HOLLYFRONTIER CO. This Item 7 contains "forward-looking" statements. See "Forward-Looking Statements" at the beginning of this Annual Report on Form 10-K. In this document, the words "we," "our," "ours" and "us" refer only toHollyFrontier and its consolidated subsidiaries or toHollyFrontier or an individual subsidiary and not to any other person with certain exceptions. Generally, the words "we," "our," "ours" and "us" include HEP and its subsidiaries as consolidated subsidiaries ofHollyFrontier , unless when used in disclosures of transactions or obligations between HEP andHollyFrontier or its other subsidiaries. This document contains certain disclosures of agreements that are specific to HEP and its consolidated subsidiaries and do not necessarily represent obligations ofHollyFrontier . When used in descriptions of agreements and transactions, "HEP" refers to HEP and its consolidated subsidiaries.
OVERVIEW
We are an independent petroleum refiner and marketer that produces high-value light products such as gasoline, diesel fuel, jet fuel, specialty lubricant products and specialty and modified asphalt. As ofDecember 31, 2021 , we owned and operated refineries located inKansas, Oklahoma ,New Mexico ,Washington andUtah and we market our refined products principally in theSouthwest United States , theRocky Mountains extending into thePacific Northwest and in other neighboring Plains states. In addition, we produce base oils and other specialized lubricants inthe United States ,Canada andthe Netherlands , and export products to more than 80 countries. We also own a 57% limited partner interest and a non-economic general partner interest in HEP, a master limited partnership that provides petroleum product and crude oil transportation, terminalling, storage and throughput services to the petroleum industry, includingHollyFrontier Corporation subsidiaries. 53 -------------------------------------------------------------------------------- Table of Content OnAugust 2, 2021 ,HollyFrontier ,Hippo Parent Corporation , a wholly owned subsidiary ofHollyFrontier ("New Parent"),Hippo Merger Sub, Inc. , a wholly owned subsidiary of New Parent ("Parent Merger Sub"),The Sinclair Companies ("Sinclair"), andHippo Holding LLC , a wholly owned subsidiary of Sinclair (the "Target Company "), entered into a business combination agreement (the "Business Combination Agreement"). Pursuant to the Business Combination Agreement,HollyFrontier will acquire theTarget Company by effecting (a) a holding company merger in accordance with Section 251(g) of the Delaware General Corporation Law wherebyHollyFrontier will merge with and into Parent Merger Sub, withHollyFrontier surviving such merger as a direct wholly owned subsidiary of New Parent (the "HFC Merger") and (b) immediately following the HFC Merger, a contribution whereby Sinclair will contribute all of the equity interests of theTarget Company to New Parent in exchange for shares of New Parent, resulting in theTarget Company becoming a direct wholly owned subsidiary of New Parent (the "Sinclair Oil Acquisition" and together with the HFC Merger, the "HFC Transactions"). Under the terms of the Business Combination Agreement, (a) each share of common stock ofHollyFrontier , par value$0.01 per share, will be automatically converted into one share of common stock of New Parent, par value$0.01 per share ("New Parent Common Stock") and (b) Sinclair will contribute the equity interests in theTarget Company to New Parent in exchange for 60,230,036 shares of New Parent Common Stock, subject to adjustment if, as a condition to obtaining antitrust clearance for the Sinclair Transactions (as defined below),HollyFrontier agrees to divest certainWoods Cross Refinery assets and the sales price for such assets does not exceed a threshold provided in the Business Combination Agreement. Additionally, onAugust 2, 2021 , HEP, Sinclair andSinclair Transportation Company , a wholly owned subsidiary of Sinclair ("STC"), entered into a contribution agreement (the "Contribution Agreement") pursuant to which HEP will acquire all of the outstanding shares of STC in exchange for 21 million newly issued common limited partner units of HEP and cash consideration equal to$325 million (the "HEP Transactions", and together with the HFC Transactions, the "Sinclair Transactions"), subject to downward adjustment if, as a condition to obtaining antitrust clearance for the Sinclair Transactions, HEP agrees to divest a portion of its equity interest inUNEV Pipeline, LLC and the sales price for such interests does not exceed the threshold provided in the Contribution Agreement. The Sinclair Transactions are expected to close in 2022, subject to customary closing conditions and regulatory clearance, including the expiration or termination of the waiting period under the Hart-Scott-Rodino Antitrust Improvements Act ("HSR Act"). OnAugust 23, 2021 , each ofHollyFrontier and Sinclair filed its respective premerger notification and report regarding the Sinclair Transactions with theU.S. Department of Justice and theU.S. Federal Trade Commission (the "FTC") under the HSR Act. OnSeptember 22, 2021 ,HollyFrontier and Sinclair each received a request for additional information and documentary material ("Second Request") from theFTC in connection with theFTC's review of the Sinclair Transactions. Issuance of the Second Request extends the waiting period under the HSR Act until 30 days after bothHollyFrontier and Sinclair have substantially complied with the Second Request, unless the waiting period is terminated earlier by theFTC or the parties otherwise commit not to close the Sinclair Transactions for some additional period of time.HollyFrontier and Sinclair are cooperating with theFTC staff in its review and are working diligently to satisfy the closing conditions as soon as possible. In addition, the HFC Transactions and the HEP Transactions are cross-conditioned on each other. See Note 2 "Acquisitions" in the Notes to Consolidated Financial Statements for additional information. OnMay 4, 2021 , our wholly owned subsidiary,HollyFrontier Puget Sound Refining LLC , entered into a sale and purchase agreement withEquilon Enterprises LLC d/b/aShell Oil Products US ("Shell") to acquire Shell'sPuget Sound refinery . The acquisition closed onNovember 1, 2021 . Cash consideration paid was$624.3 million .The Puget Sound Refinery is strategically located on approximately 850 acres inAnacortes, Washington . The 149,000 BPD facility is a large, high quality and complex refinery with catalytic cracking and delayed coking units and is well positioned geographically and logistically to source advantaged Canadian and Alaskan North Slope crudes. In addition to refining assets and an on-site cogeneration facility, the transaction includes a deep-water marine dock, a light product loading rack, a rail terminal and storage tanks with approximately 5.8 million barrels of crude, product and other hydrocarbon storage capacity. OnApril 27, 2021 , our wholly owned subsidiary, 7037619Canada Inc. , entered into a contract for sale of real property inMississauga, Ontario for base consideration of$98.8 million , orCAD 125 million . The transaction closed onSeptember 15, 2021 , and we recorded a gain on sale of assets totaling$86.0 million for the year endedDecember 31, 2021 , which was recognized in "Gain on sale of assets and other" on our consolidated statements of operations. During the first quarter of 2021, we initiated a restructuring within our Lubricants and Specialty Products segment. As a result of this restructuring, we recorded$7.8 million in employee severance costs for the year endedDecember 31, 2021 , which were recognized primarily as selling, general and administrative expenses in our Lubricants and Specialty Products segment. 