition of UDS,
Valero Energy has assumed these environmental indemnifications. In addition, as
an operator or owner of the assets, the Partnership could be held liable for
pre-acquisition environmental damage should Valero Energy be unable to fulfill
its obligation. However, the Partnership believes that such a situation is
remote given Valero Energy's financial condition.
F-38
In conjunction with the sale of the Wichita Falls Business to the Partnership,
Valero Energy agreed to indemnify the Partnership for any environmental
liabilities that arose prior to February 1, 2002 and that are discovered by
April 15, 2011.
Environmental exposures and liabilities are difficult to assess and estimate due
to unknown factors such as the magnitude of possible contamination, the timing
and extent of remediation, the determination of the Partnership's liability in
proportion to other parties, improvements in cleanup technologies and the extent
to which environmental laws and regulations may change in the future. Although
environmental costs may have a significant impact on the results of operations
for any single period, the Partnership believes that such costs will not have a
material adverse effect on its financial position. As of December 31, 2002, the
Partnership has not incurred any material environmental liabilities that were
not covered by the environmental indemnifications.
NOTE 10: COMMITMENTS AND CONTINGENCIES
The Ultramar Diamond Shamrock Logistics Business previously entered into several
agreements with the Port Authority of Corpus Christi including a crude oil dock
user agreement, a land lease agreement and a note agreement. The crude oil dock
user agreement, which renews annually in May, allows the Partnership to operate
and manage a crude oil dock in Corpus Christi. The Partnership shares use of the
crude oil dock with two other users, and operating costs are split evenly among
the three users. The crude oil dock user agreement requires that the Partnership
collect wharfage fees, based on the quantity of barrels offloaded from each
vessel, and dockage fees, based on vessels berthing at the dock. These fees are
remitted to the Port Authority of Corpus Christi monthly. The wharfage and
one-half of the dockage fees that the Partnership pays for the use of the crude
oil dock reduces the annual amount it owes to the Port Authority of Corpus
Christi under the note agreement discussed in Note 7: Long Term Debt. The
wharfage and dockage fees for the Partnership's use of the crude oil dock
totaled $1,092,000, $1,449,000, $692,000 and $698,000 for the years ended
December 31, 2002 and 2001, the six months ended December 31, 2000 and the six
months ended June 30, 2000, respectively.
The Ultramar Diamond Shamrock Logistics Business previously entered into a
refined product dock user agreement, which renews annually in April, with the
Port Authority of Corpus Christi to use a refined product dock. The Partnership
shares use of the refined product dock with one other user, and operating costs
are split evenly between the two users. The refined product dock user agreement
requires that the Partnership collect and remit the wharfage and dockage fees to
the Port Authority of Corpus Christi. The wharfage and dockage fees for the
Partnership's use of the refined product dock totaled $174,000, $166,000,
$86,000 and $114,000 for the years ended December 31, 2002 and 2001, the six
months ended December 31, 2000 and the six months ended June 30, 2000,
respectively.
The crude oil and the refined product docks provide Valero Energy's Three Rivers
refinery access to marine facilities to receive crude oil and deliver refined
products. For the years ended December 31, 2002, 2001 and 2000, the Three Rivers
refinery received 86%, 92% and 93%, respectively, of its crude oil requirements
from crude oil received at the crude oil dock. Also, for each of the years ended
December 31, 2002, 2001 and 2000, 6% of the refined products produced at the
Three Rivers refinery were transported via pipeline to the Corpus Christi
refined product dock.
F-39
The Partnership has the following land leases related to refined product
terminals and crude oil storage facilities:
- Corpus Christi crude oil storage facility: a 20-year noncancellable
operating lease on 31.35 acres of land through 2014, at which time the
lease is renewable every five years, for a total of 20 renewable years.
- Corpus Christi refined product terminal: a 5-year noncancellable
operating lease on 5.21 acres of land through 2006, and a 5-year
noncancellable operating lease on 8.42 acres of land through 2007, at
which time the agreements are renewable for at least two five-year
periods.
- Harlingen refined product terminal: a 13-year noncancellable operating
lease on 5.88 acres of land through 2008, and a 30-year noncancellable
operating lease on 9.04 acres of land through 2008.
- Colorado Springs airport terminal: a 50-year noncancellable operating
lease on 46.26 acres of land through 2043, at which time the lease is
renewable for another 50-year period.
All of the Partnership's land leases, including the above leases, require
monthly payments totaling $19,000 and are adjustable every five years based on
changes in the Consumer Price Index.
In addition, the Partnership leases certain equipment and vehicles under
operating lease agreements expiring through 2003. Future minimum rental payments
applicable to noncancellable operating leases as of December 31, 2002, are as
follows (in thousands):
2003........................................................ $ 227
2004........................................................ 226
2005........................................................ 226
2006........................................................ 212
2007........................................................ 186
Thereafter.................................................. 1,422
------
Future minimum lease payments............................ $2,499
--------------------------------------------------------------------
Rental expense for all operating leases totaled $326,000, $281,000, $53,000 and
$203,000 for the years ended December 31, 2002 and 2001, the six months ended
December 31, 2000 and the six months ended June 30, 2000, respectively.
The Partnership is involved in various lawsuits, claims and regulatory
proceedings incidental to its business. In the opinion of management, the
outcome of such matters will not have a material adverse effect on the
Partnership's financial position or results of operations.
NOTE 11: INCOME TAXES
As discussed in "Note 2: Summary of Significant Accounting Policies," Valero
L.P. and Valero Logistics are limited partnerships and are not subject to
federal or state income taxes. However, the operations of the Ultramar Diamond
Shamrock Logistics Business were subject to federal and state income taxes and
the results of operations prior to July 1, 2000 were included in UDS'
consolidated federal and state income tax returns. The amounts presented below
relate only to the Ultramar Diamond Shamrock Logistics Business prior to July 1,
2000 and were calculated as if the Business filed a separate federal and state
income tax return. The transfer
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of assets and liabilities from the Ultramar Diamond Shamrock Logistics Business
to Shamrock Logistics Operations was deemed a change in tax status. Accordingly,
the deferred income tax liability as of June 30, 2000 of $38,217,000 was written
off through the statement of income in the caption, income tax expense
(benefit).
Income tax expense (benefit) consisted of the following:
----------------------------------------------------------------------------
SIX MONTHS
ENDED JUNE 30,
(IN THOUSANDS) 2000
----------------------------------------------------------------------------
Current:
Federal.................................................. $ 5,132
State.................................................... 733
Deferred:
Federal.................................................. 1,415
State.................................................... 125
Write-off of the deferred income tax liability.............. (38,217)
--------------
Income tax expense (benefit)............................. $(30,812)
----------------------------------------------------------------------------
The differences between the Ultramar Diamond Shamrock Logistics Business'
effective income tax rate and the U.S. federal statutory rate is reconciled as
follows:
----------------------------------------------------------------------------
SIX MONTHS
ENDED JUNE 30,
2000
----------------------------------------------------------------------------
U.S. federal statutory rate................................. 35.0%
State income taxes, net of federal taxes.................... 3.1
Non-deductible goodwill..................................... 0.3
--------------
Effective income tax rate................................ 38.4%
----------------------------------------------------------------------------
Income taxes paid to UDS totaled $5,865,000 for the six months ended June 30,
2000.
In addition, the Wichita Falls Business was subject to federal and state income
taxes prior to its acquisition on February 1, 2002. The $395,000 of income tax
expense included in the consolidated statement of income for the year ended
December 31, 2002 represents the Wichita Falls Business' income tax expense for
the month ended January 31, 2002, which was calculated as if the Business filed
a separate federal and state income tax return.
NOTE 12: FINANCIAL INSTRUMENTS AND CONCENTRATION OF CREDIT RISK
The estimated fair value of the Partnership's fixed rate debt as of December 31,
2002 and 2001 was $109,922,000 and $11,240,000, respectively, as compared to the
carrying value of $109,658,000 and $10,122,000, respectively. These fair values
were estimated using discounted cash flow analysis, based on the Partnership's
current incremental borrowing rates for similar types of borrowing arrangements.
The Partnership has not utilized derivative financial instruments related to
these borrowings. Interest rates on borrowings under the revolving credit
facility float with market rates and thus the carrying amount approximates fair
value.
Substantially all of the Partnership's revenues are derived from Valero Energy
and its subsidiaries. Valero Energy transports crude oil to three of its
refineries using the Partnership's
F-41
various crude oil pipelines and storage facilities and transports refined
products to its company-owned retail operations or wholesale customers using the
Partnership's various refined product pipelines and terminals. Valero Energy and
its subsidiaries are investment grade customers; therefore, the Partnership does
not believe that the trade receivable from Valero Energy represents a
significant credit risk. However, the concentration of business with Valero
Energy, which is a large refining and retail marketing company, has the
potential to impact the Partnership's overall exposure, both positively and
negatively, to changes in the refining and marketing industry.
NOTE 13: RELATED PARTY TRANSACTIONS
The Partnership has related party transactions with Valero Energy for pipeline
tariff and terminalling fee revenues, certain employee costs, insurance costs,
administrative costs and interest expense (for the period from July 1, 2000
through April 15, 2001) on the debt due to parent. The receivable from parent as
of December 31, 2002 and 2001 represents the net amount due from Valero Energy
for these related party transactions and the net cash collected under Valero
Energy's centralized cash management program on the Partnership's behalf.
