HollyFrontier Corporation

Welcome to Holy Frontier Corporation's 4th Quarter 2021 Conference Call and Webcast. Hosting the call today from Holy Frontier is Mike Jennings, Chief Executive Officer. He is joined by Rich Boliva, Executive Vice President and Chief Financial Officer, Tim Goh, President and Chief Operating Officer, and Tom Crary, President, Holy Frontier Renewables. At this time, all participants have been placed in a listen-only mode. and the floor will be open for your questions following the presentation. If you'd like to ask a question at that time, please press star 1 on your touch-tone phone. If at any point your question has been answered, you may remove yourself from the queue by pressing star 1 again. If you require operator assistance, please press star 0. We ask that you limit yourself to one question and one follow-up. Additionally, we ask that you pick up your handset to allow optimal sound quality. Please note that this conference is being recorded. It is now my pleasure to turn the floor over to Craig Berry, Vice President, Investor Relations. Craig, you may begin.

Thank you, Julie. Good morning, everyone, and welcome to Holly Frontier Corporation's fourth quarter 2021 earnings call. This morning, we issued a press release announcing results for the quarter ending December 31, 2021. If you would like a copy of the press release, you may find one on our website at hollyfrontier.com. Before we proceed with remarks, please note the safe harbor disclosure statement in today's press release. In summary, it says statements made regarding management expectations, judgments, or predictions are forward-looking statements. These statements are intended to be covered under the safe harbor provisions of federal security laws. There are many factors that could cause results to differ from expectations, including those noted in our SEC filings. The call also may include discussion of non-GAAP measures. Please see the earnings press release for reconciliations to GAAP financial measures. Also, please note any time-sensitive information provided on today's call may no longer be accurate at the time of any webcast replay or rereading of the transcript. And with that, I'll turn the call over to Mike Jennings. Hey, thanks, Craig.

Good morning, everyone. 2021 was a momentous year for Highway Frontier. First and foremost, I want to recognize our employees for their commitment to safety. Despite the continuing challenges of the COVID-19 pandemic, the reportable injury rate, for our employee and contractor workforce was a record low for Holly Frontier. Second, we delivered solid financial results, led by record earnings in our lubricant segment, advanced our renewables projects, closed on the Puget Sound acquisition, and announced our plans to acquire Sinclair. We believe the combination of these strategic initiatives will enhance our value to shareholders over the long term. These investments are significant, both in terms of capital and for our people. Our team has taken these strategic initiatives head on and remains committed to execution. Turning to our fourth quarter results, we reported a net loss attributable to Highway Frontier shareholders of $40 million, or 24 cents per diluted share. These results reflect special items that collectively increased net loss by $22 million. Excluding these items, adjusted net loss for the fourth quarter was $18 million, or negative 11 cents per diluted share versus adjusted net loss of $119 million or 74 cents per diluted share for the same period in 2020. Adjusted EBITDA for the period was $126 million, an increase of $148 million compared to the fourth quarter of 2020. The refining segment reported EBITDA of $25 million compared to $8 million for the fourth quarter of 2020 And consolidated refinery gross margin was $8.70 per produced barrel, a 116% increase compared to the same period last year. This increase was due to higher margins driven by strong product demand for transportation fuels as we continue on the path to recovery to pre-pandemic levels. Fourth quarter crude throughput was approximately 421,000 barrels per day, below our initial guidance of 450,000 to 470,000 barrels per day due to heavy planned and unplanned refinery maintenance and weather-related downtime during the quarter. Our lubricants and specialty products business reported EBITDA of $75 million compared to $49 million, which is before the goodwill impairment charge of $82 million in the fourth quarter of 2020. For the full year 2021, our lubricants and specialties business achieved record financial results of $331 million in adjusted EBITDA, led by strong margins for base oils throughout most of the year. Holley Energy Partners reported adjusted EBITDA of $80 million for the fourth quarter, compared to $88 million in the fourth quarter of last year. Despite the planned turnaround and unplanned maintenance at Holly Frontier's Navajo refinery, HEP delivered another quarter of strong operational performance and financial results. HEP maintained its distribution in 2021 and ended the year with a coverage ratio of 1.8 times and continued its deleveraging strategy, repaying over $70 million in debt and bringing HEP's leverage to 3.9 times. Looking ahead, Within our refining segment, for the first quarter of 2022, we expect to run between 490 and 510,000 barrels per day of crude oil. This guidance reflects the impact of weather-related downtime at the Puget Sound Refinery, a scheduled turnaround at the Woods Cross Refinery, as well as maintenance activities at the Navajo Refinery throughout the first quarter. We believe that demand for transportation fuels will continue to strengthen as the global economy recovers from the pandemic. Within our lubricants and specialty products segment for the first quarter of 2022, we expect seasonal improvement in earnings and a continued shift in mix toward rack forward from rack back. We expect base oil prices and margins to continue to decline through the first quarter as base oil supply continues to recover. In 2022, HEP expects to hold the quarterly distribution constant at 35 cents per unit or $1.40 on an annualized basis. HEP remains committed to its distribution strategy focused on funding all capital expenditures and distributions within operating cash flow and maintaining distributable cash flow coverage of 1.3 times or greater with the goal of reducing leverage to 3.0 to 3.5 times. In our renewable segment, we're pleased to announce that the 6,000-barrel-per-day Cheyenne RDU is now fully operational, and we are lining the unit out to produce on-spec product. The Artesia pretreatment unit is expected to be completed in the first quarter of 2022, and the Artesia RDU is expected to be operational in the second quarter of 22. Once completed, we will have the ability to produce approximately 15,000 barrels per day of renewable diesel, with advantaged feedstock sourcing and flexibility through our own pretreatment unit. We ended 2021 with a robust financial foundation and bright prospects for continued growth and value. As we look to 2022, we are focused on one thing, execution. Execution will be critical as we ramp up to serve a recovering economy, start up our renewable diesel operations, and work toward the closing of the Sinclair business acquisition and subsequent integration after the closing. With that, let me turn the call over to Rich.