54 -------------------------------------------------------------------------------- Table of Content In the third quarter of 2020, we permanently ceased petroleum refining operations at ourCheyenne Refinery and subsequently began converting certain assets at ourCheyenne Refinery to renewable diesel production. In connection with the cessation of petroleum refining operations at ourCheyenne Refinery , we recognized$25.8 million in decommissioning expense and$1.0 million in employee severance costs for the year endedDecember 31, 2021 , which were recognized in operating expenses in our Corporate and Other segment. OnNovember 12, 2018 , we entered into an equity purchase agreement to acquire 100% of the issued and outstanding capital stock of Sonneborn. The acquisition closed onFebruary 1, 2019 . Cash consideration paid was$662.7 million . Sonneborn is a producer of specialty hydrocarbon chemicals such as white oils, petrolatums and waxes with manufacturing facilities inthe United States andEurope . For the year endedDecember 31, 2021 , net income attributable toHollyFrontier stockholders was$558.3 million compared to net loss of$601.4 million and net income of$772.4 million for the years endedDecember 31, 2020 , and 2019, respectively. Gross refining margins per produced barrel sold for 2021 increased 49% over the year endedDecember 31, 2020 . Pursuant to the 2007 Energy Independence and Security Act, theEPA promulgated the RFS regulations, which increased the volume of renewable fuels mandated to be blended into the nation's fuel supply. The regulations, in part, require refiners to add annually increasing amounts of "renewable fuels" to their petroleum products or purchase credits, known as RINs, in lieu of such blending. Compliance with RFS regulations significantly increases our cost of products sold, with RINs costs totaling$548.0 million for the year endedDecember 31, 2021 . AtDecember 31, 2021 , our open RINs credit obligations were$9.4 million . TheEPA did not meet itsNovember 30, 2020 statutory deadline to set the 2021 renewable volume obligations. However, onDecember 7, 2021 , theEPA proposed renewable volume obligations for 2021 and 2022 along with a proposed reduction to the 2020 renewable volume obligations. The public comment period for the proposed renewable volume obligations closed onFebruary 4, 2022 . We will continue to monitor and adjust our RINs position commensurate with our production levels, market conditions and RFS regulations. FinalEPA mandate could impact our future earnings and results of operations. Impact of COVID-19 on Our Business The COVID-19 pandemic caused a decline inU.S. and global economic activity starting in the first quarter of 2020. This decrease reduced both volumes and unit margins across our businesses, resulting in lower gross margins and earnings. Global demand for transportation fuels began to improve late in the second quarter of 2020, but remained below pre-pandemic levels as of the end of the fourth quarter of 2021. In response to this demand and margin environment, as well as both planned and unplanned maintenance and weather-related downtime, we operated our Refining segment refineries at an average crude charge of 421,000 BPD during the fourth quarter of 2021.
In our Lubricants and Specialty Products segment, total gross margins and earnings experienced seasonal declines in the fourth quarter, with the mix shifting toward the Rack Forward portion of the business. The Rack Back portion experienced some margin compression from record levels and a combination of strong demand as well as limited supply due to a number of factors.
Our standalone (excluding HEP) liquidity was approximately$1.6 billion atDecember 31, 2021 , consisting of cash and cash equivalents of$220.1 million and an undrawn$1.35 billion credit facility maturing in 2026. Our standalone (excluding HEP) principal amount of long-term debt was$1.75 billion as ofDecember 31, 2021 , which consists of$350.0 million in aggregate principal amount of 2.625% senior notes due in 2023,$1.0 billion in aggregate principal amount of 5.875% senior notes due in 2026 and$400.0 million in aggregate principal amount of 4.500% senior notes due in 2030.
OUTLOOK
The impact of the COVID-19 pandemic on the global macroeconomy created an unprecedented reduction in demand, as well as a lack of forward visibility, for many of the transportation fuels, lubricants and specialty products and the associated transportation and terminal services we provide. Since the declines in demand at the beginning of the COVID-19 pandemic, we began to see improvement in demand for these products and services beginning late in the second quarter of 2020 and demand has largely recovered in the markets we serve with the exception of certain products, such as jet fuel.
Most of our employees have returned to work at our locations, and we continue to
follow
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Within our Refining segment, for the first quarter of 2022, we expect to run between 490,000 - 510,000 barrels per day of crude oil. This guidance includes the impacts of weather-related downtime at thePuget Sound Refinery in the month of January, a scheduled turnaround at theWoods Cross Refinery as well as maintenance activities at theNavajo Refinery throughout the first quarter of 2022. 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 towardRack Forward fromRack Back . This is driven by our expectation for continued declines in base oil prices and margins through the first quarter of 2022 as base oil supply continues to recover. In the first quarter of 2022, HEP expects to hold the quarterly distribution constant at$0.35 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 1.3x or greater with the goal of reducing leverage to 3.0-3.5x. During the third quarter of 2020, we increased our liquidity by$750.0 million with the issuance of$350.0 million in aggregate principal amount of 2.625% senior notes due in 2023 and$400.0 million in aggregate principal amount of 4.500% senior notes due in 2030. This additional liquidity was used for general corporate purposes, including for capital expenditures related to our renewable diesel projects. We do not intend to repurchase common stock under our$1.0 billion share repurchase program until completion of our ongoing renewables capital projects and completion of the Sinclair Acquisition. In addition, onNovember 1, 2021 , we closed on the acquisition of thePuget Sound Refinery , which was funded with a one-year suspension of our regular quarterly dividend and cash on hand. Our Board of Directors approved the one-year suspension of the regular quarterly dividend effective with the dividend declared for the first quarter of 2021 and is expected to resume the dividend after such time. OnMarch 27, 2020 , theU.S. government passed the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act"), an approximately$2 trillion stimulus package that included various provisions intended to provide relief to individuals and businesses in the form of tax changes, loans and grants, among others. At this time, we have not sought relief in the form of loans or grants from the CARES Act; however, we have benefited from certain tax deferrals in the CARES Act and may benefit from other tax provisions if we meet the requirements to do so. We anticipate$83 million in cash tax benefit in 2022 from the net operating loss carryback provisions under the CARES Act. The extent to which our future results are affected by the COVID-19 pandemic will depend on various factors and consequences beyond our control, such as the duration and scope of the pandemic, the effects of any new variant strains of the underlying virus, additional actions by businesses and governments in response to the pandemic and the speed and effectiveness of responses to combat the virus. The COVID-19 pandemic, and the volatile regional and global economic conditions stemming from it, could also exacerbate the risk factors identified in this Form 10-K under "Risk Factors" in Item 1A. The COVID-19 pandemic may also materially adversely affect our results in a manner that is either not currently known or that we do not currently consider to be a significant risk to our business. A more detailed discussion of our financial and operating results for the years endedDecember 31, 2021 and 2020 is presented in the following sections. Discussions of year-over-year comparisons for 2020 and 2019 can be found in "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Part II, Item 7 of our Annual Report on Form 10-K for the year endedDecember 31, 2020 . 56