The following table summarizes transactions with Valero Energy:
--------------------------------------------------------------------------------------------
YEARS ENDED SIX MONTHS SIX MONTHS
DECEMBER 31, ENDED ENDED
------------------ DECEMBER 31, JUNE 30,
(IN THOUSANDS) 2002 2001 2000 2000
--------------------------------------------------------------------------------------------
Revenues................................... $117,804 $98,166 $47,210 $44,187
Operating expenses......................... 13,795 11,452 5,718 5,393
General and administrative expenses........ 5,921 5,200 2,600 2,839
Interest expense on debt due to parent..... -- 2,513 4,307 --
--------------------------------------------------------------------------------------------
SERVICES AGREEMENT
Effective July 1, 2000, UDS entered into a Services Agreement with the
Partnership, whereby UDS agreed to provide the corporate functions of legal,
accounting, treasury, engineering, information technology and other services for
an annual fee of $5,200,000 for a period of eight years. The $5,200,000 is
adjustable annually based on the Consumer Price Index published by the U.S.
Department of Labor, and may also be adjusted to take into account additional
service levels necessitated by the acquisition or construction of additional
assets. Concurrent with the acquisition of UDS by Valero Energy, Valero Energy
became the obligor under the Services Agreement. Management believes that the
$5,200,000 is a reasonable approximation of the general and administrative costs
related to the pipeline, terminalling and storage operations. This annual fee is
in addition to the incremental general and administrative costs to be incurred
from third parties for services Valero Energy does not provide under the
Services Agreement (see Note 14: Employee Benefit Plans).
The Services Agreement also requires that the Partnership reimburse Valero
Energy for various recurring costs of employees who work exclusively within the
pipeline, terminalling and storage operations and for certain other costs
incurred by Valero Energy relating solely to the Partnership. These employee
costs include salary, wage and benefit costs.
Prior to July 1, 2000, UDS allocated approximately 5% of its general and
administrative expenses incurred in the United States to its pipeline,
terminalling and storage operations to
F-42
cover costs of centralized corporate functions and other corporate services. A
portion of the allocated general and administrative costs is passed on to third
parties, which jointly own certain pipelines and terminals with the Partnership.
The net amount of general and administrative costs allocated to partners of
jointly owned pipelines totaled $661,000, $581,000, $251,000 and $249,000 for
the years ended December 31, 2002 and 2001, the six months ended December 31,
2000 and the six months ended June 30, 2000, respectively.
PIPELINES AND TERMINALS USAGE AGREEMENT
On April 16, 2001, UDS entered into a Pipelines and Terminals Usage Agreement
with the Partnership, whereby UDS agreed to use the Partnership's pipelines to
transport at least 75% of the crude oil shipped to and at least 75% of the
refined products shipped from Valero Energy's McKee, Three Rivers and Ardmore
refineries and to use the Partnership's refined product terminals for
terminalling services for at least 50% of all refined products shipped from
these refineries until at least April of 2008. Valero Energy also assumed the
obligation under the Pipelines and Terminals Usage Agreement in connection with
the acquisition of UDS by Valero Energy. For the year ended December 31, 2002,
Valero Energy used the Partnership's pipelines to transport 97% of its crude oil
shipped to and 80% of the refined products shipped from the McKee, Three Rivers
and Ardmore refineries, and Valero Energy used the Partnership's terminalling
services for 59% of all refined products shipped from these refineries.
If market conditions change with respect to the transportation of crude oil or
refined products, or to the end markets in which Valero Energy sells refined
products, in a material manner such that Valero Energy would suffer a material
adverse effect if it were to continue to use the Partnership's pipelines and
terminals at the required levels, Valero Energy's obligation to the Partnership
will be suspended during the period of the change in market conditions to the
extent required to avoid the material adverse effect.
OMNIBUS AGREEMENT
The Omnibus Agreement governs potential competition between Valero Energy and
the Partnership. Under the Omnibus Agreement, Valero Energy has agreed, and will
cause its controlled affiliates to agree, for so long as Valero Energy and its
affiliates control the general partner, not to engage in the business of
transporting crude oil or refined products including petrochemicals or operating
crude oil storage facilities or refined product terminals in the United States.
This restriction does not apply to:
- any business retained by UDS (and now part of Valero Energy) as of
April 16, 2001, the closing of the Partnership's initial public offering,
or owned by Valero Energy at the date of its acquisition of UDS on
December 31, 2001;
- any business with a fair market value of less than $10 million;
- any business acquired by Valero Energy that constitutes less than 50%
of the fair market value of a larger acquisition, provided the
Partnership has been offered and declined the opportunity to purchase the
business; and
- any newly constructed logistics assets that the Partnership has not
offered to purchase at fair market value within one year of construction.
Also under the Omnibus Agreement, Valero Energy has agreed to indemnify the
Partnership for environmental liabilities related to the assets transferred to
the Partnership in connection with the Partnership's initial public offering,
provided that such liabilities arose prior to and are
F-43
discovered within 10 years after that date (excluding liabilities resulting from
a change in law after April 16, 2001).
NOTE 14: EMPLOYEE BENEFIT PLANS
The Partnership, which has no employees, relies on employees of Valero Energy
and its affiliates to provide the necessary services to operate the
Partnership's assets. The Valero Energy employees who operate the Partnership's
assets are included in the various employee benefit plans of Valero Energy and
its affiliates. These plans include qualified, non-contributory defined benefit
retirement plans, defined contribution 401(k) plans, employee and retiree
medical, dental and life insurance plans, long-term incentive plans (i.e. unit
options and bonuses) and other such benefits.
The Partnership's share of allocated Valero Energy employee benefit plan
expenses, excluding the compensation expense related to the contractual rights
to receive common units, was $1,698,000, $1,346,000, $662,000 and $702,000 for
the years ended December 31, 2002 and 2001, the six months ended December 31,
2000 and the six months ended June 30, 2000, respectively. These employee
benefit plan expenses are included in operating expenses with the related
payroll costs.
LONG-TERM INCENTIVE PLAN
The Board of Directors of Valero GP, LLC, a wholly owned subsidiary of Valero
Energy and the general partner of Riverwalk Logistics, L.P., previously adopted
the "2000 Long-Term Incentive Plan" (the LTIP) under which Valero GP, LLC may
award up to 250,000 common units to certain key employees of Valero Energy's
affiliates providing services to Valero L.P. and to directors and officers of
Valero GP, LLC. Awards under the LTIP can include unit options, restricted
common units, distribution equivalent rights (DERs), contractual rights to
receive common units, etc.
Under the LTIP, in July of 2001, Valero GP, LLC granted 205 restricted common
units and DERs to each of its then two outside directors. The restricted common
units were to vest at the end of a three-year period and be paid in cash. The
DERs were to accumulate equivalent distributions that other Valero L.P.
unitholders receive over the vesting period. For the year ended December 31,
2001, the Partnership recognized $2,000 of compensation expense associated with
these restricted common units and DERs, which is included in other long-term
liabilities as of December 31, 2001. As a result of the change in control
related to Valero Energy's acquisition of UDS on December 31, 2001, the
restricted common units vested and the accrued amounts were paid to the
directors.
In January of 2002, under the LTIP, Valero GP, LLC granted 55,250 contractual
rights to receive common units and DERs to its officers, certain employees of
its affiliates and its outside directors. In conjunction with the grant of
contractual rights to receive common units under the LTIP, Valero L.P. issued
55,250 common units to Valero GP, LLC on January 21, 2002 for total
consideration of $2,262,000 (based on the then $40.95 market price per common
unit), the receivable for which is classified in equity in the consolidated
balance sheet as of December 31, 2002.
One-third of the contractual rights to receive common units awarded by Valero
GP, LLC will vest at the end of each year of a three-year vesting period.
Accordingly, the Partnership recognized $721,000 of compensation expense
associated with these contractual rights to
F-44
receive common units for the year ended December 31, 2002, including $11,000
related to payroll taxes.
NOTE 15: PARTNERS' EQUITY, ALLOCATIONS OF NET INCOME AND CASH DISTRIBUTIONS
PARTNERS' EQUITY
In addition to common units, Valero L.P. has issued and outstanding subordinated
units that are held by UDS Logistics, LLC, a wholly owned subsidiary of Valero
Energy and the limited partner of Riverwalk Logistics, L.P., and there is no
established public market for their trading.
In addition, all of the subordinated units may convert to common units on a
one-for-one basis on the first day following the record date for distributions
for the quarter ending December 31, 2005, if Valero L.P. meets the tests set
forth in the partnership agreement. If the subordination period ends, the rights
of the holders of subordinated units will no longer be subordinated to the
rights of the holders of common units and the subordinated units may be
converted into common units.
ALLOCATIONS OF NET INCOME
Valero L.P.'s partnership agreement, as amended, sets forth the calculation to
be used to determine the amount and priority of cash distributions that the
common unitholders, subordinated unitholders and general partner will receive.
The partnership agreement also contains provisions for the allocation of net
income and loss to the unitholders and the general partner. For purposes of
maintaining partner capital accounts, the partnership agreement specifies that
items of income and loss shall be allocated among the partners in accordance
with their respective percentage interests. Normal allocations according to
percentage interests are done after giving effect, if any, to priority income
allocations in an amount equal to incentive cash distributions allocated 100% to
the general partner.