Thank you, Mike. As previously mentioned, the fourth quarter included a few unusual items. Pre-tax earnings were negatively impacted by acquisition integration costs of $16 million, a lower of cost for market inventory valuation adjustment of $9 million, and charges related to the Cheyenne refinery conversion to renewable diesel production of $3 million. A table of these items can be found in our press release. Net cash used for operations totaled $333 million in the fourth quarter, which included $98 million of turnaround spending and $320 million of working capital headwinds. Both planned and unplanned refinery maintenance reduced throughputs, which was the single largest driver of the working capital consumption. We expect to recover $150 to $200 million of this working capital as refinery operations normalize, and this will take us into the second quarter to fully recover. Holly Frontier's standalone capital expenditures totaled $254 million for the quarter and $725 million for the full year of 2021. As of December 31st, 2021, our total liquidity stood at approximately $1.6 billion, comprised of a cash balance of $234 million, along with our undrawn $1.35 billion unsecured credit facility. At December 31st, we had $1.75 billion of standalone debt outstanding, with a debt-to-cap ratio of 24% and a net debt-to-cap ratio of 21%. We anticipate recovering $83 million in cash tax benefit in 2022 from the lost carryback potential under the CARES Act. HEP distributions received by HFC during the fourth quarter totaled $21 million. Poly Frontier owns 59.6 million HEP Limited Partner Units, representing 57% of HEP's LP units and a market value of over a billion dollars as of last night's close. With respect to capital spending in 2022, we continue to expect spending between $250 to $270 million at Holly Frontier refining, $225 to $300 million in renewables, $45 to $60 million at Holly Frontier lubes and specialties, and $70 to $100 million for turnaround and catalysts. At HEP, we expect to spend $15 to $20 million for maintenance capital, $5 to $10 million for expansion capital, and $35 to $50 million in refinery processing unit turnarounds. Beginning in the first quarter of 2022, Holly Frontier will report a new renewable segment that will contain all financial information related to the renewable diesel units at the Cheyenne and Artesia facilities, as well as the Artesia pretreatment unit. And with that, we are ready to take questions.

Thank you. The floor is now open for questions. At this time, if you have questions or comments, please press star 1 on your touch-tone phone. We ask that you please limit to one question and one follow-up. If you have additional questions, we welcome you to return the queue. If at any point your questions ask an answer, you may remove yourself from the queue by pressing star 1. Thank you. Our first question is coming from Lisa Chong from Barclays. Please go ahead.

