Valero to buy Ultramar Diamond Shamrock for $4b

Independent refiner Valero Energy Corp said yesterday it will buy rival Ultramar Diamond Shamrock Corp for about $4 billion in cash and stock in a deal that will turn Valero into the No 2 U.S. refiner.

It is the latest in a wave of big-money mergers and acquisitions that has changed the landscape of the U.S. and global petroleum industry in recent years, leading to the creation of behemoths such as ExxonMobil and the new BP Plc.

Under the deal, which has been approved by the boards of directors of both companies but also requires regulatory approval, Ultramar shareholders can opt to receive 1.228 Valero shares or $55 cash for each Ultramar share. Valero shares closed up $1.59 at $45.47 on Friday, while Ultramar shares closed up $1.70 at $42.71. In early trading yesterday, Valero was off 87 cents at $44.60 while Ultramar was up $9.29 at $52.

Valero said the deal represents a premium of about 30 per cent for Ultramar's stock, based on the 10-day average share price for the period ended April 26. Valero, which will assume about $2 billion of Ultramar debt, said the deal would boost its earnings and cash flow. Valero stockholders will own about 60 per cent of the combined company, and Ultramar stockholders will own the rest Valero said it expects to realize over $200 million per year in cost savings by combining the two companies.

It said the combined company will have 23,000 employees in the United States and Canada, annual revenues of $32 billion, and total assets of over $10 billion. The combined company will own and operate 13 refineries with a total throughput of two million barrels per day, ranking it No 2 in terms of U.S. oil refining capacity behind ExxonMobil Corp, the world's biggest investor-owned oil company.

The deal will also make Valero one of the largest U.S. gasoline retailers and convenience store operators, with more than 5,000 retail outlets in the United States and Canada, most of which are currently part of Ultramar. Two other big oil U.S. industry mergers - between Chevron Corp. and Texaco Inc. and between Phillips Petroleum Co. and Tosco Corp - are currently awaiting regulatory approval.

Gilford Securities analyst Ann Kohler said the Valero-Ultramar deal offered a substantial premium to Ultramar stockholders and made sense for Valero because it would give the company exposure to the retail side of the gasoline business, which would help stabilize earnings. "Typically, refining and retail margins move in opposite directions," she said.

Kohler said the deal could attract regulatory scrutiny in California, where Valero owns one refinery and Ultramar two, but she said this was not an insurmountable obstacle and that the combination could help offset the effects of other recent deals that have realigned the U.S. West Coast refining industry.

"Given that Valero and Ultramar are both low-price gasoline sellers, I think that bodes well for them," she said. The combined company, which would keep the Valero name, will be headed by Valero Chairman and Chief Executive William Greehey. Valero's board will be expanded to 13 seats from nine. Jean Gaulin, Ultramar's chairman and CEO, will retire when the deal closes.

"We will benefit from enhanced financial performance through realization of numerous potential synergies among the facilities, including multi-refinery purchasing and inventory optimization," Greehey said in a statement.

Valero said the deal would be significantly "accretive to earnings and cash flow per share." Valero's buyout has struck down yet another competitor in the U.S. oil industry at a time when consumer outrage is growing at all-time high gasoline prices at the nation's pumps.

The deal comes hot on the heels of Phillips' deal to purchase key refiner Tosco Corp and is the latest in a wave of big mergers in an industry where firms that once competed have been fusing together at a breakneck pace.

The agreement announced Monday would create the second-largest refining company in the United States - second only to merged behemoth Exxon Mobil - and account for roughly 12 per cent of the nation's gasoline and heating oil production. The two companies said yesterday they have prepared a strong defence against antitrust concerns - arguing that the greater economies of scale would allow them to reduce gasoline prices on the West Coast by importing cheaper foreign crudes.

Yet some analysts do not expect Valero's deal with Ultramar - itself the result of a merger - to pass federal regulatory approval without a refinery sale. Left untouched, the Valero-Ultramar deal would reduce the number of large oil refiners competing in California from seven to six and would also give the combined company a strong position in the U.S. Gulf refining center.

"I expect that the Federal Trade Commission (FTC) will investigate this very closely and that they might require at least a symbolic sale (of a refinery)," said Jan Stuart, analyst for ABN Amro in New York. National gasoline supplies slipped to their lowest level ahead of the peak summer driving season for 30 years, after a long stretch of underinvestment during lean years in the refining industry left the United States poorly placed to tackle growing fuel demand.

The tight supply has now sent gasoline prices and refiners' profits soaring to all-time highs and prompted concern that a shrinking number of oil market players are able to exercise increasing power.

The supply shortfall is not expected to improve since there have been no new refineries built since 1976, and smaller players are getting pushed out of business by costly new environmental regulations.

"I don't know anyone who has the guts to build a grass-roots refinery," Valero Chief Executive Bill Greehey told reporters, citing the cost, length of time, and environmental hurdles that come along with such projects. "I think you're going to see other refineries closing as a result of new environmental regulations," he added.

The two companies said Monday they will submit their filing with the FTC on May 31 and are hoping to close by the end of October. "We'll just have to wait and see," said Greehey, adding he had already gotten encouraging signals about the deal from California Attorney General Bill Lockyer.

Greehey argued that the new merged company could lower California gasoline prices by sharing the expense of super-tankers for Iraqi, Mexican and Venezuelan crude - pressuring prices for costlier Alaskan crude. But analysts remained sceptical.

"That's not likely to be the basis of the FTC concerns," said George Beranek of Petroleum Finance Corp. in Washington. "They're more likely to be concerned about the fact that there will be one fewer company selling gasoline in California."