CASH DISTRIBUTIONS
During the subordination period, the holders of the common units are entitled to
receive each quarter a minimum quarterly distribution of $0.60 per unit ($2.40
annualized) prior to any distribution of available cash to holders of the
subordinated units. The subordination period is defined generally as the period
that will end on the first day of any quarter beginning after March 31, 2006 if
(1) Valero L.P. has distributed at least the minimum quarterly distribution on
all outstanding units with respect to each of the immediately preceding three
consecutive, non-overlapping four-quarter periods and (2) Valero L.P.'s adjusted
operating surplus, as defined in the partnership agreement, during such periods
equals or exceeds the amount that would have been sufficient to enable Valero
L.P. to distribute the minimum quarterly distribution on all outstanding units
on a fully diluted basis and the related distribution on the 2% general partner
interest during those periods.
During the subordination period, Valero L.P.'s cash is distributed first 98% to
the holders of common units and 2% to the general partner until there has been
distributed to the holders of common units an amount equal to the minimum
quarterly distribution and arrearages in the payment of the minimum quarterly
distribution on the common units for any prior quarter. Secondly, cash is
distributed 98% to the holders of subordinated units and 2% to the general
partner until there has been distributed to the holders of subordinated units an
amount equal to the minimum quarterly distribution. Thirdly, cash in excess of
the minimum quarterly
F-45
distributions is distributed to the unitholders and the general partner based on
the percentages shown below.
The general partner is entitled to incentive distributions if the amount Valero
L.P. distributes with respect to any quarter exceeds specified target levels
shown below:
-----------------------------------------------------------------------------------
PERCENTAGE OF
DISTRIBUTION
---------------------
GENERAL
QUARTERLY DISTRIBUTION AMOUNT PER UNIT UNITHOLDERS PARTNER
-----------------------------------------------------------------------------------
Up to $0.60................................................. 98% 2%
Above $0.60 up to $0.66..................................... 90% 10%
Above $0.66 up to $0.90..................................... 75% 25%
Above $0.90................................................. 50% 50%
-----------------------------------------------------------------------------------
The following table reflects the allocation of total cash distributions to the
general and limited partners applicable to the period in which the distributions
are earned:
---------------------------------------------------------------------------------------------
YEAR ENDED APRIL 16 THROUGH
DECEMBER 31, DECEMBER 31,
(IN THOUSANDS, EXCEPT PER UNIT DATA) 2002 2001
---------------------------------------------------------------------------------------------
General partner interest.................................... $ 1,103 $ 667
General partner incentive distribution...................... 1,103 --
-------------------------------
Total general partner distribution....................... 2,206 667
Limited partnership units................................... 52,969 32,692
-------------------------------
Total cash distributions................................. $55,175 $33,359
-------------------------------
Total cash distributions per unit applicable to partners.... $ 2.75 $ 1.70
---------------------------------------------------------------------------------------------
F-46
NOTE 16: QUARTERLY FINANCIAL DATA (UNAUDITED)
------------------------------------------------------------------------------------------
FIRST SECOND THIRD FOURTH
(IN THOUSANDS, EXCEPT PER UNIT DATA) QUARTER QUARTER QUARTER QUARTER TOTAL
------------------------------------------------------------------------------------------
2002:
Revenues................................ $26,024 $30,030 $32,161 $30,243 $118,458
Operating income........................ 10,696 14,891 15,845 15,798 57,230
Net income(1)........................... 10,423 14,939 14,950 14,831 55,143
Net income per unit applicable to
limited partners..................... 0.50 0.76 0.72 0.74 2.72
Cash distributions per unit applicable
to limited partners.................. 0.65 0.70 0.70 0.70 2.75
2001:
Revenues................................ $23,422 $23,637 $26,857 $24,911 $ 98,827
Operating income........................ 10,361 10,319 13,430 12,395 46,505
Net income.............................. 8,786 10,356 13,771 12,960 45,873
Net income per unit applicable to
limited partners(2).................. -- 0.46 0.70 0.66 1.82
Pro forma net income per unit applicable
to limited partners(3)............... 0.45 0.53 0.70 0.66 2.34
Cash distributions per unit applicable
to limited partners(2)............... -- 0.50 0.60 0.60 1.70
------------------------------------------------------------------------------------------
(1) Net income for the first quarter of 2002 includes $650,000 (net of income
taxes of $395,000) for the Wichita Falls Business for the month ended January
31, 2002, which was allocated entirely to the general partner.
(2) Net income and cash distributions for the first quarter of 2001 and through
April 15, 2001 were allocated entirely to the general partner. Net income per
unit applicable to limited partners and cash distributions per unit applicable
to limited partners for the second quarter of 2001 are based on net income and
cash distributions from April 16, 2001 through June 30, 2001.
(3) Pro forma net income per unit applicable to limited partners for 2001 is
determined by dividing net income that would have been allocated to the common
and subordinated unitholders, which is 98% of net income, by the weighted
average number of common and subordinated units outstanding for the period from
April 16, 2001 through December 31, 2001. The 2% general partner allocation of
pro forma net income did not assume the effect of incentive distributions as
none were declared in 2001.
NOTE 17: SUBSEQUENT EVENTS
ACQUISITION OF TELFER ASPHALT TERMINAL AND STORAGE FACILITY
On January 7, 2003, the Partnership completed its acquisition of Telfer Oil
Company's (Telfer) California asphalt terminal and storage facility for
$15,000,000. The asphalt terminal and storage facility assets include two
storage tanks with a combined storage capacity of 350,000 barrels, six
5,000-barrel polymer modified asphalt tanks, a truck rack, rail facilities and
various other tanks and equipment. In conjunction with the Telfer asset
acquisition, the Partnership entered into a six-year Terminal Storage and
Throughput Agreement with Valero Energy. The agreement includes (a) a lease of
the asphalt storage tanks and related equipment for a monthly fee of $0.60 per
barrel of storage capacity, (b) the right to move asphalt through the terminal
during the term of the Terminal Storage and Throughput Agreement in
consideration for $1.25 per barrel of throughput with a guaranteed minimum
annual throughput of 280,000 barrels, and (c) reimbursement to the Partnership
of certain costs, including utilities.
The Partnership will account for the Telfer acquisition as a purchase of a
business in accordance with FASB Statement No. 141 and allocate the purchase
price to the individual asset and
F-47
liabilities acquired based on their fair value on January 7, 2003. A portion of
the purchase price represented payment to the principal owner of Telfer for a
non-compete agreement and for the lease of certain facilities adjacent to the
terminal operations.
UNITS ISSUED UNDER LTIP
On January 24, 2003, under the LTIP, Valero GP, LLC granted 30,000 contractual
rights to receive common units and DERs to its officers and directors, excluding
the outside directors. In conjunction with the grant of contractual rights to
receive common units under the LTIP, Valero GP, LLC purchased 30,000 newly
issued Valero L.P. common units from Valero L.P. for total consideration of
$1,149,000. Also in January of 2003, one-third of the previously issued
contractual rights vested and Valero GP, LLC distributed actual Valero L.P.
common units to the officers and directors. Certain of the officers and
directors settled their tax withholding on the vested common units by delivering
6,491 common units to Valero GP, LLC. As of February 1, 2003, Valero GP, LLC
owns 73,319 common units of Valero L.P.
DISTRIBUTIONS
On January 24, 2003, the Partnership declared a quarterly distribution of $0.70
per unit payable on February 14, 2003 to unitholders of record on February 5,
2003. This distribution related to the fourth quarter of 2002 and totaled
$14,121,000, of which $622,000 represented the general partner's share of such
distribution. The general partner's distribution included a $340,000 incentive
distribution.
INTEREST RATE SWAP
On February 14, 2003, Valero Logistics entered into an interest rate swap
agreement to manage its exposure to changes in interest rates. The interest rate
swap has a notional amount of $60,000,000 and is tied to the maturity of the
6.875% senior notes. Under the terms of the interest rate swap agreement, the
Partnership will receive a fixed 6.875% rate and will pay a floating rate based
on LIBOR plus 2.45%. The Partnership will account for the interest rate swap as
a fair value hedge, with changes in the fair value recorded as an adjustment to
interest expense in the consolidated statement of income.
AMENDED REVOLVING CREDIT FACILITY
On March 6, 2003, Valero Logistics entered into an amended revolving credit
facility with the various banks included in the existing facility and from a
group of new banks to increase the revolving credit facility to $175,000,000. In
addition to increasing the aggregate amount available under the facility, the
amount that may be borrowed to fund distributions to unitholders was increased
from $25,000,000 to $40,000,000. No other significant terms and conditions of
the revolving credit facility were changed, except that the "Total Debt to
EBITDA Ratio" as defined in the revolving credit facility was changed such that
the ratio may not exceed 4.0 to 1.0 (as opposed to 3.0 to 1.0 in the original
facility), and Valero L.P. is now irrevocably and unconditionally guaranteeing
the revolving credit facility. This guarantee by Valero L.P. ranks equally with
all of its existing and future unsecured senior obligations.
