Tesoro Petroleum was set to grow through acquisitions. In 1997 management decided to divest assets related to exploration and production, and focus exclusively on downstream businesses—moving oil through refineries to produce jet fuel, diesel, and gasoline, and operating retail gas stations.
One year later, Tesoro went on a spending spree, paying an aggregate $1.3 billion over the course of three years to expand its refinery portfolio from one to four plants. The company issued common equity, sold convertible preferred bonds, and took on debt to finance its spree, said Gregory Wright, the company's chief financial officer. "Our debt wasn't as high as it was about to go, but we were at a point where we had to focus on paying it down."
Relative success followed. The preferred bonds converted to common stock, and "we had a pretty good looking balance sheet coming into 2001," Wright added. But the September 11 attacks left the oil business flat, along with Tesoro's prospects.
Five days before the attacks, Tesoro had closed a $756-million, two-refinery deal with British Petroleum, the third and fourth refinery purchases in the company's aggressive asset acquisition strategy. "We had structured [the deal] to close with all debt," noted Wright. The problem, he recalled, was that the company was carrying a 60 percent debt-to-capitalization load, and now faced an uncertain future regarding refining margins.
Things would get worse for the company that now generates $16.5 billion in revenues. The finance chief remembers waking up in the middle of the night wondering if he would be remembered as the "dumbest CFO in America." Wright sat down with CFO.com recently to recount his tale that involves digging a deep debt hole, splitting collateral, and being rescued by asset-backed lenders.
CFO.com: After the September 11 attacks, airline traffic slowed, jet fuel demand sank, and gasoline sales lagged. Your refining margins were extremely low, and you were running up debt from recent acquisitions. What made you buy another plant?
In early 2002, Valero Energy's Golden Eagle refinery went up for sale after the Federal Trade Commission told the company it would have to divest the plant to complete a merger. We look at our asset portfolio and realize that this California refinery could be our flagship plant, because California has the highest refining margins around. So we decide to bid on it. It winds up being a $1 billion deal for us, which is quite a bit for a company our size [$5 billion in revenues at the time.]
What was your next financial move?
Having just put a lot of debt on the balance sheet, it was incumbent upon us to push a lot of equity out the door. We got the equity sold, [which caused] the stock to trade down a little, so we topped up the rest with debt. By the time we closed the [Golden Eagle] transaction in May of 2002, we had $2.1 billion of debt on the balance sheet which brought our debt-to-capitalization level to 70 percent—a little high, even for a company that has made recent acquisitions.
Did the credit rating agencies beat you up after looking at your debt load?
Beat us up? No. I think the rating agencies are comfortable allowing debt to go up that high as long as you perform and bring it back down in an expeditious manner. But they put us on credit watch, and ultimately lowered our ratings, which is the proper thing to do. Again, the problem was not the Golden Eagle asset, the problem was the low margin environment in 2002. We weren't producing enough cash flow to pay down debt. The company's total cash flow, or EBITDA, in 2001 was approximately $100 million. Last year, the company's EBITDA, operating with the same group of assets, was $1.2 billion.
How did the debt load affect your access to capital?
At the time we bought Golden Eagle, the best I could do was secure a $250 million revolving credit facility, which I could either borrow or post letters of credit against to buy crude oil [Tesoro's feedstock]. The covenants around the credit facility were all cash flow related. As I said earlier, we did not have much cash flow that year, so we were immediately in a position of having to amend our credit facility.
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