Morning. Thanks for taking my questions. I guess first, if we can go over the progress on the Sinclair deal, where you are in terms of working with FTC, and given your comments yesterday, Rich, on the HEP call, the modest delay in the closing, can you just talk about, you know, what's driving that?

Yeah. This is Mike. We are working with Sinclair to closely and collaboratively to satisfy all the closing conditions. The principal gating factor at this time is the FTC process. We're obviously cooperating with the FTC, and Sinclair is working closely with us to obtain that clearance. We expect to close the transaction as soon as we can, and at this point, we still expect closing in 2022, as we've said previously. We don't have an update beyond that.

Got it. And then maybe turning to Puget, given the volatility in fourth quarter and still some downtime reflected in first quarter, can you talk about your outlook for the asset from here? And if the delay in TMX coming online, the further postponement of that, does that change the economics of your crude outlook for the area in general?

Yeah, Lisa, this is Tim, though. Let me take a shot at that. We were disappointed that the Puget Sound refinery had some unplanned maintenance in the first 90 days that we owned it, but it does not change our outlook for the profitability of that refinery. Puget Sound got impacted by three weeks of the crude pipeline flooding event that occurred in the fourth quarter. As you guys may have heard, it was then followed by a record freeze event that occurred under freezing temperatures for basically seven to ten days that basically impacted the operation and still carries into the first quarter, as Mike mentioned in his prepared remarks. But none of that changes. They're all isolated events. Nothing that changes our long-term view of Puget Sound. We still think it has a mid-cycle EBITDA. of 150 to 200 million, and we believe that we are still in that mid-cycle, at or above mid-cycle conditions for the rest of the year. So if you look at that on an annualized basis, we still think that Puget Sound will deliver that. As far as the delayed TMX, we've got lines based on the existing TMPL that is providing us with a large portion of our crude runs today. The rest we bring in over the waters through our dock, and we believe that the delay is not going to impact our long-term outlook on PSR.

Thank you.

Your next question is coming from Paul Chang from Scotiabank. Please go ahead.

Hey, guys. Good morning. Hi, Paul. Rich, I think in the past, you have been talking about a capital return to shareholders. They call it up to a billion dollars in the 12 months after first quarter, I would say. Can you give an update, given the market condition and also seeing carry is being delayed? And also, it just sounds quite frankly that operation has not been living up to expectation, at least during the first quarter. 90 days or 100 days of your ownership? That's the first question.

Sure, Paul. So I don't think there's any change to our capital return plans consistent with what we announced at the time about the Puget Sound and then the Sinclair acquisition. We expect to reinstate the dividend in May at that $0.35 per share level. We expect to then Return of $1 billion of cash in total, inclusive of both dividends and repurchase into the first quarter of 23. And then the long-term, we think a 50% payout ratio and a combination of dividend and repurchase is appropriate for a business like ours.

So even though the SYNCARE delay could be, because I think previously the expectation is that you may be able to close SYNCARE by mid-year, but it doesn't look like that's likely. And so if that's further delayed beyond 2022, does that change the way how you look at the capital return?

No, Paul, I don't think it does.

Okay. And second question, can we go back into the Pichu Sang operating issue? Fourth quarter, at least we can understand you have a sub-zero temperature, which is from what I understand, never happened in at least the last 40 years plus. And then you have trans-mountain shutdown. But you're still into January that you have the hydrocracker problem and all that, or that the cooker maybe. Can you tell us that, I mean, what causing in the first quarter downtime and what is the game plan to make the operation to be better. And quite frankly, in your prepared remark, you talk about execution. For the past seven years, I think every year the CEO has talked about execution is the most important priority for the company. But unfortunately, since night, the company has been hit periodically by a set of issues. And so what gave you the confidence that this time you would get it right?

That's a loaded question, Paul. Thanks. As a starting point, the issue in Puget Sound was weather-induced, and the remaining issue pertains to the coker unit and a compressor that effectively needed major maintenance following damage by the weather. So that is, Tim, to this point, if you want to take it from there.

Yeah, let me jump in, Paul, on this, and then I'll turn it back over to Mike. But I can tell you that that issue has been resolved. And so when we say that the Puget Sound issue will carry into the first quarter, it has been resolved now, and we are in the process of returning to full rates of Puget Sound. But it has impacted the first quarter.