REDEMPTION OF COMMON UNITS AND AMENDMENT TO THE PARTNERSHIP AGREEMENT
Valero L.P. intends to redeem from UDS Logistics a number of Valero L.P. common
units sufficient to reduce Valero Energy's aggregate ownership interest in
Valero L.P. to 49.5% or
F-48
less, including Riverwalk Logistics' 2% general partner interest. Valero L.P.
intends to redeem the common units with the proceeds from debt financings, which
are expected to be completed in the first quarter of 2003.
In addition to the redemption of common units, Valero L.P. intends to amend its
partnership agreement to provide that the general partner may be removed by the
vote of the holders of at least 58% of its outstanding units, excluding the
common and subordinated units held by affiliates of the general partner.
ASSET CONTRIBUTION TRANSACTIONS
On March 6, 2003, the Partnership entered into the following contribution
agreements:
- Affiliates of Valero Energy intend to contribute to the Partnership
certain crude oil and other feedstock tank assets located at Valero
Energy's West plant of the Corpus Christi refinery, Texas City refinery
and Benicia refinery to Valero Logistics in exchange for an aggregate
amount of $200,000,000 in cash; and
- Affiliates of Valero Energy intend to contribute to the Partnership
certain refined product pipelines and refined product terminals connected
to Valero Energy's Corpus Christi and Three Rivers refineries (referred
to as the South Texas Pipelines and Terminals) in exchange for an
aggregate amount of $150,000,000 in cash.
The contribution transactions are expected to close in March 2003 and are
conditioned upon the ability of the Partnership to obtain equity and debt
financing in sufficient amounts.
F-49
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of
Valero Energy Corporation
We have audited the accompanying balance sheet of the Valero South Texas
Pipeline and Terminal Business as of December 31, 2002, and the related
statements of income, cash flows, and changes in net parent investment for the
year then ended. These financial statements are the responsibility of Valero
Energy Corporation's management. Our responsibility is to express an opinion on
these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of the Valero South Texas Pipeline
and Terminal Business as of December 31, 2002 and the results of its operations
and its cash flows for the year then ended in conformity with accounting
principles generally accepted in the United States.
/s/ ERNST & YOUNG LLP
San Antonio, Texas
March 6, 2003
F-50
VALERO SOUTH TEXAS PIPELINE AND TERMINAL BUSINESS
BALANCE SHEET
--------------------------------------------------------------------------
DECEMBER 31,
(IN THOUSANDS) 2002
--------------------------------------------------------------------------
ASSETS
CURRENT ASSETS:
Accounts receivable...................................... $ 300
Other current assets..................................... 1,370
------------
TOTAL CURRENT ASSETS.................................. 1,670
------------
Property, plant and equipment............................... 112,873
Less accumulated depreciation and amortization.............. (5,367)
------------
Property, plant and equipment, net....................... 107,506
------------
TOTAL ASSETS.......................................... $109,176
------------
LIABILITIES AND NET PARENT INVESTMENT
CURRENT LIABILITIES:
Accounts payable and accrued liabilities................. $ 3,243
Taxes other than income taxes............................ 322
------------
TOTAL CURRENT LIABILITIES............................. 3,565
Long-term capital lease obligation.......................... 99,280
Deferred income tax liabilities............................. 16,703
Net parent investment....................................... (10,372)
------------
TOTAL LIABILITIES AND NET PARENT INVESTMENT........... $109,176
--------------------------------------------------------------------------
See accompanying notes to the financial statements.
F-51
VALERO SOUTH TEXAS PIPELINE AND TERMINAL BUSINESS
STATEMENT OF INCOME
--------------------------------------------------------------------------
YEAR ENDED
DECEMBER 31,
(IN THOUSANDS) 2002
--------------------------------------------------------------------------
REVENUES.................................................... $27,897
------------
COSTS AND EXPENSES:
Operating expenses....................................... 15,780
General and administrative expenses...................... 820
Depreciation and amortization............................ 3,390
------------
TOTAL COSTS AND EXPENSES.............................. 19,990
------------
OPERATING INCOME............................................ 7,907
Interest expense......................................... (7,743)
------------
INCOME BEFORE INCOME TAX EXPENSE............................ 164
Income tax expense....................................... 66
------------
NET INCOME.................................................. $ 98
--------------------------------------------------------------------------
See accompanying notes to the financial statements.
F-52
VALERO SOUTH TEXAS PIPELINE AND TERMINAL BUSINESS
STATEMENT OF CASH FLOWS
--------------------------------------------------------------------------
YEAR ENDED
DECEMBER 31,
(IN THOUSANDS) 2002
--------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income.................................................. $ 98
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization............................ 3,390
Accretion of capital lease obligation.................... 1,457
Deferred income taxes.................................... 66
Changes in operating assets and liabilities:
Decrease in accounts receivable....................... 642
Decrease in other current assets...................... 104
Increase in accounts payable and accrued
liabilities.......................................... 1,015
Increase in taxes other than income taxes............. 243
------------
NET CASH PROVIDED BY OPERATING ACTIVITIES....... 7,015
------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Maintenance capital expenditures............................ (843)
Expansion capital expenditures.............................. (1,235)
------------
NET CASH USED IN INVESTING ACTIVITIES........... (2,078)
------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net cash repayments to parent............................... (4,937)
------------
NET CASH USED IN FINANCING ACTIVITIES........... (4,937)
------------
NET INCREASE IN CASH........................................ --
CASH AT BEGINNING OF PERIOD................................. --
------------
CASH AT END OF PERIOD....................................... $ --
------------
INTEREST PAID............................................... $ 6,286
--------------------------------------------------------------------------
See accompanying notes to the financial statements.
F-53
VALERO SOUTH TEXAS PIPELINE AND TERMINAL BUSINESS
STATEMENT OF CHANGES IN NET PARENT INVESTMENT
--------------------------------------------------------------------------
YEAR ENDED
DECEMBER 31,
(IN THOUSANDS) 2002
--------------------------------------------------------------------------
BALANCE AS OF JANUARY 1, 2002............................... $ (5,533)
Net income............................................... 98
Net cash repayments to parent............................ (4,937)
------------
BALANCE AS OF DECEMBER 31, 2002............................. $(10,372)
--------------------------------------------------------------------------
See accompanying notes to the financial statements.
F-54
VALERO SOUTH TEXAS PIPELINE AND TERMINAL BUSINESS
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2002
NOTE 1: BUSINESS DESCRIPTION
Valero Energy Corporation (Valero Energy), through capital lease agreements
entered into with certain wholly owned subsidiaries of El Paso Corporation (El
Paso) effective June 1, 2001, leases and operates certain pipeline and terminal
assets in south Texas, referred to herein as the South Texas Pipeline and
Terminal Business (the Business). The Business is comprised of three intrastate
common carrier pipelines and related terminalling assets. The three pipeline
systems connect Valero Energy's refineries in Corpus Christi and Three Rivers,
Texas to the Houston, San Antonio and Rio Grande Valley, Texas markets. Each of
the three pipelines are subject to regulation by the Texas Railroad Commission.
These regulations include rate regulations, which govern the tariff rates
charged to pipeline customers for transportation through a pipeline. Tariff
rates for each pipeline are required to be filed with the Texas Railroad
Commission upon completion of a pipeline and when a tariff is being revised. In
addition, the regulations include annual reporting requirements for each
pipeline.
The Business consists of the following assets:
- The Houston Pipeline, a 204-mile pipeline originating in Corpus
Christi, Texas and ending in the Houston ship channel area of Pasadena,
Texas. The pipeline has the capacity to transport 105,000 barrels per day
of refined product produced at Valero's Corpus Christi refinery and third
party refineries located in Corpus Christi.
- The San Antonio pipeline which is comprised of two segments: the north
segment, which runs from Pettus, Texas to San Antonio and the south
segment which runs from Pettus, Texas to Corpus Christi. The north
segment is 74 miles long and has a capacity of 24,000 barrels per day.
This segment ends in San Antonio at the San Antonio terminal. The south
segment is 60 miles long and has a capacity of 15,000 barrels per day and
ends at Valero Energy's Corpus Christi refinery.
- The Valley Pipeline, a 130-mile pipeline originating in Corpus Christi
and ending at Edinburg, Texas. The pipeline has the capacity to transport
27,100 barrels per day of refined products produced at Valero's Corpus
Christi refinery.
- A terminal located near Victoria, Texas with a storage capacity of
98,000 barrels.
- A terminal located in San Antonio, Texas with a storage capacity of
148,200 barrels.
- A terminal located in Edinburg, Texas with a storage capacity of
184,600 barrels.
- Three terminals located in Houston, Texas with a total capacity of
212,900 barrels of refined product storage and 75,000 barrels of asphalt
storage.
NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation: These audited financial statements have been prepared in
accordance with United States generally accepted accounting principles and
include all adjustments considered necessary for a fair presentation. The
financial statements represent a carve-out
F-55
financial statement presentation of the operations of the Business and reflect
Valero Energy's historical cost basis as of and for the year ended December 31,
2002.
On February 27, 2003, Valero Energy's Board of Directors approved the
contribution of certain assets and liabilities of the Business to Valero L.P., a
publicly traded limited partnership in which Valero Energy currently owns an
approximate 73.6% interest, in exchange for a cash amount of $150 million. These
financial statements do not include any adjustments that might result from the
transfer of the Business.