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RESULTS OF OPERATIONS
Financial Data
Years Ended December 31,
2021 2020 2019
(In thousands, except per share data)
Sales and other revenues $ 18,389,142 $ 11,183,643 $ 17,486,578
Operating costs and expenses:
Cost of products sold (exclusive of depreciation
and amortization):
Cost of products sold (exclusive of lower of cost
or market inventory valuation adjustment) 15,567,052 9,158,805 13,918,384
Lower of cost or market inventory valuation
adjustment (310,123) 78,499 (119,775)
15,256,929 9,237,304 13,798,609
Operating expenses (exclusive of depreciation and
amortization) 1,517,478 1,300,277 1,394,052
Selling, general and administrative expenses
(exclusive of depreciation and amortization) 362,010 313,600 354,236
Depreciation and amortization 503,539 520,912 509,925
Goodwill and long-lived asset impairments - 545,293 152,712
Total operating costs and expenses 17,639,956 11,917,386 16,209,534
Income (loss) from operations 749,186 (733,743) 1,277,044
Other income (expense):
Earnings of equity method investments 12,432 6,647 5,180
Interest income 4,019 7,633 22,139
Interest expense (125,175) (126,527) (143,321)
Gain on business interruption insurance settlement - 81,000 -
Gain tariff settlement 51,500 - -
Gain on sales-type leases - 33,834 -
Loss on early extinguishment of debt - (25,915) -
Gain (loss) on foreign currency transactions (2,938) 2,201 5,449
Gain on sale of assets and other 98,128 7,824 5,013
37,966 (13,303) (105,540)
Income (loss) before income taxes 787,152 (747,046) 1,171,504
Income tax expense (benefit) 123,898 (232,147) 299,152
Net income (loss) 663,254 (514,899) 872,352
Less net income attributable to noncontrolling
interest 104,930 86,549 99,964
Net income (loss) attributable to HollyFrontier
stockholders $ 558,324 $ (601,448) $ 772,388
Earnings (loss) per share:
Basic $ 3.39 $ (3.72) $ 4.64
Diluted $ 3.39 $ (3.72) $ 4.61
Cash dividends declared per common share $ 0.35 $ 1.40 $ 1.34
Average number of common shares outstanding:
Basic 162,569 161,983 166,287
Diluted 162,569 161,983 167,385
Other Financial Data
Years Ended December 31,
2021 2020 2019
(In thousands)
Net cash provided by operating activities $ 406,682 $ 457,931 $ 1,548,611
Net cash used for investing activities $ (1,327,219) $ (330,162) $ (972,914)
Net cash provided by (used for) financing activities $ (211,803) $ 353,226 $ (848,255)
Capital expenditures $ 813,409 $ 330,160 $ 293,763
EBITDA (1) $ 1,306,917 $ (193,789) $ 1,702,647
57-------------------------------------------------------------------------------- Table of Content (1)Earnings before interest, taxes, depreciation and amortization, which we refer to as "EBITDA," is calculated as net income (loss) attributable toHollyFrontier stockholders plus (i) interest expense, net of interest income, (ii) income tax provision, and (iii) depreciation and amortization. EBITDA is not a calculation provided for under GAAP; however, the amounts included in the EBITDA calculation are derived from amounts included on our consolidated financial statements. EBITDA should not be considered as an alternative to net income or operating income as an indication of our operating performance or as an alternative to operating cash flow as a measure of liquidity. EBITDA is not necessarily comparable to similarly titled measures of other companies. EBITDA is presented here because it is a widely used financial indicator used by investors and analysts to measure performance. EBITDA is also used by our management for internal analysis and as a basis for financial covenants. EBITDA presented above is reconciled to net income under "Reconciliations to Amounts Reported Under Generally Accepted Accounting Principles" following Item 7A of Part II of this Form 10-K.
Supplemental Segment Operating Data
Our operations are organized into three reportable segments, Refining, Lubricants and Specialty Products and HEP. See Note 20 "Segment Information" in the Notes to Consolidated Financial Statements for additional information on our reportable segments.
Refining Segment Operating Data
As ofDecember 31, 2021 , our refinery operations included the El Dorado,Tulsa ,Puget Sound , Navajo and Woods Cross Refineries. The refinery operations of thePuget Sound Refinery are included for the periodNovember 1, 2021 (date of acquisition) throughDecember 31, 2021 . The following tables set forth information, including non-GAAP performance measures, about our consolidated refinery operations, which were retrospectively adjusted at year endedDecember 31, 2020 to reflect the revised regional groupings upon theCheyenne Refinery permanently ceasing petroleum refining operations in the third quarter of 2020. The cost of products and refinery gross and net operating margins do not include the non-cash effects of long-lived asset impairment charges, lower of cost or market inventory valuation adjustments and depreciation and amortization. Reconciliations to amounts reported under GAAP are provided under "Reconciliations to Amounts Reported Under Generally Accepted Accounting Principles" following Item 7A of Part II of this Form 10-K.
Years Ended
2021 (8) 2020 2019
Consolidated
Crude charge (BPD) (1) 400,720 365,190 388,860
Refinery throughput (BPD) (2) 431,870 395,080 417,570
Sales of produced refined products (BPD) (3) 424,100 391,670 414,370
Refinery utilization (4) 93.1 % 90.2 % 96.0 %
Average per produced barrel (5)
Refinery gross margin $ 10.89 $ 7.29 $ 15.92
Refinery operating expenses (6) 7.04 6.05 6.12
Net operating margin $ 3.85 Refinery operating expenses per throughput barrel (7)$ 6.92 $ 6.00 $ 6.07 (1)Crude charge represents the barrels per day of crude oil processed at our refineries. (2)Refinery throughput represents the barrels per day of crude and other refinery feedstocks input to the crude units and other conversion units at our refineries. (3)Represents barrels sold of refined products produced at our refineries (including HFC Asphalt) and does not include volumes of refined products purchased for resale or volumes of excess crude oil sold. (4)Represents crude charge divided by total crude capacity (BPSD). As a result of our acquisition of thePuget Sound Refinery onNovember 1, 2021 , our consolidated crude capacity increased from 405,000 BPSD to 554,000 BPSD. (5)Represents average amount per produced barrel sold, which is a non-GAAP measure. Reconciliations to amounts reported under GAAP are provided under "Reconciliations to Amounts Reported Under Generally Accepted Accounting Principles" following Item 7A of Part II of this Form 10-K. (6)Represents total Mid-Continent and West regions operating expenses, exclusive of long-lived asset impairment charges and depreciation and amortization, divided by sales volumes of refined products produced at our refineries. (7)Represents total Mid-Continent and West regions operating expenses, exclusive of long-lived asset impairment charges and depreciation and amortization, divided by refinery throughput. 58 -------------------------------------------------------------------------------- Table of Content (8)We acquired thePuget Sound Refinery onNovember 1, 2021 . Refining operating data for the year endedDecember 31, 2021 includes crude oil and feedstocks processed and refined products sold at ourPuget Sound Refinery for the periodNovember 1, 2021 throughDecember 31, 2021 only, averaged over the 365 days in the year endedDecember 31, 2021 .