And I guess beyond that, we operate a network of inland refineries where the degrees of freedom during unit downtime are pretty limited. And so we get it. The operational results matter perhaps more in that context than plants that are among a coastal network. And so effectively, we have to be better. And we have had operational issues obviously affected our fourth quarter results. And we've told you they will roll into the first. But we have people on the ground and asset strategies, I think, that carry us forward toward improvement. And, you know, the proof is going to be in the future results more than what I say on this call. So I think I'll leave it at that. But we certainly put a high priority on it, and we're working the issues hard. Thank you.

Your next question is coming from Phil Gretsch from J.P. Morgan. Please go ahead.

Yes. Hey, good morning. Thanks for taking my questions. First one, Rich, could you just talk about how you expect the cash balances to progress in the first half of this year? You mentioned the working capital tailwinds. You mentioned the cash tax benefit at some point in 2022. I'm just trying to think about getting back to those minimum cash levels of $500 million that would then, you know, allow for the dividend statement.

Sure, Phil. So, look, obviously we're going to have a hard first quarter. Take this in pieces. We expect to see renewables really delivering on the income statement, the cash line, in the second half of this year. Obviously, as we ramp things up through the first half, we're not going to see a lot of cash generated there. We clearly expect our refinery performance to be significantly better starting with the second quarter, which will clearly generate a lot of cash both from earnings as well as a recovery in working capital. So that gives us the comfort around dividend in the second quarter. To your question on the tax refund, we are extremely frustrated at this point, to be honest. the government is still not back in the office, and their speed of work reflects that. So we are diligently working this issue. That's about all I have. It's not in our control, to be honest. We obviously expected to have this money back nine months ago. So really, to your point, we'd expect that second quarter is when we'll really start seeing cash start to accumulate, and that gives us comfort around that dividend number in particular.

Am I still correct in saying that the minimum target cash would be the $500 million?

Yeah, I think that's a good target. I think as we're doing some of this work now, as we close and integrate Sinclair, I would expect we'll seek more liquidity probably through an expanded revolver. But that $500 million target cash balance will remain. We still think that's a good number in an expanded company.

Okay, okay. My follow-up would just be on some of your comments you just said on renewable diesel with the startup. And now that we're almost two months through this first quarter, you know, you said you don't expect much of a contribution in the first half. But, I mean, I guess as we look at the first quarter, would you say that with startup costs and things like that, that you're trending towards positively the dollar? Or should we be thinking that there are startup expenses and things that would make that – you know, take some time.

No, I think it's going to take a little while. So I'd expect small negative EBITDA in the first quarter, probably into the second quarter, to be honest. You know, we're being very careful, and I'll ask Tom to chime in, on how we start these units up. Obviously, we've seen others have major issues. So we're babying them a little bit, if you will. But we think that's the prudent way to approach this so that we have the earnings power in the next several years.

Yeah, Phil, this is Tom. Just to parrot Rich's comments, we are going slow on purpose. These are somewhat new units to us, although we understand hydrotreating process from the refinery operations, this is still something new for us. So we're going slow. We want to do it right, and we want to do it one time, and that's our goal here. As you can appreciate, as we start up a new business, we have virtually No volumes in the tanks of renewable diesel that we're going to have to build up. We're going to have to get working stock in place before we can even look at entertaining sales to customers. So that does take some time. Even though that we're running, it's going to extend the period of time until we can generate revenue. So it's going to be a slow process.

Got it. And does Sinclair have their pretreatment? Where is Sinclair in their pretreatment startup? Thank you.

To the best of our knowledge, and this is just public information, is that they're looking sometime between the second and third quarter of this year for startup. Got it. Thank you.

Mm-hmm.

Your next question is coming from Roger Reed from Wells Fargo. Please go ahead.

All right, let me get the microphone in the right place. Good morning, guys. I'd just like to maybe dig a little deeper in just how the renewable diesel startup process will go. I mean, I recognize we've seen others have problems, and you all want to be careful with it. But as you look at running – I guess maybe here's a question. Where are you in terms of running any kind of a feedstock through the units and getting comfort, and where are you in terms of security of the feedstock, you know, across all types?