The financial statements include allocations and estimates of direct and
indirect Valero Energy general and administrative costs attributable to the
operations of the Business. In addition, the majority of the Business' revenues
are derived from transportation services provided to Valero Energy, the
Business' primary customer. Management believes that the assumptions, estimates
and allocations used to prepare these financial statements are reasonable.
However, the allocations may not necessarily be indicative of the costs and
expenses that would have resulted if the Business had been operated as a
separate entity.
The Business' results of operations may be affected by seasonal factors, such as
the demand for petroleum products, which vary during the year, or industry
factors that may be specific to a particular period, such as industry supply
capacity and refinery turnarounds.
Use of Estimates: The preparation of financial statements in accordance with
United States generally accepted accounting principles requires management to
make estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates. On an ongoing basis, management reviews their estimates based on
currently available information. Changes in facts and circumstances may result
in revised estimates.
Property, Plant and Equipment: Property, plant and equipment is stated at cost.
Additions to property, plant and equipment, including maintenance and expansion
capital expenditures and capitalized interest, are recorded at cost. Maintenance
capital expenditures represent capital expenditures to replace partially or
fully depreciated assets to maintain the existing operating capacity of existing
assets and extend their useful lives. Expansion capital expenditures represent
capital expenditures to expand the operating capacity of existing assets,
whether through construction or acquisition. Repair and maintenance expenses
associated with existing assets that are minor in nature and do not extend the
useful life of existing assets are charged to operating expenses as incurred.
Depreciation and amortization is provided principally using the straight-line
method over the estimated useful lives of the related assets.
Impairment of Long-Lived Assets: Long-lived assets are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount
may not be recoverable. The evaluation of recoverability is performed using
undiscounted estimated net cash flows generated by the related asset. If an
asset is deemed to be impaired, the amount of impairment is determined as the
amount by which the net carrying value exceeds discounted estimated net cash
flows.
Environmental Remediation Costs: Environmental remediation costs are expensed
and an associated accrual established when site restoration and environmental
remediation and cleanup obligations are either known or considered probable and
can be reasonably estimated. Accrued liabilities are not discounted to present
value and are not reduced by possible recoveries from third parties.
Environmental costs include initial site surveys, costs for remediation and
restoration, and ongoing monitoring costs, as well as fines, damages and
F-56
other costs, when estimable. Adjustments to initial estimates are recorded, from
time to time, to reflect changing circumstances and estimates based upon
additional information developed in subsequent periods. See Note 8 regarding
certain environmental liabilities retained by El Paso and Valero Energy.
Net Parent Investment: The net parent investment represents a net balance as the
result of various transactions between the Business and Valero Energy. The
balance is the result of the Business' participation in Valero Energy's
centralized cash management program under which all of the Business' cash
receipts were remitted to and all cash disbursements were funded by Valero
Energy. Other transactions affecting the net parent investment include
intercompany transportation and terminalling revenues and related expenses,
administrative and support expenses incurred by Valero Energy and allocated to
the Business, and income taxes. There are no terms of settlement or interest
charges associated with the net parent investment balance.
Revenue Recognition: Revenues are derived from pipeline transportation and
terminalling of refined products. Transportation revenues (based on pipeline
tariff rates) are recognized as refined products are transported through the
pipeline. Rate regulations govern the tariff rates charged to pipeline
customers. Terminalling revenues are recognized as refined products are moved
out of the terminal and as additives are blended with refined products.
Operating Expenses: Operating expenses consist primarily of fuel and power
costs, telecommunication costs, labor costs of pipeline field and support
personnel, maintenance, utilities and insurance. Such expenses are recognized as
incurred.
Federal and State Income Taxes: Income taxes are accounted for under the asset
and liability method. Under this method, deferred income tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases. Deferred amounts are measured
using enacted tax rates expected to apply to taxable income in the year those
temporary differences are expected to be recovered or settled.
Historically, the Business' results have been included in the consolidated
federal income tax returns filed by Valero Energy and have been included in
state income tax returns of subsidiaries of Valero Energy. The income tax
provision in the statement of income represents the current and deferred income
taxes that would have resulted if the Business were a stand-alone taxable entity
filing its own income tax returns. Accordingly, the calculations of the income
tax provision and deferred income taxes necessarily require certain assumptions,
allocations and estimates which management believes are reasonable to reflect
the tax reporting for the Business as a stand-alone taxpayer.
Interest Expense: Interest expense consists of interest incurred on capital
lease obligations.
Comprehensive Income: The Business has reported no comprehensive income due to
the absence of items of other comprehensive income in the period presented.
Segment Disclosures: The Business operates in only one segment, the petroleum
pipeline segment of the oil and gas industry.
Derivative Instruments and Hedging Activities: The Business currently does not
hold or trade derivative instruments.
F-57
NEW ACCOUNTING PRONOUNCEMENT
In June 2001, the Financial Accounting Standards Board issued Statement No. 143,
"Accounting for Asset Retirement Obligations." This statement establishes
standards for accounting for an obligation associated with the retirement of a
tangible long-lived asset. An asset retirement obligation should be recognized
in the financial statements in the period in which it meets the definition of a
liability as defined in FASB Concepts Statement No. 6, "Elements of Financial
Statements." The amount of the liability would initially be measured at fair
value. Subsequent to initial measurement, an entity would recognize changes in
the amount of the liability resulting from (a) the passage of time and (b)
revisions to either the timing or amount of estimated cash flows. Statement No.
143 also establishes standards for accounting for the cost associated with an
asset retirement obligation. It requires that, upon initial recognition of a
liability for an asset retirement obligation, an entity capitalize that cost by
recognizing an increase in the carrying amount of the related long-lived asset.
The capitalized asset retirement cost would then be allocated to expense using a
systematic and rational method. Statement No. 143 will be effective for
financial statements issued for fiscal years beginning after June 15, 2002, with
earlier application encouraged. The Business is currently evaluating the impact
of adopting this new statement, however, at the present time does not believe
the statement will have a material impact on its financial position or results
of operations.
NOTE 3: PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment, which primarily represents assets leased from El
Paso under capital leases, consisted of the following:
-----------------------------------------------------------------------------------------
ESTIMATED DECEMBER 31,
(IN THOUSANDS) USEFUL LIVES 2002
-----------------------------------------------------------------------------------------
(YEARS
Land........................................................ -- $ 1,146
Pipelines, terminals and related buildings and equipment.... 16 - 33 97,419
Rights of way............................................... 33 11,708
Construction in progress.................................... -- 2,600
--------
Total.................................................... 112,873
Accumulated depreciation and amortization................... (5,367)
--------
Property, plant and equipment, net....................... $107,506
-----------------------------------------------------------------------------------------
As of December 31, 2002, assets held under capital lease had a net book value of
$104.9 million, net of accumulated amortization of $5.4 million.
NOTE 4: INCOME TAXES
The amounts presented below relate only to the Business and were calculated as
if the Business filed separate federal and state income tax returns.
F-58
The provision for income taxes consisted of the following:
--------------------------------------------------------------------------
YEAR ENDED
DECEMBER 31,
(IN THOUSANDS) 2002
--------------------------------------------------------------------------
Deferred:
Federal.................................................. $57
State.................................................... 9
------------
Total deferred........................................ 66
------------
Provision for income taxes.................................. $66
--------------------------------------------------------------------------
Deferred income taxes arise from temporary differences between the tax bases of
assets and liabilities and their reported amounts in the Business' financial
statements. The components of the Business' net deferred income tax liabilities
consisted of the following:
--------------------------------------------------------------------------
DECEMBER 31,
(IN THOUSANDS) 2002
--------------------------------------------------------------------------
Deferred income tax assets:
Net operating loss carry-forward......................... $ 1,633
------------
Total deferred income tax assets...................... 1,633
------------
Deferred income tax liabilities:
Property, plant and equipment............................ 18,298
Other liabilities........................................ 38
------------
Total deferred income tax liabilities................. 18,336
------------
Net deferred income tax liabilities......................... $16,703
--------------------------------------------------------------------------
The differences between the Business' effective income tax rate and the U.S.
federal statutory rate is reconciled as follows:
--------------------------------------------------------------------------
YEAR ENDED
DECEMBER 31,
2002
--------------------------------------------------------------------------
U.S. federal statutory rate................................. 35.00%
State income taxes (net of federal tax benefit)............. 5.24
------------
Effective income tax rate................................ 40.24%
--------------------------------------------------------------------------
NOTE 5: RELATED-PARTY TRANSACTIONS
Transactions between the Business and Valero Energy included pipeline tariff and
terminal throughput revenues received by the Business from Valero Energy and the
allocation of salary and employee benefit costs, insurance costs, and
administrative fees from Valero Energy to the Business. Such transactions cannot
be presumed to be carried out on an arm's length basis as the requisite
conditions of competitive, free-market dealings may not exist. For purposes of
these financial statements, payables and receivables related to transactions
between the Business and Valero Energy are included as a component of the net
parent investment.
F-59
The Business participated in Valero Energy's centralized cash management program
under which cash receipts and cash disbursements were processed through Valero
Energy's cash accounts with a corresponding credit or charge to an intercompany
account. This intercompany account is included in the net parent investment
balance.