Lubricants and Specialty Products Segment Operating Data
The following table sets forth information about our lubricants and specialty
products operations.
Years Ended December 31,
2021 2020 2019
Lubricants and Specialty Products
Throughput (BPD) 19,177 19,645 20,251
Sales of produced barrels sold (BPD) 34,016 32,902 34,827
Supplemental financial data attributable to our Lubricants and Specialty Products segment is presented below:
Total Lubricants
and Specialty
Rack Back (1) Rack Forward (2) Eliminations (3) Products
(In thousands)
Year Ended December 31, 2021
Sales and other revenues $ 1,005,152 $ 2,378,332 $ (822,872) $ 2,560,612
Cost of products sold $ 646,107 $ 1,992,567 $ (822,872) $ 1,815,802
Operating expenses $ 120,750 $ 131,706 $ - $ 252,456
Selling, general and administrative
expenses $ 27,071 $ 143,084 $ - $ 170,155
Depreciation and amortization $ 28,093 $ 51,674 $ - $ 79,767
Income from operations $ 183,131 $ 59,301 $ - $ 242,432
Year Ended December 31, 2020
Sales and other revenues $ 505,424 $ 1,667,809 $ (370,023) $ 1,803,210
Cost of products sold $ 456,194 $ 1,185,116 $ (370,023) $ 1,271,287
Operating expenses $ 96,463 $ 119,605 $ - $ 216,068
Selling, general and administrative
expenses $ 22,276 $ 135,540 $ - $ 157,816
Depreciation and amortization $ 29,071 $ 51,585 $ - $ 80,656
Goodwill and long-lived asset
impairments (4) $ 167,017 $ 119,558 $ - $ 286,575
Income (loss) from operations $ (265,597) $ 56,405 $ - $ (209,192)
Year Ended December 31, 2019
Sales and other revenues $ 661,523 $ 1,883,920 $ (452,915) $ 2,092,528
Cost of products sold $ 620,660 $ 1,412,291 $ (452,915) $ 1,580,036
Operating expenses $ 116,984 $ 114,539 $ - $ 231,523
Selling, general and administrative
expenses $ 31,854 $ 136,741 $ - $ 168,595
Depreciation and amortization $ 37,001 $ 51,780 $ - $ 88,781
Goodwill impairment (5) $ 152,712 $ - $ - $ 152,712
Income (loss) from operations $ (297,688) $ 168,569 $ - $ (129,119)
(1)Rack back consists of our PCLI base oil production activities, by-product
sales to third parties and intra-segment base oil sales to rack forward.
(2)Rack forward activities include the purchase of base oils from rack back and
the blending, packaging, marketing and distribution and sales of finished
lubricants and specialty products to third parties.
(3)Intra-segment sales of rack back produced base oils to rack forward are
eliminated under the "Eliminations" column.
(4)During the year ended December 31, 2020 , a goodwill impairment charge of
$81.9 million was recorded in rack forward. Also, during the year ended December
31, 2020 , a long-lived asset impairment charge of $204.7 million was recorded of
which $167.0 million was in rack back and $37.7 million was in rack forward.
(5)During the year ended December 31, 2019 , a goodwill impairment charge of
$152.7 million was recorded in the PCLI reporting unit within the Lubricants and
Specialty Products segment. We separately allocated this charge for purposes of
management's discussion and analysis presentation of rack back and rack forward
results entirely to rack back.
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Results of Operations - Year Ended
Summary
Net income attributable toHollyFrontier stockholders for the year endedDecember 31, 2021 was$558.3 million ($3.39 per basic and diluted share), a$1,159.8 million increase compared to a net loss of$601.4 million ($(3.72) per basic and diluted share) for the year endedDecember 31, 2020 . The increase in net income was principally driven by stronger product demand, which resulted in an increase in refinery gross margins and higher refined product sales volumes. Net income also increased due to lower of cost or market inventory reserve adjustments that increased pre-tax earnings by$310.1 million for the year endedDecember 31, 2021 and decreased pre-tax earnings by$78.5 million for the year endedDecember 31, 2020 . In addition, we recorded a gain on tariff settlement of$51.5 million and a gain of$86.0 million related to the sale of real property inMississauga, Ontario for the year endedDecember 31, 2021 . For the year endedDecember 31, 2020 , we recorded long-lived asset and goodwill impairment charges of$545.3 million offset by an$81.0 million gain recognized upon the settlement of a business interruption insurance claim and a$33.8 million gain on sales-type lease. The increase in net income for the year endedDecember 31, 2021 was partially offset by the impact of winter storm Uri, which increased natural gas costs by approximately$65 million across our refining system. Refinery gross margins for the year endedDecember 31, 2021 increased to$10.89 per produced barrel from$7.29 for the year endedDecember 31, 2020 . Sales and Other Revenues Sales and other revenues increased 64% from$11,183.6 million for the year endedDecember 31, 2020 to$18,389.1 million for the year endedDecember 31, 2021 due to a year-over-year increase in sales prices and higher refined product sales volumes. Sales and other revenues for the years endedDecember 31, 2021 and 2020 include$103.6 million and$98.0 million , respectively, in HEP revenues attributable to pipeline and transportation services provided to unaffiliated parties, and$2,550.6 million and$1,792.7 million , respectively, in unaffiliated revenues related to our Lubricants and Specialty Products segment for the years endedDecember 31, 2021 and 2020. Cost of Products Sold Total cost of products sold increased 65% from$9,237.3 million for the year endedDecember 31, 2020 to$15,256.9 million for the year endedDecember 31, 2021 , principally due to the increase in crude oil and feedstock prices and refined product sales volumes. Additionally, for the year endedDecember 31, 2021 , we recognized a$310.1 million lower of cost or market inventory valuation benefit compared to a charge of$78.5 million for the same period of 2020. Gross Refinery MarginsGross refinery margin per barrel sold increased 49% from$7.29 for the year endedDecember 31, 2020 to$10.89 for the year endedDecember 31, 2021 principally due to the increase in the average per barrel sold sales prices, partially offset by the increase in crude oil and feedstock prices. Gross refinery margin per barrel does not include the non-cash effects of lower of cost or market inventory valuation adjustments, long-lived asset impairment charges or depreciation and amortization. See "Reconciliations to Amounts Reported Under Generally Accepted Accounting Principles" following Item 7A of Part II of this Form 10-K for a reconciliation to the income statement of sale prices of products sold and cost of products purchased. Operating Expenses Operating expenses, exclusive of depreciation and amortization, increased 17% from$1,300.3 million for the year endedDecember 31, 2020 to$1,517.5 million for the year endedDecember 31, 2021 primarily due to our acquisition of thePuget Sound Refinery onNovember 1, 2021 , the increase in natural gas prices from winter storm Uri during the first quarter of 2021 and higher planned and unplanned repair and maintenance costs. Selling, General and Administrative Expenses Selling, general and administrative expenses increased 15% from$313.6 million for the year endedDecember 31, 2020 to$362.0 million for the year endedDecember 31, 2021 primarily due to higher employee-related expenses and professional services and legal costs incurred in connection with the recently announced acquisitions. Total acquisition integration costs for the year endedDecember 31, 2021 were$20.8 million . See Note 2 "Acquisitions" in the Notes to Consolidated Financial Statements for additional information on these acquisitions. Depreciation and Amortization Expenses Depreciation and amortization decreased 3% from$520.9 million for the year endedDecember 31, 2020 to$503.5 million for the year endedDecember 31, 2021 . This decrease was principally due to lower capitalized refinery turnaround costs during 2020 and lower depreciation expense resulting from the assets impaired in the second quarter of 2020. 60
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Goodwill and Long-lived Asset Impairments During the year endedDecember 31, 2020 , we recorded long-lived asset impairment charges of$232.2 million that related to ourCheyenne Refinery ,$26.5 million for construction-in-progress consisting primarily of engineering work for potential upgrades to certain processing units at ourTulsa andEl Dorado Refineries and$204.7 million related to PCLI. Also, during the year endedDecember 31, 2020 , we recorded a goodwill impairment charge of$81.9 million that related to Sonneborn. See Note 11 "Goodwill , Long-lived Assets and Intangibles" in the Notes to Consolidated Financial Statements for additional information on these impairments. Interest Expense Interest expense was$125.2 million for the year endedDecember 31, 2021 compared to$126.5 million for the year endedDecember 31, 2020 . This decrease was primarily due to higher capitalized interest, lower weighted average balance on HEP's credit facility and net gains related to our catalyst financing arrangement during the year endedDecember 31, 2021 as compared to net losses during 2020, partially offset by interest expense on our senior notes issued inSeptember 2020 .
