The Best Oil Refiner: Analyzing The Big 4 U.S. Oil Refiner Stocks

Up to date on August twenty sixth, 2021 by Bob Ciura

Oil refiners have loved a formidable rally because the begin of 2021, because of the gradual reopening of the financial system together with increased demand for oil. In consequence, sure oil refiners have outperformed the market on this time interval.

12 months-to-date, the S&P 500 (as measured by SPY, the key ETF that tracks the market index) generated complete returns of 21%, whereas the massive 4 oil refiners have generated the next returns:

• Phillips 66 (PSX) year-to-date complete returns: 7%
• Valero Vitality (VLO) year-to-date complete returns: 22%
• HollyFrontier (HFC) year-to-date complete returns: 23%
• Marathon Petroleum (MPC) year-to-date complete returns: 46%

Given the spectacular rally of the refiners, buyers needs to be further cautious of their selections, as an ideal portion of the long run progress has already been priced in. With oil costs persevering with to rise, this holds true for a lot of the vitality sector.

You possibly can see our full listing of almost 250 vitality shares (together with essential monetary metrics like dividend yields and payout ratios) by clicking on the hyperlink under:

As well as, the worth of oil has loved a formidable rally, as WTI Crude is close to $68 per barrel, virtually double the worth final yr. A excessive oil value adversely impacts the demand for oil merchandise and thus it often hurts refining margins. Nonetheless, it’s a threat issue to think about for the long run.

On this article, we’ll evaluate the anticipated 5-year returns of the 4 main refiners by summing their EPS progress, their dividends and their anticipated P/E enlargement or contraction. Anticipated complete return information comes from our greater than 700 shares (and rising) Certain Evaluation Analysis Database.

Desk Of Contents

You possibly can immediately soar to any particular part of the article by clicking on the hyperlinks under:

Business Overview

Of the 4 main U.S. oil refiners, all however one (Phillips 66) have outperformed the S&P 500 up to now this yr. There are three main causes behind the spectacular rally of sure refiners.

First, demand for oil is recovering in 2021 after an enormous decline final yr amid the coronavirus pandemic. Second, after having paid hefty quantities on biofuel mixing prices for years, there are experiences the Biden administration might present some reduction to the U.S. refiners from the biofuel mixing mandate.

Whereas the magnitude of the reduction and its timing are nonetheless unknown, the profit is anticipated to be important.

Lastly, refiners will drastically profit from the brand new worldwide marine commonplace, which got here into impact in 2020. In response to the brand new commonplace, all vessels will burn low-sulfur diesel as an alternative of heavy gasoline oil. In consequence, the demand for diesel will drastically improve and can thus present a lift to refining quantity.

With that stated, the key 4 U.S. oil refiner shares are mentioned in larger element under.

U.S. Oil Refiner Inventory #1: Phillips 66 (PSX)

Phillips 66 was spun off from ConocoPhillips (COP) in 2012. Phillips 66 operates in 4 segments:

• Refining
• Chemical compounds
• Advertising
• Midstream

It’s a diversified firm with every of its segments behaving otherwise beneath varied oil value situations.

Supply: Investor Presentation

In early August, Phillips 66 reported (8/3/21) monetary outcomes for the second quarter of fiscal 2021. Refining margins improved however the profit was offset by increased RIN prices. However, the chemical section posted document earnings because of spectacular margins and excessive utilization.

In consequence, the corporate switched from an adjusted lack of –$1.16 per share within the first quarter to an adjusted revenue of $0.74 per share. The pandemic has begun to subside because of the distribution of vaccines, although the propagation of the delta variant has raised some issues for the restoration of the vitality sector. Nonetheless, Phillips 66 is extra defensive than pure refiners within the antagonistic state of affairs.

Progress initiatives within the oil trade take a few years to begin bearing fruit and therefore there’s a nice lag between capital bills and their resultant money flows. Thankfully for the shareholders of Phillips 66, the corporate is presently within the constructive phase of its cycle.

Whereas it has drastically diminished its capital bills lately, it has begun to reap the advantages from its large investments in 2014 and 2015, when it invested a complete of $9.5 billion. As well as, administration is well-known for its discipline to take a position solely in excessive–return initiatives.

Given this, it’s cheap to count on at the least 6.0% common annual EPS progress over the subsequent 5 years.

Based mostly on anticipated EPS of $7.03 for 2021 (equal to the 5-year mid-cycle common), the inventory is now buying and selling at a P/E of 10.1, which is under our honest worth P/E of 12. Growth of the P/E a number of might increase annual returns by 3.5% per yr over the subsequent 5 years. Shares additionally yield 5%, making Phillips 66 a excessive dividend inventory.

Total, the inventory is prone to provide a 14.5% common annual return over the subsequent 5 years.

U.S. Oil Refiner Inventory #2: Valero Vitality (VLO)

Valero is the largest impartial petroleum refiner on the planet. It owns 15 refineries within the U.S., Canada and the U.Ok. and has a complete capability of about 3.2 M barrels/day. It additionally has a midstream section, Valero Vitality Companions LP, however its contribution to complete earnings is beneath 10%. Valero needs to be seen as a virtually pure refiner.

