Sunoco 2005 Annual Report Download - page 34

Quantitative and Qualitative Disclosures about Market Risk
Commodity and Foreign Exchange Price Risks
Sunoco uses swaps, options, futures, forwards and other derivative instruments to hedge a
variety of commodity price risks. Derivative instruments are used from time to time to
achieve ratable pricing of crude oil purchases, to convert certain refined product sales to
fixed or floating prices, to lock in what Sunoco considers to be acceptable margins for
various refined products and to lock in the price of a portion of the Company’s electricity
and natural gas purchases or sales. In addition, Sunoco uses derivative contracts from time
to time to reduce foreign exchange risk relating to certain export sales denominated in for-
eign currencies. Sunoco does not hold or issue derivative instruments for trading purposes.
Sunoco is at risk for possible changes in the market value of all of its derivative contracts;
however, such risk would be mitigated by price changes in the underlying hedged items. At
December 31, 2005, Sunoco had accumulated net derivative deferred losses, before income
taxes, of $3 million on its open derivative contracts. Open contracts as of December 31,
2005 vary in duration but do not extend beyond 2006. The potential incremental loss on
these derivatives from a hypothetical 10 percent adverse change in the year-end market
prices of the underlying commodities that were being hedged by derivative contracts at
December 31, 2005 was estimated to be $18 million. This hypothetical loss was estimated
by multiplying the difference between the hypothetical and the actual year-end market
prices of the underlying commodities by the contract volume amounts.
Sunoco also is exposed to credit risk in the event of nonperformance by derivative counter-
parties. Management believes this risk is negligible as its counterparties are either regulated
by exchanges or are major international financial institutions or corporations with
investment-grade credit ratings. (See Note 16 to the consolidated financial statements.)
Interest Rate Risk
Sunoco has market risk exposure for changes in interest rates relating to its outstanding
borrowings. Sunoco manages this exposure to changing interest rates through the use of a
combination of fixed- and floating-rate debt. Sunoco also has market risk exposure relating
to its cash and cash equivalents. At December 31, 2005, the Company had $1,081 million
of fixed-rate debt, $330 million of floating-rate debt and $919 million of cash and cash
equivalents. The unfavorable impact of a hypothetical 1 percent decrease in interest rates
on its cash and cash equivalents would be partially offset by the favorable impact of such a
decrease on the floating-rate debt. Sunoco also has market risk exposure for changes in in-
terest rates relating to its retirement benefit plans (see “Critical Accounting Policies—
Retirement Benefit Liabilities” below). Sunoco generally does not use derivatives to man-
age its market risk exposure to changing interest rates.
Dividends and Share Repurchases
On July 7, 2005, the Company’s Board of Directors approved a two-for-one split of Suno-
co’s common stock to be effected in the form of a stock dividend. The shares were dis-
tributed on August 1, 2005 to shareholders of record as of July 18, 2005. In connection
with the common stock split, the number of authorized shares of common stock was in-
creased from 200 million to 400 million, and the shares of common stock reserved for issu-
ance pertaining to Sunoco’s 6
3
⁄ 4 percent convertible debentures and various employee
benefit plans were proportionally increased in accordance with the terms of those re-
spective agreements and plans. Share and per-share data (except par value) presented for
all periods reflect the effect of the stock split.
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