For the years ended
Gain on Business Interruption Insurance Settlement During the year endedDecember 31, 2020 , we recorded a gain of$81.0 million upon the settlement of our business interruption claim with our insurance carrier related to a loss at ourWoods Cross Refinery that occurred in the first quarter of 2018. Gain on Tariff Settlement For the year endedDecember 31, 2021 , we recorded a gain of$51.5 million upon the settlement of a tariff rate case. See Note 19 "Contingencies" in the Notes to Consolidated Financial Statements for additional information on this case and settlement. Gain on Sales-type Leases During the second quarter of 2020,HEP and Delek US Holdings, Inc. renewed the original throughput agreement on specific HEP assets. Portions of the new throughput agreement met the definition of sales-type leases, which resulted in an accounting gain of$33.8 million upon the initial recognition of the sales-type lease during the year endedDecember 31, 2020 . Loss on Early Extinguishment of Debt For the year endedDecember 31, 2020 , HEP recorded a$25.9 million loss on the redemption of its$500 million aggregate principal amount of 6.0% senior notes maturingAugust 2024 at a redemption cost of$522.5 million . Gain (Loss) on Foreign Currency Transactions Remeasurement adjustments resulting from the foreign currency conversion of the intercompany financing notes payable by PCLI net of mark-to-market valuations on foreign exchange forward contracts with banks which hedge the foreign currency exposure on these intercompany notes were a loss of$2.9 million and a gain of$2.2 million for the years endedDecember 31, 2021 and 2020, respectively. For the years endedDecember 31, 2021 and 2020, gain on foreign currency transactions included losses of$4.0 million and$7.3 million , respectively, on foreign exchange forward contracts (utilized as an economic hedge). Gain on Sale of Assets and Other For the year endedDecember 31, 2021 , we recorded an$86.0 million gain related to the sale of real property inMississauga, Ontario , and HEP recorded a$5.3 million gain related to the sale of certain pipeline assets. See Note 1 "Description of Business and Presentation of Financial Statements" in the Notes to Consolidated Financial Statements for additional information. Income Taxes For the year endedDecember 31, 2021 , we recorded an income tax expense of$123.9 million compared to a benefit of$232.1 million for the year endedDecember 31, 2020 . This change to income tax expense in 2021 from income tax benefit in 2020 was principally due to pre-tax income during the year endedDecember 31, 2021 compared to a pre-tax loss for the year endedDecember 31, 2020 . Our effective tax rates were 15.7% and 31.1% for the years endedDecember 31, 2021 and 2020, respectively. The year-over-year decrease in the effective tax rate is principally due to the relationship between the pre-tax results and the earnings attributable to the noncontrolling interest that is not included in income for tax purposes. The difference in theU.S. federal statutory rate and the effective tax rate for the year endedDecember 31, 2021 was primarily due to the net operating loss carryback provisions of the CARES Act and federal tax credits. 61
-------------------------------------------------------------------------------- Table of Content LIQUIDITY AND CAPITAL RESOURCES HollyFrontier Credit Agreement OnApril 30, 2021 , we amended our$1.35 billion senior unsecured revolving credit facility to extend the maturity date toApril 30, 2026 (the "HollyFrontier Credit Agreement"). OnDecember 27, 2021 , theHollyFrontier Credit Agreement was further amended to provide an alternative reference rate for loans denominated in Euros and Sterling and to further supplement the reference rate replacement procedures for loans denominated inU.S. dollars following the anticipated cessation of LIBOR. The HollyFrontier Credit Agreement may be used for revolving credit loans and letters of credit from time to time and is available to fund general corporate purposes. AtDecember 31, 2021 , we were in compliance with all covenants, had no outstanding borrowings and had outstanding letters of credit totaling$2.3 million under theHollyFrontier Credit Agreement. HollyFrontier Financing Arrangements Certain of our wholly-owned subsidiaries entered into financing arrangements whereby such subsidiaries sold a portion of their precious metals catalyst to a financial institution and then leased back the precious metals catalyst in exchange for cash. The volume of the precious metals catalyst and the lease rate are fixed over the term of each lease, and the lease payments are recorded as interest expense. The current leases mature in one year or less. Upon maturity, we must either satisfy the obligation at fair market value or refinance to extend the maturity. HEP Credit Agreement OnApril 30, 2021 , HEP amended its$1.4 billion senior secured revolving credit facility decreasing the commitments under the facility to$1.2 billion and extending the maturity toJuly 27, 2025 (the "HEP Credit Agreement"). The HEP Credit Agreement is available to fund capital expenditures, investments, acquisitions, distribution payments, working capital and for general partnership purposes. It is also available to fund letters of credit up to a$50 million sub-limit and continues to provide for an accordion feature that allows HEP to increase the commitments under the HEP Credit Agreement up to a maximum amount of$1.7 billion . During the year endedDecember 31, 2021 , HEP had net repayments of$73.5 million under the HEP Credit Agreement. AtDecember 31, 2021 , HEP was in compliance with all of its covenants, had outstanding borrowings of$840.0 million and no outstanding letters of credit under the HEP Credit Agreement.
See Note 13 "Debt" in the Notes to Consolidated Financial Statements for additional information on our debt instruments.