During the year ended December 31, 2002, Valero Energy provided the Business
with certain general and administrative services, including the centralized
corporate functions of legal, accounting, treasury, environmental, engineering,
information technology, and human resources. For these services, Valero Energy
charged the Business approximately 0.5% of its total general and administrative
expenses incurred in the United States, with this allocation based on
investments in property and personnel headcount. Management believes that the
amount of general and administrative expenses allocated to the Business is a
reasonable approximation of the costs related to the Business.
The following table summarizes transactions between the Business and Valero:
--------------------------------------------------------------------------
YEAR ENDED
DECEMBER 31,
(IN THOUSANDS) 2002
--------------------------------------------------------------------------
Revenues.................................................... $25,801
Operating expenses.......................................... 3,606
General and administrative expenses......................... 820
--------------------------------------------------------------------------
NOTE 6: EMPLOYEE BENEFIT PLANS
Employees who work in the Business are included in the various employee benefit
plans of Valero Energy. These plans include qualified, non-contributory defined
benefit retirement plans, defined contribution 401(k) plans, employee and
retiree medical, dental and life insurance plans, long-term incentive plans
(i.e., stock options and bonuses) and other such benefits. For the purposes of
these carve-out financial statements, the Business is considered to be
participating in multi-employer benefit plans of Valero Energy.
The Business' allocated share of Valero Energy employee benefit plan expenses
were $501,000 for the year ended December 31, 2002. These employee benefit plan
expenses are included in operating expenses with the related payroll costs.
NOTE 7: LEASES
In connection with the capital lease agreements with El Paso discussed in Note
1, approximately $97,024,000 of capital lease obligation was attributed to the
Business as of June 1, 2001. The lease agreements are for a term of 20 years and
require Valero Energy to make total annual lease payments of $18.5 million for
each of the first two years and increasing amounts thereafter. Approximately
$6.3 million of those annual lease payments are attributable to the Business. As
payments during the first two years of the capital lease term were less than
interest incurred during that period, the capital lease obligation has increased
since June 1, 2001. Accretion for the year ended December 31, 2002 and since the
inception of
F-60
the lease was $1,457,000 and $2,143,000, respectively. The Business' future
minimum lease payments under the capital lease with El Paso are as follows (in
thousands):
Minimum lease payments...................................... $102,537
Less interest expense.................................... (3,257)
--------
Capital lease obligation.................................... $ 99,280
----------------------------------------------------------------------
Valero Energy has the option to purchase the facilities at the end of the second
year of the lease and for increasing amounts each succeeding year through the
end of the lease term. The minimum lease payments above represent payments from
January 1, 2003 through June 1, 2003 (the purchase option date) plus the amount
of the purchase option. See the discussion regarding the exercise of that option
in Note 10, "Subsequent Events".
In addition, the Business leases certain equipment and vehicles under operating
lease agreements expiring through 2007. Future minimum rental payments
applicable to noncancellable operating leases as of December 31, 2002, are as
follows (in thousands):
2003........................................................ $ 91
2004........................................................ 90
2005........................................................ 89
2006........................................................ 54
2007........................................................ 9
----
Future minimum lease payments............................ $333
------------------------------------------------------------------
Rental expense for all operating leases totaled $80,000 for the year ended
December 31, 2002.
NOTE 8: ENVIRONMENTAL MATTERS
The operations of the Business are subject to environmental laws and regulations
adopted by various federal, state and local governmental authorities in the
jurisdictions in which it operates. Although management believes its operations
are in general compliance with applicable environmental regulations, risks of
additional costs and liabilities are inherent in the petroleum pipeline
industry, and there can be no assurance that significant costs and liabilities
will not be incurred. Moreover, it is possible that other developments, such as
increasingly stringent environmental laws and regulations and enforcement
policies thereunder, and claims for damages to property or persons resulting
from the operations, could result in substantial costs and liabilities.
Accordingly, the Business has adopted policies, practices and procedures in the
areas of pollution control, product safety, occupational health and the
handling, storage, use and disposal of hazardous materials to prevent material
environmental or other damage, and to limit the financial liability which could
result from those events. However, some risk of environmental or other damage is
inherent in the Business, as it is with other companies engaged in similar
businesses.
In connection with Valero Energy's lease of the El Paso assets, Valero Energy
assumed all environmental liabilities related to the facilities with certain
exceptions. El Paso retained liabilities for, and agreed to indemnify Valero
Energy against (a) all environmental claims and costs related to offsite
hazardous materials on or under certain adjacent properties, and all claims and
costs pertaining to offsite environmental conditions arising under the
requirements of an agreed final judgment dated April 1, 1998 between the State
of Texas and Coastal Refining and Marketing, Inc. (a subsidiary of El Paso), (b)
any environmental claim or cost related to the transportation or offsite
disposal of any hazardous substance related to the
F-61
facilities prior to June 1, 2001, (c) bodily injury and property damage
resulting from exposure to or contamination by hazardous materials arising from
El Paso's operation and use of the facilities prior to June 1, 2001, and (d)
environmental claims and costs relating to the presence of hazardous materials
resulting from El Paso's continued use of its assets that are located at or
adjacent to the site of the facilities leased by Valero Energy. El Paso also
retained liabilities for any pre-existing orders, judgments or citations that El
Paso failed to disclose prior to June 1, 2001. Valero Energy's assumed
liabilities include certain environmental remediation obligations relating
primarily to soil and groundwater contamination at the leased facilities. These
assumed liabilities are monitored by a corporate environmental area which is
responsible for determining the propriety of any payments or adjustments to
accruals related to the liabilities that arose prior to the inception of the
lease with El Paso. These assumed environmental liabilities are considered the
responsibility of Valero Energy, rather than the Business, and thus are not
included in these financial statements. Liabilities pertaining to the Business
arising subsequent to the inception of the lease are the responsibility of the
Business and such costs are charged to the Business. However, no liabilities
have arisen since the inception of the lease, and thus no environmental
liability is reflected in the balance sheet as of December 31, 2002.
NOTE 9: CONTINGENCIES AND COMMITMENTS
There are various legal proceedings and claims pending against the Business
which arise in the ordinary course of business. It is management's opinion,
based upon advice of counsel, that these matters, individually or in the
aggregate, will not have a material adverse effect on the results of operations
or financial position of the Business.
NOTE 10: SUBSEQUENT EVENT
On February 28, 2003, Valero exercised its option to purchase from El Paso the
refinery in Corpus Christi and the related South Texas pipeline and terminalling
assets that it had been leasing and operating since June 1, 2001. These assets
were purchased for an aggregate consideration of approximately $289.3 million.
Effective March 1, 2003, the impact of volumetric variances in the pipelines
will be borne by the shippers in the Business' pipelines. The net reduction to
income before income tax expense of volumetric variances in the pipelines was
$636,000 for the year ended December 31, 2002.
F-62
(VALERO L.P. LOGO)
VALERO LOGISTICS OPERATIONS, L.P.
UNTIL , 2003, ALL DEALERS THAT EFFECT TRANSACTIONS IN THE EXCHANGE
NOTES, WHETHER OR NOT PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER
A PROSPECTUS. THIS IS IN ADDITION TO THE DEALERS' OBLIGATION TO DELIVER A
PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD
ALLOTMENTS OR SUBSCRIPTIONS.
PART II
INFORMATION NOT REQUIRED IN THE PROSPECTUS
ITEM 20. INDEMNIFICATION OF DIRECTORS AND OFFICERS
The partnership agreements of each of Valero L.P. and Valero Logistics
Operations, L.P. provide that each partnership, as applicable, will, to the
fullest extent permitted by law, indemnify and advance expenses to its
respective general partner, any Departing Partner (as defined therein), any
person who is or was an affiliate of its respective general partner or any
Departing Partner, any person who is or was an officer, director, employee,
partner, agent or trustee of such general partner or any Departing Partner or
any affiliate of such general partner or any Departing Partner, or any person
who is or was serving at the request of such general partner or any affiliate of
their general partner or any Departing Partner or any affiliate of any Departing
Partner as an officer, director, employee, partner, agent or trustee of another
person ("Indemnitees") from and against any and all losses, claims, damages,
liabilities (joint or several), expenses (including legal fees and expenses),
judgments, fines, settlements and other amounts arising from any and all claims,
demands, actions, suits or proceedings, whether civil, criminal, administrative
or investigative, in which any Indemnitee may be involved, or is threatened to
be involved, as a party or otherwise, by reason of its status as general
partner, Departing Partner or an affiliate of either, an officer, director,
employee, partner, agent or trustee of the respective general partner, any
Departing Partner or affiliate of either or a person serving at the request of
the respective partnership in another entity in a similar capacity, provided
that in each case the Indemnitee acted in good faith and in a manner which such
Indemnitee reasonably believed to be in or not opposed to the best interests of
the respective partnership. This indemnification would under certain
circumstances include indemnification for liabilities under the Securities Act.
In addition, each Indemnitee would automatically be entitled to the advancement
of expenses in connection with the foregoing indemnification. Any
indemnification under these provisions will be only out of the assets of the
respective partnership.
