Sunoco 2004 Annual Report Download - page 21

2004 2003 2002
Income (millions of dollars) $40 $43 $42
Coke sales (thousands of tons) 1,953 2,024 2,158
Coke segment income decreased $3 million in 2004 due largely to lower tax benefits from
cokemaking operations, partially offset by a favorable litigation settlement recognized in
2004. In 2003, Coke segment income increased $1 million primarily due to higher coke
prices at Jewell and the absence of a $4 million after-tax write-off of accounts receivable
from National Steel Corporation (“National”) recognized in 2002 in connection with this
former long-term contract customer’s Chapter 11 bankruptcy filing. As part of its bank-
ruptcy proceedings, National rejected its contract with Jewell. As a result, Jewell’s 2002
coke sales were made into lower-value short-term markets. Partially offsetting these factors
in 2003 were lower tax benefits from Jewell coke operations largely due to the expiration of
tax credits for certain ovens effective January 1, 2003 (see below).
The Coke business has third-party investors in its Jewell and Indiana Harbor cokemaking
operations which are currently entitled to 98 percent of the cash flows and tax benefits
from the respective cokemaking operations during the preferential return periods, which
continue until the investors currently entitled to preferential returns recover their invest-
ments and achieve a cumulative annual after-tax return that averages approximately 10
percent. Expense is recognized to reflect the investors’ preferential returns. Such expense,
which is included in Net Financing Expenses and Other under Corporate and Other in the
Earnings Profile of Sunoco Businesses, totaled $31, $36 and $27 million after tax in 2004,
2003 and 2002, respectively.
Income is recognized by the Coke business as coke production and sales generate cash
flows and tax benefits, which are allocated to Sunoco and the third-party investors. The
Coke business’ after-tax income attributable to the tax benefits, which primarily consist of
nonconventional fuel credits, was $35, $38 and $50 million after tax in 2004, 2003 and
2002, respectively. Under the current tax law, beginning in 2003, a portion of the coke
production at Jewell was no longer entitled to tax credits, which has resulted in a $6 mil-
lion after-tax decline in Coke’s annual income. In addition, under current law, the re-
mainder of the coke production at Jewell, and all of the production at Indiana Harbor, will
no longer be eligible to generate credits after 2007, which is expected to result in an addi-
tional decline in Coke’s annual income of approximately $15 million after tax. Prior to
2008, the tax credits would be phased out, on a ratable basis, if the average annual price of
domestic crude oil at the wellhead increases on an inflation-adjusted basis from $50.14 to
$62.94 per barrel (in 2003 dollars). If the annual crude oil price were to average at or
above the top of this range for any year prior to 2008, then it is estimated the correspond-
ing reduction in Coke’s after-tax income would approximate $15 million for such year.
The above estimates incorporate increased coke prices resulting from any such phase out,
as provided for in the coke purchase agreement with Ispat Inland Inc. (“Ispat”) with re-
spect to the Indiana Harbor East Chicago plant. The Company also could be required to
make cash payments to the third-party investors if the tax credit is reduced as a result of
increased domestic crude prices. The domestic wellhead price averaged $36.75 per barrel
for the year ended December 31, 2004 and $38.10 per barrel for the month of December
2004. (See Note 13 to the consolidated financial statements.)
The preferential return period for the Jewell operation was expected to end in 2011. How-
ever, due to anticipated higher costs associated with coal purchases from the Coke busi-
ness’ coal operation over the next few years, the Company anticipates that the preferential
return period will likely extend indefinitely. The preferential return period for the Indiana
Harbor operation is expected to end in 2007. Due to the difficulty of forecasting operations
and tax benefits into the future, the accuracy of these estimates is subject to considerable
uncertainty. The estimated lengths of these preferential return periods are based upon the
Company’s current expectations of future cash flows and tax benefits, which are impacted
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