Liquidity
We believe our current cash and cash equivalents, along with future internally generated cash flow and funds available under our credit facilities, will provide sufficient resources to fund currently planned capital projects and our liquidity needs for the foreseeable future. We expect that, to the extent necessary, we can raise additional funds from time to time through equity or debt financings in the public and private capital markets. In addition, components of our long-term growth strategy include the optimization of existing units at our facilities and selective acquisition of complementary assets for our refining operations intended to increase earnings and cash flow. In connection with the acquisition of thePuget Sound Refinery , our Board of Directors approved a one-year suspension of the regular quarterly dividend effective with the dividend declared for the first quarter of 2021 and is expected to resume the dividend after such time.
Our standalone (excluding HEP) liquidity was approximately
We consider all highly-liquid instruments with a maturity of three months or less at the time of purchase to be cash equivalents. These primarily consist of investments in conservative, highly-rated instruments issued by financial institutions, government and corporate entities with strong credit standings and money market funds. Cash equivalents are stated at cost, which approximates market value. InNovember 2019 , our Board of Directors approved a$1.0 billion share repurchase program, which replaced all existing share repurchase programs, authorizing us to repurchase common stock in the open market or through privately negotiated transactions. The timing and amount of stock repurchases will depend on market conditions and corporate, regulatory and other relevant considerations. This program may be discontinued at any time by our Board of Directors. As ofDecember 31, 2021 , we had not repurchased common stock under this stock repurchase program, and we do not intend to repurchase common stock under this program until completion of our ongoing renewables capital projects and completion of the Sinclair Transactions. In addition, we are authorized by our Board of Directors to repurchase shares in an amount sufficient to offset shares issued under our compensation programs. 62 -------------------------------------------------------------------------------- Table of Content Cash Flows - Operating Activities Year EndedDecember 31, 2021 Compared to Year EndedDecember 31, 2020 Net cash flows provided by operating activities were$406.7 million for the year endedDecember 31, 2021 compared to$457.9 million for the year endedDecember 31, 2020 , a decrease of$51.2 million . The decrease in operating cash flows was primarily due to higher working capital and higher turnaround expenditures, partially offset by the increase in gross refinery margins and$51.5 million received upon settlement of a tariff rate case. Changes in working capital decreased operating cash flows by$264.9 million for the year endedDecember 31, 2021 primarily due to higher inventory driven by heavy planned and unplanned maintenance and weather-related downtime in the fourth quarter of 2021.
Cash Flows - Investing Activities and Planned Capital Expenditures
Year EndedDecember 31, 2021 Compared to Year EndedDecember 31, 2020 Net cash flows used for investing activities were$1,327.2 million for the year endedDecember 31, 2021 compared to$330.2 million for the year endedDecember 31, 2020 , an increase of$997.1 million . OnNovember 1, 2021 , we closed the acquisition of thePuget Sound Refinery for aggregate cash consideration of$624.3 million . Cash expenditures for properties, plants and equipment for 2021 increased to$813.4 million from$330.2 million for the same period in 2020, primarily due to expenditures related to our renewable diesel units. Cash expenditures for properties, plants and equipment include HEP capital expenditures of$88.3 million and$59.3 million for the years endedDecember 31, 2021 and 2020, respectively. During the twelve months endedDecember 31, 2021 , we received proceeds of$98.8 million , orCAD 125 million for the sale of real property inMississauga, Ontario .HollyFrontier Corporation Each year our Board of Directors approves our annual capital budget which includes specific projects that management is authorized to undertake. Additionally, when conditions warrant or as new opportunities arise, additional projects may be approved. The funds appropriated for a particular capital project may be expended over a period of several years, depending on the time required to complete the project. Therefore, our planned capital expenditures for a given year consist of expenditures appropriated in that year's capital budget plus expenditures for projects appropriated in prior years which have not yet been completed. Refinery turnaround spending is amortized over the useful life of the turnaround. The refining industry is capital intensive and requires on-going investments to sustain our refining operations. This includes replacement of, or rebuilding, refinery units and components that extend the useful life. We also invest in projects that improve operational reliability and profitability via enhancements that improve refinery processing capabilities as well as production yield and flexibility. Our capital expenditures also include projects related to renewable diesel, environmental, health and safety compliance and include initiatives as a result of federal and state mandates. Our refinery operations and related emissions are highly regulated at both federal and state levels, and we invest in our facilities as needed to remain in compliance with these standards. Additionally, when faced with new emissions or fuels standards, we seek to execute projects that facilitate compliance and also improve the operating costs and / or yields of associated refining processes.
HEP
Each year theHolly Logistic Services, L.L.C. board of directors approves HEP's annual capital budget, which specifies capital projects that HEP management is authorized to undertake. Additionally, at times when conditions warrant or as new opportunities arise, special projects may be approved. The funds allocated for a particular capital project may be expended over a period in excess of a year, depending on the time required to complete the project. Therefore, HEP's planned capital expenditures for a given year consist of expenditures approved for capital projects included in its current year capital budget as well as, in certain cases, expenditures approved for capital projects in capital budgets for prior years. In addition, HEP may spend funds periodically to perform capital upgrades or additions to its assets where a customer reimburses HEP for such costs. The upgrades or additions would generally benefit the customer over the remaining life of the related service agreements. 63 -------------------------------------------------------------------------------- Table of Content Expected capital and turnaround cash spending for 2022 is as follows: Expected Cash Spending
Range
(In millions)
HollyFrontier Capital Expenditures
Refining $ 250.0 $ 270.0
Renewables 225.0 300.0
Lubricants and Specialty Products 45.0 60.0 Turnarounds and catalyst 70.0 100.0 Total HollyFrontier 590.0 730.0 HEP Maintenance 15.0 20.0 Expansion and joint venture investment 5.0 10.0 Refining unit turnarounds 35.0 50.0 Total HEP 55.0 80.0 Total$ 645.0 $ 810.0
Cash Flows - Financing Activities
Year EndedDecember 31, 2021 Compared to Year EndedDecember 31, 2020 For the year endedDecember 31, 2021 , our net cash flows used for financing activities were$211.8 million . During the year endedDecember 31, 2021 , we paid$57.7 million in dividends, purchased$7.1 million of treasury stock and paid$7.9 million of financing costs in connection with the amendment of the HollyFrontier Credit Agreement inApril 2021 . During the year endedDecember 31, 2021 , HEP had net repayments of$73.5 million under the HEP Credit Agreement and paid$6.6 million of financing costs in connection with the amendment of the HEP Credit Agreement inApril 2021 . In addition, HEP paid distributions of$75.4 million to noncontrolling interests and received contributions from noncontrolling interests of$23.2 million . For the year endedDecember 31, 2020 , our net cash flows provided by financing activities were$353.2 million . During the year endedDecember 31, 2020 , we received$742.1 million in net proceeds from the issuance of HFC's 2.625% and 4.500% senior notes, purchased$7.6 million of treasury stock and paid$229.5 million in dividends. Also during 2020, HEP had net repayments of$52.0 million under the HEP Credit Agreement, paid$522.5 million upon the redemption of HEP's 6.0% senior notes and received$491.3 million in net proceeds from the issuance of HEP 5.0% senior notes, paid distributions of$89.0 million to noncontrolling interests and received contributions of$23.9 million from noncontrolling interests. 64 -------------------------------------------------------------------------------- Table of Content Contractual Obligations and Commitments The following table presents our long-term contractual obligations as ofDecember 31, 2021 in total and by period due beginning in 2022. The table below does not include our contractual obligations to HEP under our long-term transportation agreements as these related-party transactions are eliminated in the Consolidated Financial Statements. A description of these agreements is provided under "Holly Energy Partners, L.P. " under Items 1 and 2, "Business and Properties." Payments Due by Period
Contractual Obligations and
Commitments Total 2022 2023 & 2024 2025 & 2026 Thereafter
(In thousands)
HollyFrontier Corporation
Long-term debt - principal (1) $ 1,750,000 $ -
423,267 85,938 160,391 109,438 67,500
Financing arrangements (3) 37,367 37,367 - - -
Supply agreements (4) 2,466,944 902,423 1,173,045 391,476 -
Transportation and storage
agreements (5) 1,627,800 166,456 328,025 293,544 839,775
Operating and finance leases (6) 476,950 127,978 188,105 52,286 108,581
Other long-term obligations 17,712 11,907 5,013 792 -
6,800,040 1,332,069 2,204,579 1,847,536 1,415,856
Holly Energy Partners
Long-term debt - principal (7) 1,340,000 - - 840,000 500,000
Long-term debt - interest (8) 222,456 44,700 89,400 61,273 27,083
Operating and finance leases (6) 105,019 8,025 15,403 13,627 67,964
Other agreements 13,276 2,746 5,246 1,271 4,013
1,680,751 55,471 110,049 916,171 599,060
Total $ 8,480,791 $ 1,387,540 $ 2,314,628 $ 2,763,707 $ 2,014,916
(1)Our long-term debt consists of the $350.0 million principal balance on our
2.625% senior notes, $1.0 billion principal balance on our 5.875% senior notes
and $400.0 million principal balance on our 4.500% senior notes.