Each of Valero L.P. and Valero Logistics Operations, L.P. are authorized to
purchase (or to reimburse the respective general partners for the costs of)
insurance against liabilities asserted against and expenses incurred by the
persons described in the paragraph above in connection with their activities,
whether or not they would have the power to indemnify such person against such
liabilities under the provisions described in the paragraph above. Each general
partner has purchased insurance, the cost of which is reimbursed by Valero L.P.,
covering its officers and directors against liabilities asserted and expenses
incurred in connection with their activities as officers and directors of the
general partner or any of its direct or indirect subsidiaries.
The limited liability company agreement of Valero GP, LLC provides that Valero
GP, LLC will, to the fullest extent permitted or required by the Delaware
Limited Liability Company Act, indemnify and advance expenses to any person who
is or was a director or an officer of Valero GP, LLC or is or was serving at the
request of Valero GP, LLC as a director, officer, employee, or agent of another
person (each a "Valero GP Indemnitee") against all expense, liability and loss
(including attorney's fees, judgments, fines, ERISA excise taxes or penalties
and amounts paid in settlement) reasonably incurred or suffered by such Valero
GP Indemnitee in connection with any action, suit or proceeding, whether civil,
criminal, administrative, or investigative, in which any Valero GP Indemnitee
may be involved, or is threatened to be involved, as a party or otherwise, by
reason of the person's status as a director, officer, employee or agent,
provided
Part II-1
that, except with respect to proceedings to enforce rights of indemnification,
Valero GP, LLC will indemnify a Valero GP Indemnitee in connection with a
proceeding initiated by such person only if the proceeding was authorized by the
board of directors of Valero GP, LLC.
Valero GP, LLC is authorized to purchase insurance against liabilities asserted
against and expenses incurred by the persons described in the paragraph above in
connection with their activities, whether or not it would have the power to
indemnify such person against such liabilities under the provisions described in
the paragraph above. Valero Energy has purchased insurance, the cost of which is
reimbursed by Valero L.P., covering its officers and directors against
liabilities asserted and expenses incurred in connection with their activities
as officers and directors of Valero GP, LLC or any of its direct or indirect
subsidiaries.
ITEM 21. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
(a) Exhibits
The following instruments and documents are included as exhibits to this
registration statement.
EXHIBIT
NUMBER EXHIBIT
------- -------
*3.1 Certificate of Limited Partnership of Valero Logistics
Operations, L.P. (Exhibit 3.4 to Valero L.P.'s Registration
Statement on Form S-1 (File No. 333-43668) filed August 14,
2000).
*3.2 Certificate of Amendment to Certificate of Limited
Partnership of Valero Logistics Operations, L.P. (Exhibit
3.5 to Valero L.P.'s Registration Statement on Form S-1
(File No. 333-43668) filed August 14, 2000).
*3.3 Amended and Restated Certificate of Limited Partnership of
Valero Logistics Operations, L.P. (Exhibit 3.8 to Valero
L.P.'s Annual Report on Form 10-K filed March 26, 2002).
*3.4 Certificate of Limited Partnership of Valero L.P. (Exhibit
3.1 to Valero L.P.'s Registration Statement on Form S-1
(File No. 333-43668) filed August 14, 2000).
*3.5 Certificate of Amendment to Certificate of Limited
Partnership of Valero L.P. (Exhibit 3.2 to Valero L.P.'s
Registration Statement on Form S-1 (File No. 333-43668)
filed August 14, 2000).
*3.6 Amended and Restated Certificate of Limited Partnership of
Valero L.P. (Exhibit 3.3 to Valero L.P.'s Annual Report on
Form 10-K filed March 26, 2002).
*3.7 Second Amended and Restated Agreement of Limited Partnership
of Valero Logistics Operations, L.P., dated as of April 16,
2001, by and among Riverwalk Logistics, L.P., as the General
Partner, the Organizational Limited Partner, and Valero
L.P., as the Limited Partner (Exhibit 3.9 to Valero L.P.'s
Annual Report on Form 10-K filed March 26, 2002).
*3.8 First Amendment to Second Amended and Restated Agreement of
Limited Partnership of Valero Logistics Operations, L.P.,
effective as of April 16, 2001, among Riverwalk Logistics,
L.P., the Organizational Limited Partner, and Shamrock
Logistics, L.P. (Exhibit 4.1 to Valero L.P.'s Quarterly
Report on Form 10-Q filed August 14, 2001).
*3.9 Second Amendment to Second Amended and Restated Agreement of
Limited Partnership of Valero Logistics Operations, L.P.,
dated as of January 7, 2002, by and among Riverwalk
Logistics, L.P. as General Partner of the Partnership, and
the Limited Partners of the Partnership, as provided therein
(Exhibit 3.10 to Valero L.P.'s Annual Report on Form 10-K
filed March 26, 2002).
*3.10 Reorganization Agreement dated as of May 30, 2002, by and
among Valero Logistics Operations, L.P., Valero L.P.,
Riverwalk Logistics, L.P. and Valero GP, Inc. (Exhibit 99.1
to Valero L.P.'s Current Report on Form 8-K filed June 5,
2002).
*3.11 Third Amended and Restated Agreement of Limited Partnership
of Valero L.P. (Exhibit 3.1 to Valero L.P.'s Quarterly
Report on Form 10-Q filed May 9, 2003).
Part II-2
EXHIBIT
NUMBER EXHIBIT
------- -------
*4.1 Indenture, dated July 15, 2002, between Valero Logistics
Operations, L.P., as Issuer, Valero L.P., as Guarantor, and
the Bank of New York, as Trustee, relating to our Senior
Debt Securities (Exhibit 4.1 to Valero L.P.'s Current Report
on Form 8-K filed July 15, 2002).
*4.2 First Supplemental Indenture, dated as of July 15, 2002,
between Valero Logistics Operations, L.P., as Issuer, Valero
L.P., as Guarantor, and The Bank of New York, as Trustee,
relating to our 6 7/8% Senior Notes due 2012 (Exhibit 4.2 to
Valero L.P.'s Current Report on Form 8-K filed July 15,
2002).
*4.3 Second Supplemental Indenture, dated as of March 18, 2003,
among between Valero Logistics Operations, L.P., as Issuer,
Valero L.P., as Guarantor, and The Bank of New York, as
Trustee, including, as Exhibit A, form of global note
representing $250,000,000 6.05% Senior Notes due 2013
(Exhibit 4.1 to Valero L.P.'s Quarterly Report on Form 10-Q
filed May 9, 2003).
*4.4 Registration Rights Agreement, dated March 18, 2003, among
Valero Logistics Operations, L.P., Valero L.P., and J.P.
Morgan Securities Inc., Barclays Capital Inc., Mizuro
International plc, RBC Dominion Securities Corporation,
Scotia Capital (USA) Inc., Sun Trust Capital Markets,
Tokyo-Mitsubishi International plc., as initial purchasers
(Exhibit 10.10 to Valero L.P.'s Quarterly Report on Form
10-Q filed May 9, 2003).
5.1 Opinion of Andrews & Kurth L.L.P., as to the validity of the
exchange notes.
8.1 Opinion of Andrews & Kurth L.L.P., as to certain tax
matters.
12.1 Statement re computation of ratios.
23.1 Consent of Ernst & Young L.L.P.
23.2 Consent of Andrews & Kurth L.L.P. (included in Exhibit 5.1).
24.1 Powers of Attorney (included on signature page to the
registration statement).
*25.1 Statement of Eligibility of The Bank of New York, as
trustee, on Form T-1 with respect to the indenture between
Valero Logistics Operations, L.P. and The Bank of New York,
as trustee, with respect to the issuance of 6.05% Senior
Notes due 2013 by Valero Logistics Operations, L.P. (Exhibit
5.1 to Valero L.P.'s Registration Statement on Form S-3
(File No. 333-89978) filed on June 6, 2002).
*99.1 Form of Letter of Transmittal (incorporated by reference
from Annex A to the prospectus which is part of this
registration statement).
---------------
* Indicates exhibits incorporated by reference as indicated; all other exhibits
are filed herewith.
ITEM 22. UNDERTAKINGS
Each registrant hereby undertakes:
(a) that, for purposes of determining any liability under the Securities Act
of 1933, each filing of the registrant's annual report pursuant to Section 13(a)
or 15(d) of the Securities Exchange Act of 1934 (and, where applicable, each
filing of an employee benefit plan's annual report pursuant to Section 15(d) of
the Exchange Act) that is incorporated by reference in the registration
statement shall be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.
(b) to respond to requests for information that is incorporated by reference
into the prospectus pursuant to Items 4, 10(b), 11, or 13 of this form, within
one business day of receipt of such request, and to send the incorporated
documents by first class mail or other equally
Part II-3
prompt means. This includes information contained in documents filed subsequent
to the effective date of the registration statement through the date of
responding to the request.
(c) to supply by means of a post-effective amendment all information
concerning a transaction, and the company being acquired involved therein, that
was not the subject of and included in the registration statement when it became
effective.
(d) insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Securities Act
and is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the registrant of expenses
incurred or paid by a director, officer or controlling person of the registrant
in the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
(e) to file, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement:
(i) to include any prospectus required by section 10(a)(3) of the
Securities Act of 1933;
(ii) to reflect in the prospectus any facts or events arising after the
effective date of the registration statement (or the most recent post-effective
amendment thereof) which, individually or in the aggregate, represent a
fundamental change in the information set forth in the registration statement.