Okay, from a high level, Roger, this is Tom. You know, first of all, in the startup process, we have to heat up the units, and we have to get them warm, and we do that by introducing hydrogen, And once we reach certain temperatures, then we can start to introduce feed, at which time then we start increasing the feed. And it's just a slow process. We just have to walk up these units very slowly and make sure all the instrumentation is working properly so we know where levels are within the various units. So it's a slow process. So it's not like flipping a switch and then these things run. It usually takes, you know, multiple days to get everything lined out and make sure that we're operating properly and we have stability at various temperatures throughout the whole units, both the reactor and the isomes. So in terms of feed, we haven't had any problem whatsoever in acquiring feed for Cheyenne, Artesia, or the PTU. It has not been a problem. We have secured some volumes to get it through the remainder of this year and even early into 2023 by long-term contracts. We don't foresee any problems going forward. We still believe in our strategy of having the PTU in place so that it gives us more flexibility to buy different feeds, and we will continue on startup to buy the feeds that give us the highest return by balancing price versus carbon index.

Okay, great. Thanks. And then just a final question for me on the renewable diesel side. In terms of the CAPEX guidance and the original CAPEX guidance, when I say original, but the most recent, which was $800 million to $900 million total, kind of where do you think you're going to come in at this point on CAPEX at the total level?

Hey, Roger, it's Rich. We will be within that range. Okay, great.

Thank you. Your next question is coming from Neil Metal from Goldman Sachs. Please go ahead.

Neil?

Neil from Goldman Sachs. Your line is now open. And your next question is coming from Connor Lena from Morgan Stanley. Please go ahead.

Yeah, thanks. I wanted to stay on the feedstock sourcing question for renewable diesel. You had said last quarter you were kind of evaluating options to participate in further up the value chain. So I'm just curious where your head's at on that. Any options you've been exploring?

Sure. Connor, this is Tom again. We're currently tracking over 20 soybean oil processing plant investment opportunities that have been presented to Holly Frontier. We have been looking at strategic opportunities two ways, either long-term off-takes or equity investments. And we've had equity, I'm sorry, active discussions are underway with possible counterparties. You know, like I said before, we want to optimize to the best net back. give us the most flexibility. So there's no shortage of crush plant announcements, as you're probably well aware, and we're trying to touch base with everything that comes across to see if it presents value for Hawley Frontier.

What type of criteria would you say are important to you in determining that? I mean, you certainly manage your feedstock independent of production on the refining side. So I guess the question is, you know, do you see the ultimate value creation shifting to that side, or is it more of a hedge? Just basically, you know, what would make you want to invest?

Probably more of a hedge. It's vertical integration, so it allows us to capture, you know, profitability throughout the chain as a part to one specific point. It's sort of along the same lines as the PTU and why we entered into that market.

Just to pile on there, Connor, obviously our criteria is returns against cost of capital. Whether those returns come in the form of a reduction in price or a return on the investment, so far we have not seen returns that are clearing any sort of hurdle.

Which is pushing us back towards just an outright lifting or an offtake agreement.

Got it, got it. All right, thanks for the call. I'll turn it back.

Your next question is coming from Manav Gupta from CreditSys. Please go ahead.

Hey, guys, a question more on credit. Inland refining seems like people love the coastal a lot more. Now with some of the Ukraine crisis and then you're looking at Exxon saying they want to grow Permian 25%, Chevron 10% and all these guys are looking to accelerate Permian. Do we see a scenario where we could have a resurgence of, you know, a reemergence of some of these inland differentials as it looks like the rig counts are accelerating and the production is expected to go up in 2022-2023?

Yeah, Manav, this is Tim. I'll take a first shot at that. We've been pleased to see the increased production in the Permian. I think they hit over 5 million barrels a day here this last month and setting new records. Takeaway capacity is still greater than that, so we still continue to see that dynamic playing out. But certainly as the volatility in the rest of the world plays out, The one certainty that seems to be out there is that the permian production seems to be where most of the focus is on growth here in the U.S., and that's going to benefit us both in our MidCon refinery as well as our Southwest refinery. So you've seen some short-term blowout in the Brent TI spread here just in the last day or so. We don't expect that to necessarily hold at these levels. But we do think that long-term Brent TI about $3 makes a lot of sense. And if you look at the strip going out, it seems like the market feels the same way, if not even a little bit more bullish.