(2)Interest payments consist of interest on our 2.625% senior notes, 5.875%
senior notes and 4.500% senior notes.
(3)We have a financing arrangement related to the sale and subsequent lease-back
of certain of our precious metals.
(4)We have long-term supply agreements to secure certain quantities of crude
oil, feedstock and other resources used in the production process at market
prices. We have estimated future payments under these fixed-quantity agreements
expiring between 2022 and 2025 using current market rates.
(5)Consists of contractual obligations under agreements with third parties for
the transportation of crude oil, natural gas and feedstocks to our refineries
and for terminal and storage services under contracts expiring between 2022 and
2039.
(6)Operating and finance lease obligations include options to extend terms that
are reasonably certain of being exercised.
(7)HEP's long-term debt consists of the $500.0 million principal balance on the
5.0% HEP senior notes and $840.0 million of outstanding borrowings under the HEP
Credit Agreement. The HEP Credit Agreement expires in 2025.
(8)Interest payments consist of interest on the 5.0% HEP senior notes and
interest on long-term debt under the HEP Credit Agreement. Interest on the HEP
Credit Agreement debt is based on the weighted average rate of 2.35% at
December 31, 2021 .
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CRITICAL ACCOUNTING POLICIES AND ESTIMATES
Our discussion and analysis of our financial condition and results of operations
are based upon our consolidated financial statements, which have been prepared
in accordance with accounting principles generally accepted in the United
States . The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenues and expenses, and related disclosure of contingent assets and
liabilities as of the date of the financial statements. Actual results may
differ from these estimates under different assumptions or conditions. We
consider the following policies to be the most critical to understanding the
judgments that are involved and the uncertainties that could impact our results
of operations, financial condition and cash flows. For additional information,
see Note 1 "Description of Business and Summary of Significant Accounting
Policies" in the Notes to Consolidated Financial Statements.
Inventory Valuation
Inventories related to our refining operations are stated at the lower of cost,
using the LIFO method for crude oil and unfinished and finished refined
products, or market. Inventories related to our renewable business are stated at
the lower of cost, using the LIFO method for feedstock and unfinished and
finished renewable products, or market. In periods of rapidly declining prices,
LIFO inventories may have to be written down to market value due to the higher
costs assigned to LIFO layers in prior periods. In addition, the use of the LIFO
inventory method may result in increases or decreases to cost of sales in years
that inventory volumes decline as the result of charging cost of sales with LIFO
inventory costs generated in prior periods.
At December 31, 2021 , the replacement cost of our refinery inventories exceeded
the LIFO carrying value. The excess of replacement cost over the LIFO carrying
value of inventory was $111.1 million at December 31, 2021 . Future decreases in
overall inventory values could result in an establishment of a lower of cost or
market inventory valuation reserve and additional charges to cost of products
sold. At December 31, 2020 , market values of inventories related to our refining
operations had fallen below historical LIFO inventory costs and, as a result, we
recorded lower of cost or market inventory valuation reserves of $318.9 million .
In the fourth quarter of 2021, we built renewable feedstock inventory in
connection with our Cheyenne renewable diesel unit and as of December 31, 2021 ,
the market value was below the LIFO carrying value. As a result, we recorded a
lower of cost or market inventory valuation reserve of $8.7 million .
Inventories consisting of process chemicals, materials and maintenance supplies
and RINs are stated at the lower of weighted-average cost or net realizable
value. Inventories of our Petro-Canada Lubricants and Sonneborn businesses are
stated at the lower of cost, using the FIFO method, or net realizable value.
Goodwill and Long-lived Assets
As of December 31, 2021 , our goodwill balance was $2.3 billion , with goodwill
assigned to our Refining, Lubricants and Specialty Products and HEP segments of
$1,733.5 million , $246.7 million and $312.9 million , respectively. Goodwill
represents the excess of the cost of an acquired entity over the fair value of
the assets acquired and liabilities assumed. Goodwill is not subject to
amortization and is tested annually or more frequently if an event occurs or
circumstances change that would more likely than not reduce the fair value of a
reporting unit below its carrying amount. Our goodwill impairment testing first
entails either a quantitative assessment or an optional qualitative assessment
to determine whether it is more likely than not that the fair value of a
reporting unit is less than its carrying amount. If we determine that based on
the qualitative factors that it is more likely than not that the carrying value
of the reporting unit is greater than its fair value, a quantitative test is
performed in which we estimate the fair value of the related reporting unit. If
the carrying amount of a reporting unit exceeds its fair value, the goodwill of
that reporting unit is impaired, and we measure goodwill impairment as the
excess of the carrying amount of reporting unit over the related fair value.
For purposes of long-lived asset impairment evaluation, we group our long-lived
assets as follows: (i) our refinery asset groups, which include certain HEP
logistics assets, (ii) our Lubricants and Specialty Products asset groups and
(iii) our HEP asset groups, which comprises HEP assets not included in our
refinery asset groups. These asset groups represent the lowest level for which
independent cash flows can be identified. Our long-lived assets are evaluated
for impairment by identifying whether indicators of impairment exist and if so,
assessing whether the long-lived assets are recoverable from estimated future
undiscounted cash flows. The actual amount of impairment loss measured, if any,
is equal to the amount by which the asset group's carrying value exceeds its
fair value.
