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Rating Action:

MOODY'S CONFIRMS RATINGS OF ULTRAMAR DIAMOND SHAMROCK WITH STABLE OUTLOOK (SR. UNSEC. AT Baa2)

06 Jul 2000
MOODY'S CONFIRMS RATINGS OF ULTRAMAR DIAMOND SHAMROCK WITH STABLE OUTLOOK (SR. UNSEC. AT Baa2)

Approximately $2 Billion of Securities Affected.

New York, July 06, 2000 -- Moody's Investors Service confirmed the Baa2 senior unsecured ratings of Ultramar Diamond Shamrock Corporation (UDS) with a stable outlook following the company's announcement that it had reached an agreement in principle to purchase Tosco Corporation's Avon refinery located in the San Francisco bay area of California. Consideration for the acquisition will include $650 million in cash payable at closing, plus a contingency payment of up to $150 million to be paid over the next eight years if and when annual West Coast refining margins are above average. The purchase price excludes additional feedstock and product inventories to be purchased at the time of closing. UDS expects to finance the majority of the $650 million purchase price with debt, and the remainder with available cash. The acquisition will be subject to satisfaction of certain conditions, including additional due diligence and regulatory approval, and is anticipated to close by the end of 2000.

Moody's confirmation of UDS' ratings was based on the strategic benefits the company will likely derive from its acquisition of the Avon refinery, including increased refining capacity, greater geographic diversification, a higher concentration in the West Coast wholesale refining market, and the opportunity to integrate vertically its Northern California retail operations. The stable rating outlook reflects the likelihood for continued strong average refining margins for the remainder of 2000, and management's commitment to continue to apply free cash flow to net debt reduction to improve the company's financial flexibility. The stable outlook also assumes that share repurchases will be minimal until the company's financial leverage returns to pre-acquisition levels, and that UDS will continue to manage prudently its capital spending program.

Ratings confirmed include Ultramar Diamond Shamrock's notes, medium-term notes, pollution control revenue bonds, and debentures at Baa2; its subordinated debentures at Baa3; its cumulative convertible preferred stock at "baa3"; and its shelf registration for senior/subordinated debt at (P)Baa2/(P)Baa3; and its Prime-2 rating for commercial paper. Also confirmed were the guaranteed notes of Ultramar Credit Corporation at Baa2; the guaranteed preferred stock of UDS Capital I at "baa3"; and the shelf registrations for preferred stock of UDS Capital II and UDS Funding II, LP at (P)"baa3".

With distillation capacity of 168,000 barrels per day, Avon is a complex refinery that processes mainly less expensive, heavy California crudes that are transported to the refinery via pipelines. Tosco has been operating the Avon refinery as part of its Northern California system, rather than on a stand-alone basis. UDS plans to operate Avon at higher utilization levels and process more crude oil and less intermediate feedstocks, which should improve the value of the refinery's product slate and enhance its profitability. UDS also expects to achieve annual pre-tax synergies of about $25 million, mainly through operating expense reductions.

On the marketing side, the refinery will more than double UDS' sales volumes in California. Moreover, through Avon, UDS will be able to supply directly its approximately 150 Northern California retail branded sites, thus eliminating the need for less efficient product exchanges. However, Moody's notes that the bulk of the Avon refinery's output will continue to be sold into the more volatile California wholesale market.

The Avon refinery acquisition will provide numerous benefits to UDS, but the company will also face certain challenges, including enhancing the refinery's profitability and improving its environmental and safety record. However, even with additional capital spending for maintenance projects, and assuming low average refining margins, Moody's expects that Avon should be able to generate some free cash flow for debt reduction. As part of the purchase agreement, Tosco will retain responsibility for pre-existing environmental liabilities up to an agreed amount.

New, more stringent environmental regulations will likely raise required capital spending and operating costs for the refining industry. However, Moody's believes that such incremental amounts will not be material for UDS in the foreseeable future. At Avon and Wilmington, the company plans to substitue ethanol for MTBE to comply with California's ban on MTBE use by the end of 2002, and Moody's believes this can be achieved at a relatively low cost.

Ultramar Diamond Shamrock Corporation is a large independent refining and marketing concern headquartered in San Antonio, Texas.

New York
John Diaz
Managing Director
Corporate Finance
Moody's Investors Service

New York
Alexandra S. Parker
Vice President - Sr Credit Offic
Corporate Finance
Moody's Investors Service

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No Related Data.
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