How much Permian can you run in your system, if you could remind us?

Well, we run all our whole Southwest refinery, Navajo refinery runs on basically Permian. And then we can send some additional you know, call it 50,000 barrels a day down into our mid-con refineries through their Centurion pipeline. So we've got good exposure, a good optionality to be exposed to the Permian crudes.

Okay, and a quick policy follow-up. I think, Rich, when you initially put out your renewable diesel projections, I remember very clearly you did not have BTC in 2023, right? And then we got to a situation with Build Back Better and everything, and we started assuming BTC most likely will be extended. Now, I just want to understand from the policy perspective, there is a lot of support for BTC, but do you see a scenario like before year-end where BTC could be extended so it kind of takes off that uncertainty from RD margins?

So I'm going to go from a government affairs perspective, if you will. I think our view is that there is a lot of support for the BTC and that we will see it extended in some form or fashion consistent with the manner rate that's been done historically in one of these last-minute tax extender package type events. But to your point, our original project economics were not predicated on long-term BTC.

But our long-term expectation around BTC wasn't affected by Build Back Better. It preceded that, the political support for this extension. So we don't see those two as necessarily tied.

Thank you.

Your next question is coming from Legate from Bank of America. Please go ahead.

Good morning, everyone. Note to self, don't hit star one more than once. It lowers your hand, apparently. Anyway, thanks for getting me on, fellas. I hate to ask about Sinclair, but I know you don't want to talk too much about it. I just want to ask a hypothetical question. When Marathon was trying to sell Speedway, they satisfied all their filing requirements and they still didn't get a formal answer. So they went ahead and did the deal anyway. I'm just curious how you guys, where you guys are in the process of satisfying all the, you know, the back and forth on the filing.

Well, explicitly we have complied with the second request and we're in discussions with the staff. And Paul, Doug, I'm sorry, I can't share more than that. It's a continuing conversation. and our tactics and strategy aren't going to be public for this call, but we expect this transaction to close in 2022, and we're really excited about it. So that's as much as I'll go.

Yeah, I apologize for asking. I just wanted to see if there was any additional color. Well, maybe if I may take two quick ones. One is micro and one is specific to you, and it's a follow-up to Paul's question about operational improvement. I'm just curious, when you think about Puget Sound and Sinclair, who has the best operating best practice? I'm thinking in terms of transfer of best practice. Does Sinclair make Holley better? Does Holley make Sinclair better and similar to Puget Sound? How do you think about the generic operational reliability of the go-forward combined company?

Doug, this is Tim. Let me take a shot at it. I think I think the answer is yes to both questions. Puget Sound and Sinclair make Holly Frontier better, and Holly Frontier make Puget Sound and Sinclair better. I think there are opportunities to basically share both forward and backwards with each of these assets. Puget Sound, as we've talked about before, has a very talented workforce, advantaged assets, a growing market that it sits in, I think they have a lot to offer, Holly Frontier, but I think we have some additional things we can offer them as well in terms of an independent refinery mindset, a way to try to not have to work within a larger system, but try to optimize the asset within its individual region. I think there's a lot of opportunity there to work together. Sinclair. You know, we're still looking to close, as you know, so I'll limit my comments on Sinclair. But Sinclair has a very attractive market that they operate in. They obviously have a very different model in their branded marketing outlets that we will benefit tremendously from. We're looking forward to attaching that to our merchant refining portfolio to take full advantage. On the other hand, we think we have some systems and processes and people that we can offer to help Sinclair as well to try to get their assets to run better as well. So I think it goes both ways.

I appreciate that answer. Well, my last one, guys, is a macro one, and I don't know who wants to take this, but we all remember the golden age, so to speak, back in the 2000s. My question is this. Europe and Asia has got a very different natural gas supply dependency today than it did back then. So I'm curious, if the European-US gas premium persists, maybe not at current levels, but on a go-forward basis, how does that impact your thinking of, let's say, go-forward mid-cycle margins?