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We performed our annual goodwill impairment testing quantitatively as of July 1,
2021 and determined there was no impairment of goodwill attributable to our
reporting units. The estimated fair values of our reporting units were derived
using a combination of income and market approaches. The income approach
reflects expected future cash flows based on estimated forecasted production
levels, selling prices, gross margins, operating costs and capital expenditures.
Our market approaches include both the guideline public company and guideline
transaction methods. Both methods utilize pricing multiples derived from
historical market transactions of other like kind assets. The excess of the fair
values of the reporting units over their respective carrying values ranged from
12% to 162%. Increasing the discount rate by 1.0% or reducing the terminal cash
flow growth rate by 1.0% would not have changed the results of our annual
goodwill testing.
In performing our impairment test of goodwill, we developed cash flow forecasts
for each of our reporting units. Significant judgment is involved in performing
these fair value estimates since the results are based on forecasted financial
information. The cash flow forecasts include significant assumptions such as
planned utilization, end-user demand, selling prices, gross margins, operating
costs and capital expenditures. Another key assumption applied to these
forecasts to determine the fair value of a reporting unit is the discount rate.
The discount rate is intended to reflect the weighted average cost of capital
for a market participant and the risks associated with the realization of the
estimated future cash flows. Our fair value estimates are based on projected
cash flows, which we believe to be reasonable.
We continually monitor and evaluate various factors for potential indicators of
goodwill and long-lived asset impairment. A reasonable expectation exists that
further deterioration in our operating results or overall economic conditions
could result in an impairment of goodwill and / or additional long-lived asset
impairments at some point in the future. Future impairment charges could be
material to our results of operations and financial condition.
Valuation of Business Combinations
We recognize and measure the assets acquired and liabilities assumed in a
business combination based on their estimated fair values at the acquisition
date. Any excess or surplus of the purchase consideration when compared to the
fair value of the net tangible assets acquired, if any, is recorded as goodwill
or gain from a bargain purchase. The fair value of assets and liabilities as of
the acquisition date are often estimated using a combination of approaches,
including the income approach, which requires us to project future cash flows
and apply an appropriate discount rate; the cost approach, which requires
estimates of replacement costs and depreciation and obsolescence estimates; and
the market approach which uses market data and adjusts for entity-specific
differences. We use all available information to make these fair value
determinations and engage third-party consultants for valuation assistance. The
estimates used in determining fair values are based on assumptions believed to
be reasonable but which are inherently uncertain. Accordingly, actual results
may differ materially from the projected results used to determine fair value.
Contingencies
We are subject to proceedings, lawsuits and other claims related to environmental, labor, product and other matters. We are required to assess the likelihood of any adverse judgments or outcomes to these matters as well as potential ranges of probable losses. A determination of the amount of reserves required, if any, for these contingencies is made after careful analysis of each individual issue. The required reserves may change in the future due to new developments in each matter or changes in approach such as a change in settlement strategy in dealing with these matters.
RISK MANAGEMENT
We use certain strategies to reduce some commodity price and operational risks. We do not attempt to eliminate all market risk exposures when we believe that the exposure relating to such risk would not be significant to our future earnings, financial position, capital resources or liquidity or that the cost of eliminating the exposure would outweigh the benefit. Commodity Price Risk Management Our primary market risk is commodity price risk. We are exposed to market risks related to the volatility in crude oil and refined products, as well as volatility in the price of natural gas used in our refining operations. We periodically enter into derivative contracts in the form of commodity price swaps, forward purchase and sales and futures contracts to mitigate price exposure with respect to our inventory positions, natural gas purchases, sales prices of refined products and crude oil costs. Foreign Currency Risk Management We are exposed to market risk related to the volatility in foreign currency exchange rates. We periodically enter into derivative contracts in the form of foreign exchange forward contracts to mitigate the exposure associated with fluctuations on intercompany notes with our foreign subsidiaries that are not denominated in theU.S. dollar. 67
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As ofDecember 31, 2021 , we have the following notional contract volumes related to all outstanding derivative contracts used to mitigate commodity price and foreign currency risk (all maturing in 2022): Contract Description Total Outstanding Notional Unit of Measure NYMEX futures (WTI) - short 495,000 Barrels Forward gasoline contracts - long 40,000 Barrels Forward crude oil contracts - short 70,000 Barrels Foreign currency forward contracts 450,686,305 U.S. dollar Forward commodity contracts (platinum) (1) 38,723 Troy ounces (1)Represents an embedded derivative within our catalyst financing arrangements, which may be refinanced or require repayment under certain conditions. See Note 13 "Debt" in the Notes to Consolidated Financial Statements for additional information on these financing arrangements.
The following sensitivity analysis provides the hypothetical effects of market price fluctuations to the commodity hedged under our derivative contracts:
Estimated Change in Fair Value at December 31,
Derivative Contracts 2021 2020
(In thousands)
Hypothetical 10% change in underlying commodity
prices $ 3,705 $ 344
Interest Rate Risk Management
The market risk inherent in our fixed-rate debt is the potential change arising
from increases or decreases in interest rates as discussed below.
For the fixed rate HollyFrontier Senior Notes and HEP Senior Notes, changes in
interest rates will generally affect fair value of the debt, but not earnings or
cash flows. The outstanding principal, estimated fair value and estimated change
in fair value (assuming a hypothetical 10% change in the yield-to-maturity
rates) for this debt as of December 31, 2021 is presented below:
Estimated
Outstanding Estimated Change in
Principal Fair Value Fair Value
(In thousands)
HollyFrontier Senior Notes $ 1,750,000 $ 1,912,753 $ 23,495
HEP Senior Notes $ 500,000 $ 502,705 $ 12,948
For the variable rate HEP Credit Agreement, changes in interest rates would
affect cash flows, but not the fair value. At December 31, 2021 , outstanding
borrowings under the HEP Credit Agreement were $840.0 million . A hypothetical
10% change in interest rates applicable to the HEP Credit Agreement would not
materially affect cash flows.
Our operations are subject to hazards of petroleum processing operations,
including but not limited to fire, explosion, cyberattacks and weather-related
perils. We maintain various insurance coverages, including property damage,
business interruption and cyber insurance, subject to certain deductibles and
insurance policy terms and conditions. We are not fully insured against certain
risks because such risks are not fully insurable, coverage is unavailable, or
premium costs, in our judgment, do not justify such expenditures.
Financial information is reviewed on the counterparties in order to review and
monitor their financial stability and assess their ongoing ability to honor
their commitments under the derivative contracts. We have not experienced, nor
do we expect to experience, any difficulty in the counterparties honoring their
commitments.
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We have a risk management oversight committee consisting of members from our senior management. This committee oversees our risk enterprise program, monitors our risk environment and provides direction for activities to mitigate identified risks that may adversely affect the achievement of our goals.
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