Notwithstanding the foregoing, any increase or decrease in volume of securities
offered (if the total dollar value of securities offered would not exceed that
which was registered) and any deviation from the low or high end of the
estimated maximum offering range may be reflected in the form of prospectus
filed with the Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than 20% change in the maximum
aggregate offering price set forth in the 'Calculation of Registration Fee'
table in the effective registration statement; and
(iii) to include any material information with respect to the plan of
distribution not previously disclosed in the registration statement or any
material change to such information in the registration statement.
(f) that, for purposes of determining any liability under the Securities Act
of 1933, each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.
(g) to remove from registration by means of a post-effective amendment any
of the securities being registered which remain unsold at the termination of the
offering.
Part II-4
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of San
Antonio, State of Texas, on May 30, 2003.
VALERO LOGISTICS OPERATIONS, L.P.
By: Valero GP, Inc.
its general partner
By: /s/ CURTIS V. ANASTASIO
------------------------------------
Name: Curtis V. Anastasio
Title: President and Chief
Executive Officer
Pursuant to the requirements of the Securities Act of 1933, as amended, the
co-registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of San
Antonio, State of Texas, on May 30, 2003.
VALERO L.P.
By: Riverwalk Logistics, L.P.
its general partner
By: Valero GP, LLC
its general partner
By: /s/ CURTIS V. ANASTASIO
------------------------------------
Name: Curtis V. Anastasio
Title: President and Chief
Executive Officer
Part II-5
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Steven A. Blank and Bradley C. Barron, and each of
them, his true and lawful attorneys-in-fact and agents, with full power of
substitution and resubstitution, for him and in his name, place and stead, in
any and all capacities, to sign any or all amendments (including post-effective
amendments) to this registration statement and to file the same, with all
exhibits thereto, and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact and
agents, and each of them, full power and authority to do and perform each and
every act and thing requisite and necessary to be done in and about the
premises, as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that said attorneys-in-fact and
agents or any of them, or their, or his substitute or substitutes, may lawfully
do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act, this report has been signed
below by the following persons in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ WILLIAM E. GREEHEY Chairman of the Board May 30, 2003
------------------------------------------------ and Director
William E. Greehey
/s/ CURTIS V. ANASTASIO President, Chief Executive May 30, 2003
------------------------------------------------ Officer and Director
Curtis V. Anastasio (Principal Executive Officer)
/s/ STEVEN A. BLANK Senior Vice President May 30, 2003
------------------------------------------------ and Chief Financial Officer
Steven A. Blank (Principal Financial Officer)
/s/ CLAYTON E. KILLINGER Vice President and Controller May 30, 2003
------------------------------------------------ (Principal Accounting Officer)
Clayton E. Killinger
/s/ WILLIAM R. KLESSE Director May 30, 2003
------------------------------------------------
William R. Klesse
/s/ GREGORY C. KING Director May 30, 2003
------------------------------------------------
Gregory C. King
/s/ H. FREDERICK CHRISTIE Director May 30, 2003
------------------------------------------------
H. Frederick Christie
/s/ RODMAN D. PATTON Director May 30, 2003
------------------------------------------------
Rodman D. Patton
/s/ ROBERT A. PROFUSEK Director May 30, 2003
------------------------------------------------
Robert A. Profusek
Each person above holds his respective position at both Valero GP, LLC (the
general partner of Riverwalk Logistics, L.P., the general partner of Valero
L.P.) and Valero GP, Inc. (the general partner of Valero Logistics Operations,
L.P.).
Part II-6
INDEX TO EXHIBITS
EXHIBIT
NUMBER EXHIBIT
------- -------
*3.1 Certificate of Limited Partnership of Valero Logistics
Operations, L.P. (Exhibit 3.4 to Valero L.P.'s Registration
Statement on Form S-1 (File No. 333-43668) filed August 14,
2000).
*3.2 Certificate of Amendment to Certificate of Limited
Partnership of Valero Logistics Operations, L.P. (Exhibit
3.5 to Valero L.P.'s Registration Statement on Form S-1
(File No. 333-43668) filed August 14, 2000).
*3.3 Amended and Restated Certificate of Limited Partnership of
Valero Logistics Operations, L.P. (Exhibit 3.8 to Valero
L.P.'s Annual Report on Form 10-K filed March 26, 2002).
*3.4 Certificate of Limited Partnership of Valero L.P. (Exhibit
3.1 to Valero L.P.'s Registration Statement on Form S-1
(File No. 333-43668) filed August 14, 2000).
*3.5 Certificate of Amendment to Certificate of Limited
Partnership of Valero L.P. (Exhibit 3.2 to Valero L.P.'s
Registration Statement on Form S-1 (File No. 333-43668)
filed August 14, 2000).
*3.6 Amended and Restated Certificate of Limited Partnership of
Valero L.P. (Exhibit 3.3 to Valero L.P.'s Annual Report on
Form 10-K filed March 26, 2002).
*3.7 Second Amended and Restated Agreement of Limited Partnership
of Valero Logistics Operations, L.P., dated as of April 16,
2001, by and among Riverwalk Logistics, L.P., as the General
Partner, the Organizational Limited Partner, and Valero
L.P., as the Limited Partner (Exhibit 3.9 to Valero L.P.'s
Annual Report on Form 10-K filed March 26, 2002).
*3.8 First Amendment to Second Amended and Restated Agreement of
Limited Partnership of Valero Logistics Operations, L.P.,
effective as of April 16, 2001, among Riverwalk Logistics,
L.P., the Organizational Limited Partner, and Shamrock
Logistics, L.P. (Exhibit 4.1 to Valero L.P.'s Quarterly
Report on Form 10-Q filed August 14, 2001).
*3.9 Second Amendment to Second Amended and Restated Agreement of
Limited Partnership of Valero Logistics Operations, L.P.,
dated as of January 7, 2002, by and among Riverwalk
Logistics, L.P. as General Partner of the Partnership, and
the Limited Partners of the Partnership, as provided therein
(Exhibit 3.10 to Valero L.P.'s Annual Report on Form 10-K
filed March 26, 2002).
*3.10 Reorganization Agreement dated as of May 30, 2002, by and
among Valero Logistics Operations, L.P., Valero L.P.,
Riverwalk Logistics, L.P. and Valero GP, Inc. (Exhibit 99.1
to Valero L.P.'s Current Report on Form 8-K filed June 5,
2002).
*3.11 Third Amended and Restated Agreement of Limited Partnership
of Valero L.P. (Exhibit 3.1 to Valero L.P.'s Quarterly
Report on Form 10-Q filed May 9, 2003).
*4.1 Indenture, dated July 15, 2002, between Valero Logistics
Operations, L.P., as Issuer, Valero L.P., as Guarantor, and
the Bank of New York, as Trustee, relating to our Senior
Debt Securities (Exhibit 4.1 to Valero L.P.'s Current Report
on Form 8-K filed July 15, 2002).
*4.2 First Supplemental Indenture, dated as of July 15, 2002,
between Valero Logistics Operations, L.P., as Issuer, Valero
L.P., as Guarantor, and The Bank of New York, as Trustee,
relating to our 6 7/8 % Senior Notes due 2012 (Exhibit 4.2
to Valero L.P.'s Current Report on Form 8-K filed July 15,
2002).
*4.3 Second Supplemental Indenture, dated as of March 18, 2003,
among between Valero Logistics Operations, L.P., as Issuer,
Valero L.P., as Guarantor, and The Bank of New York, as
Trustee, including, as Exhibit A, form of global note
representing $250,000,000 6.05% Senior Notes due 2013.
(Exhibit 4.1 to Valero L.P.'s Quarterly Report on Form 10-Q
filed May 9, 2003).
*4.4 Registration Rights Agreement, dated March 18, 2003, among
Valero Logistics Operations, L.P., Valero L.P., and J.P.
Morgan Securities Inc., Barclays Capital Inc., Mizuro
International plc, RBC Dominion Securities Corporation,
Scotia Capital (USA) Inc., Sun Trust Capital Markets,
Tokyo-Mitsubishi International plc., as initial purchasers
(Exhibit 10.10 to Valero L.P.'s Quarterly Report on Form
10-Q filed May 9, 2003).
Part II-7
EXHIBIT
NUMBER EXHIBIT
------- -------
5.1 Opinion of Andrews & Kurth L.L.P., as to the validity of the
exchange notes.
8.1 Opinion of Andrews & Kurth L.L.P., as to certain tax
matters.
12.1 Statement re computation of ratios.
23.1 Consent of Ernst & Young L.L.P.
23.2 Consent of Andrews & Kurth L.L.P. (included in Exhibit 5.1).
24.1 Powers of Attorney (included on signature page to the
registration statement).
*25.1 Statement of Eligibility of The Bank of New York, as
trustee, on Form T-1 with respect to the indenture between
Valero Logistics Operations, L.P. and The Bank of New York,
as trustee, with respect to the issuance of 6.05% Senior
Notes due 2013 by Valero Logistics Operations, L.P. (Exhibit
25.1 to Valero L.P.'s Registration Statement on Form S-3
(File No. 333-89978) filed June 6, 2002).
*99.1 Form of Letter of Transmittal (incorporated by reference
from Annex A to the prospectus which is part of this
registration statement).
---------------
* Indicates exhibits incorporated by reference as indicated; all other exhibits
are filed herewith.
Part II-8