As a comment on the previous post highlighted, you’d better do your own research when dealing with any trade from flippe-floppe-flye, although that is true of any trade.
WNR as disclosed in their 10Q have numerous tidbits that should your thesis for a trade be the crack spread, really need to be looked at. As KTB in the comments indicated, WNR, for all intents and purposes do not hedge the crack spread – they wing it.
Refining. Our net sales fluctuate significantly with movements in refined product prices and the cost of crude oil and other feedstocks, all of which are commodities. The spread between crude oil and refined product prices is the primary factor affecting our earnings and cash flows from operations.
Another factor impacting our margins in recent years is the narrowing of the heavy light crude oil differential. Since the second quarter of 2009, the heavy light crude oil differential has narrowed significantly, particularly impacting our Yorktown refinery which, when operating, can process up to 100% of heavy crude oil. Narrowing of the heavy light crude oil differential can have significant negative impact on our Yorktown refining margins, as was the case during 2009 and 2010.
Other factors that impact our overall refinery gross margins are the sale of lower value products such as residuum and propane, particularly when crude costs are higher. In addition, our refinery gross margin is further reduced because our refinery product yield is less than our total refinery throughput volume
Our results of operations are also significantly affected by our refineries’ direct operating expenses, especially the cost of natural gas used for fuel and the cost of electricity. Natural gas prices have historically been volatile. Typically, electricity prices fluctuate with natural gas prices
The nature of our business requires us to maintain substantial quantities of crude oil and refined product inventories. Because crude oil and refined products are commodities, we have no control over the changing market value of these inventories. Our inventory of crude oil and the majority of our refined products are valued at the lower of cost or market value under the last-in, first-out, or LIFO, inventory valuation methodology. If the market values of our inventories decline below our cost basis, we would record a write-down of our inventories resulting in a non-
cash charge to our cost of products sold. Market value declines during the year ended December 31, 2008 resulted in non-cash charges to our cost of products sold of $61.0 million. Under the LIFO inventory valuation method, this write-down is subject to recovery in future periods to the extent the market values of our inventories equal our cost basis relative to any LIFO inventory valuation write-downs previously recorded. Based on 2009 market conditions, we recorded non-cash recoveries of $61.0 million related to the 2008 LCM charges. In addition, due to the volatility in the price of crude oil and other blendstocks, we experienced fluctuations in our LIFO reserves between 2008 and 2009. We also experienced LIFO liquidations based on decreased levels in our inventories. These LIFO liquidations resulted in decreases in cost of products sold of $16.9 million and $9.4 million for the years ended December 31, 2010 and 2009, respectively, and an increase of $66.9 million in cost of products sold for the year ended December 31, 2008. See Note 5, Inventories , in the Notes to Consolidated Financial Statements included in this annual report for detailed information on the impact of LIFO inventory accounting
Inventories. Crude oil, refined product, and other feedstock and blendstock inventories are carried at the lower of cost or market. Cost is determined principally under the LIFO valuation method to reflect a better matching of costs and revenues. Ending inventory costs in excess of market value are written down to net realizable market values and charged to cost of products sold in the period recorded. In subsequent periods, a new lower of cost or market determination is made based upon current circumstances. We determine market value inventory adjustments by evaluating crude oil, refined products, and other inventories on an aggregate basis by geographic region. Aggregated LIFO costs were less than the current cost of our crude oil, refined product, and other feedstock and blendstock inventories by $173.5 million at December 31, 2010.
Retail refined product (fuel) inventory values are determined using the first-in, first-out, or FIFO, inventory valuation method. Retail merchandise inventory value is determined under the retail inventory method. Wholesale finished product, lubricant, and related inventories are determined using the FIFO inventory valuation method. Finished product inventories originate from either our refineries or from third-party purchases.
This is the kicker: WNR use LIFO for accounting for the oil inventory, and FIFO for the gasoline/other products. So not only do you have a crack spread that is constantly fluctuating, you have an accounting convention that creates a further volatility.
In addition, as I’ve been looking, trying to follow exactly the LIFO position is not a 5min undertaking, and most certainly is not taken into account via flippe-floppe’s rather lame ppt screening tool.
It looks, on first blush, if oil falls [and gasoline follows to some extent] the LIFO markdowns will be recorded as a non-cash charge to COG thus reducing reported earnings. FIFO accounting leverages to price changes or falls, thus any weakness in gasoline and other products, has a higher impact [either way] on earnings. None of this really has anything to do with crack spreads, which simply adds in a further layer of complexity to the analysis.
Have gasoline prices reached a tipping point?
According to the NYTimes, Prices for a gallon of regular unleaded gas are topping $4 at more service stations nationwide, revisiting the bleak territory of three years ago, when the average price for a gallon of regular gas reached a peak of $4.11 on July 17, 2008. A survey of about 100,000 stations showed gas prices were now averaging $3.77 a gallon nationwide. The average is already more than $4 in California, Hawaii and Alaska, and analysts at the oil information service said drivers were paying more than $4 at some stations in at least three other states — Illinois, Connecticut and New York.