Doug, we're bullish on refining this year. I think natural gas is just one component that will continue to advantage the U.S. refining system versus the European one, for example, in this case. We think low product supply, if you look at inventories, they're five-year lows right now in the U.S. We think there's going to be a heavy maintenance and turnaround year. associated with a lot of the majors and a lot of the other competitors out there already announced heavy maintenance workload this year. As we've talked about before, we do not have a heavy turnaround load for this year. Aside from this unplanned maintenance and then some smaller planned maintenance throughout the year, we're actually looking to be in pretty good shape to take full advantage of this environment. And so we think this year is going to be at or above mid-cycle. We think the natural gas situation will only strengthen that and help improve that. Whether that's going to persist, I think will depend on a lot whether the geopolitical risks out there play out or not.

Yeah, of course. Guys, thanks for taking my questions. I really appreciate it. Thanks, Doug.

Your next question is coming from Neil Mehta from Goldman Sachs. Please go ahead.

Great. Can you guys hear me okay? Yes, sir. Okay. Sorry about before. So, hey, look, product inventories in PAD 2, I'd be curious on your views, Mike and team. We see that happen from time to time in the winter where the inventories do get elevated relative to the rest of the country, and then you work through it. but it is notable that the mid-con margins are a little bit softer than other pads. So just your observation there, and is this anything we should be concerned about or is just normal seasonality?

Neil, let me take a first shot. The mid-con inventories are definitely high right now. We do attribute that to seasonal behaviors. We see this typically every winter. we don't think this will be any different. And we obviously, again, think that this summer is going to be strong in the mid-con, certainly mid-cycle or above, despite the higher inventories that we're seeing today.

All right. That's helpful. And then just your thoughts on shape of curve with the time spreads being so Strong right now up at the front, given all the geopolitical stuff, just your thoughts on how that affects capture rates, the market structure, and is that something that we should think of as a deduct relative to the margins?

Yeah, I mean, you're right on there, Neil. Steep backwardation is not helpful from a capture standpoint. but we obviously would prefer a contango-shaped market. But that's not what we've got. And for the next few months, it looks like we are going to continue to face some higher-than-normal backwardation here with all the geopolitical risk that's out there. So, yeah, you should factor that into your models, but we don't think – we do think it's going to line back out here the rest of the year.

I think I'll jump in, and that is to add perhaps the obvious, but the The product cracks, even RVO adjusted, are seasonally strong. If you look at Midcon as an example, they're depressed relative to the remainder of the country, but still pretty decent for a February timeframe for gasoline. If you look elsewhere in the country, other served markets, it's certainly better. And I think what we're seeing is either a snapback or a steady road back from COVID. You're seeing it in vehicle miles traveled. You certainly see it in distillate demand and inventories. And so while backwardation hurts capture, the overall level of product margin is pretty good. And as we look forward into this year, we expect it to be a strong financial year for our sector.

Great perspective. Thank you, Mike.

And your next question is coming from Jason Gabelman from Cohen. Please go ahead.

Morning. Thanks for taking my questions. I have two on the renewable diesel business. First, on the financial projections, I think when you sanctioned the renewable diesel projects, there was $165 million annual free cash flow forecast. Is that still the right number. There's been a lot of moving pieces with environmental credits. So wondering if that's the right number, excluding the BTC. And then secondly, just on thinking about M&A on renewable diesel, you mentioned potentially looking to take an equity stake in upstream business. Is there a market for you to potentially sell a stake in your renewable diesel project once you get it up and running, or those conversations you've had, or maybe you could just discuss potential interested parties or types of parties that could be out there. Thanks.

Hey, Jason, it's Rich. So high-level, look, there's some puts and takes, as you mentioned, but I think that free cash flow and our earnings projections remain the same with respect to renewable diesel. Obviously, we expect to see those second half of 22 and really going into 23. BTC looks like a tailwind. In the near term, LCFS is probably a little bit of a headwind, but we are very bullish on that market in the long run. With respect to M&A, we are focused on executing the projects we've got in front of us. There's really nothing to speak to, no activity to speak to here But look, we are always open to anything that will create more value for our shareholders.

Jason, this is Tommy. We've got a busy road ahead of us, not only starting up our own units, but integrating the Sinclair facilities to make it one happy family, a continuous project. We've got some optimization to do after the acquisition of Sinclair. So we've got a full plate from a renewable standpoint. So to Rich's comments, we really haven't looked at any kind of potential of spinning off the renewables or spinning off an equity share in it. Thanks.

Once again, if you do have a question, you may press star 1 on your touchtone phone. Your next question is coming from Paul Chang from Scotiabank. Please go ahead.

Hey, Mike, just a two quick follow-up. Just curious that if the Siam Audi facility is running in full today. Is today economic that you guys are making money in that facility? And also that in the long haul, what is the game plan for that business? I mean, how do you look at it? Do you want to build substantially more capacity or that this is really one-off because of some opportunity you see in Navajo and also Cheyenne. And so you will just stick with the existing – these two facilities and the pre-unit but not really expand. So what is the longer-term game plan for this business?

Bob, this is Tom Cray. Today's economics, there's still a lot of factors. We still don't have, for example, we don't have operating costs or operating expenses because we have yet to operate, so there's a lot of unknowns. It would still be profitable under today's circumstances. We are seeing some headwinds, as you're aware, through lower LCFS prices. However, we don't expect those to continue into the long term, and that's not, you know, we're not, we didn't build these units on today's economics. We built them over, you know, 20-year economics. So we think over the long run, they will be profitable and will hit our financial targets.

Paul, looking forward within our renewable segment, what we would say is, We have a lot on our plate right now to get these projects completed and businesses up and running as we've constructed them. With that said, we also like to look forward and try to participate in future profitable opportunities. Most likely, those would be in and around our existing asset facilities, meaning brownfields. But as of today, the focus is critically on the three assets that we're building and bringing up to operate. Thank you.

Your next question is coming from Phil Gresh from J.P. Morgan. Please go ahead.

Yes, thanks. Sorry, I just had one follow-up on lubes. With your commentary around RACBAC and some of the headwinds there with Group 2, that we're starting to see here in the first quarter relative to what we saw in 2021. Just curious how you're thinking about RAC Forward and the potential benefits there. And sometimes in the past, you've been willing to give a range of guidance for what you think RAC Forward could be. And I'm curious if you have any thoughts there. I know 2021 was a bit of a different kind of year for RAC Forward.

Yeah, so this is Tim. Let me take a shot at that. Last year was a very you know, strange year of market fluctuations between RAC Forward and RAC Back, as you saw. It's continuing into this year, and that's why we didn't provide any guidance on this year for RAC Forward. In fact, I think what we would tell you is we still believe that our LUBS business is a $250 million EBITDA business in a mid-cycle environment. And we would tell you that for 2022, we expect the year to be at or above mid-cycle. on a combined basis. And that's probably how we would suggest you look at the loose business for this year. We are seeing some base oil margin compression starting to show signs of happening. That will allow the RAC Forward business to return to more normal conditions. But at the same time, we're hearing of unplanned events and heavy turnarounds in the base oil producing market here, especially in the U.S., that we think will continue to keep base oil prices tight. At the same time, we're seeing recovery in our RAC Forward business, and we think that business will continue to strengthen. And so we're optimistic, certainly here in the first half of the year, that we're going to see above mid-cycle profitability from our lubes business.

Okay, got it. That makes sense. Thanks a lot.

And there are no further questions at this time. I will turn the floor back over to Craig for closing remarks.

Thank you, operator. This is Mike. And thank you all for participating. I'd like to wrap up the call this morning emphasizing a couple points. The first is that the fourth quarter included some significant operational challenges, many of which were brought about by extraordinary weather, but all of which we own and need to manage. On one hand, I'll recognize the major events made by our team to recover from these issues, and on the other, I'm going to say that my expectations are for better reliability and throughput. I will note that with respect to employee and contractor safety, our 2021 year was the best ever for our company, and our recordable injury rate was less than half of the industry average. This is a reflection of what we're achieving on the ground. We're nearing the completion of our renewable diesel investments and look forward to the transition from project management to operations management. This is a really exciting new venture for our company, and I believe it's going to be attractive business for our owners. And the final point is that this Sinclair transaction is truly transformative for Holly Frontier. It's an incredibly exciting time for us, and while the lag from announcement to close may take some of the limelight away from this deal, Internally, we're working really aggressively to plan for the closing and the integration, and we continue to view the combined company as strategic and compelling as an investment, a supplier, and an employer. So thanks all for participating today, and we look forward to talking with you again.

Thank you. This concludes today's teleconference. Please disconnect your lines at this time and have a wonderful day.