Supply: Investor Presentation

In late July, Valero reported (7/29/21) its financial outcomes for the second quarter of fiscal 2021. Because of the continuing restoration from the pandemic and the resultant enchancment in refining margins, the refining section switched from an working lack of –$383 million in final yr’s quarter to working earnings of $361 million.

As well as, Valero produced a document quantity of renewable diesel and thus this section almost doubled its working earnings, to an all–time excessive degree.

In consequence, Valero switched from an adjusted loss of –$1.25 per share in final year’s quarter to a revenue of $0.48 per share. Valero is doing its finest to speed up the completion of progress initiatives associated to renewable diesel.

Valero has a aggressive benefit over its friends, particularly the excessive complexity of its refineries. Its excessive complexity renders it probably the most resilient throughout downturns, because the least advanced refineries are harm probably the most throughout such intervals on account of their lack of flexibility.

As a way to calculate the long run return of Valero, now we have used its mid–cycle earnings–per–share of $6.19, which is the 5–yr common till 2019. We view the headwind from the pandemic as short-term and count on the demand for oil
merchandise to proceed to get better within the upcoming quarters.

Furthermore, Valero has a promising pipeline of progress initiatives for the subsequent three years. These initiatives goal to decrease carbon depth and enhance refining margins. We thus count on the refiner to develop its earnings–per–share at a 4.0% common annual fee off its mid–cycle degree till 2026.

However, the inventory is now buying and selling at a P/E of 10.6, which is barely increased than our honest worth estimate (additionally the 10-year common P/E) of 10.4. Valuation modifications will due to this fact not considerably contribute to complete returns. Nonetheless, anticipated EPS progress of 4% whereas the dividend yields 6%. Whole returns are anticipated to barely exceed 10% per yr.

U.S. Oil Refiner Inventory #3: HollyFrontier (HFC)

HollyFrontier was fashioned with the merger of two impartial U.S. refiners, Holly Company and Frontier Oil, in 2011. The corporate operates in three segments:

• Refining
• Lubricants
• Holly Vitality Companions (HEP), a midstream entity

Nonetheless, HollyFrontier needs to be seen largely as a refiner. The refining section generates ~90% of the entire working earnings of the corporate.

Supply: Investor Presentation

In early Could, HollyFrontier reported (5/5/21) monetary outcomes for the first quarter of fiscal 2021. The pandemic continued to stress the corporate, because it diminished the refining margin by –28%, from $11.06 to $8.00 per barrel, on account of poor demand for refined merchandise. Refining margins had been additionally squeezed by the aggressive manufacturing cuts of OPEC and Russia, which have led to a full restoration of the oil value to pre–COVID ranges.

However, the lubricant division almost tripled its EBITDA, to an all–time excessive of $94.9 million, because of robust base oil margins and thus offset the poor outcomes of the refining section. In consequence, HollyFrontier posted a flat loss per share of –$0.53. We count on the refiner to get better in the second half of the yr because of the massive vaccination program underway.

Furthermore, HollyFrontier is excessively sensitive to the low cost of WTI to Brent, which has narrowed because of the collapse within the U.S. shale oil manufacturing. That stated, we count on shale oil manufacturing to develop considerably later this year and thus improve the low cost of WTI to Brent. Shale oil manufacturing is already within the early phases of restoration because of the rally of the oil value.

On Could 5th, 2021, HollyFrontier introduced that it has agreed to purchase the Puget Sound Refinery from Shell for $350 million. The corporate will fund the acquisition through the suspension of its dividend for one yr and money available.

Given the above talked about catalysts, we imagine it’s cheap to count on it to develop its EPS by about 3% per yr over the subsequent 5 years. However, the corporate doesn’t pay a dividend.

The inventory is now buying and selling at a P/E of 8.2, which is decrease than its historic common P/E of 10.3. Due to this fact, if the inventory reverts to its common valuation degree within the subsequent 5 years, it can incur a 4.7% annualized return from P/E enlargement.

Total, HollyFrontier is prone to provide a 7.7% common annual return over the subsequent 5 years. It is a respectable sufficient anticipated return, however not sufficient to warrant a purchase advice.

U.S. Oil Refiner Inventory #4: Marathon Petroleum (MPC)

After the acquisition of Andeavor Logistics in October 2018, Marathon Petroleum has turn out to be the biggest U.S. refiner, with 16 refineries and a refining capability of three.1 million barrels per day. It additionally has a advertising and marketing system that features ~6,800 branded areas. As well as, MPC owns MPLX LP (MPLX), a midstream Grasp Restricted Partnership, which has gathering and processing belongings in addition to pipelines for crude oil and gentle products.

In early August, Marathon Petroleum reported (8/4/21) monetary outcomes for the second quarter of fiscal 2021. Because of the huge vaccine rollout and the resultant enchancment within the demand for refined merchandise, MPC started to get better from the pandemic.

The refining section switched from an working lack of –$1.5 billion in final yr’s quarter to an working revenue of $224 million because of the enlargement of its refining margin from $7.64 to $12.45. In consequence, MPC switched from a lack of –$1.33 per share to a revenue of $0.67 per share. A return to profitability was additionally helped by the corporate’s aggressive value cuts.

Supply: Investor Presentation

Through the quarter, MPC accomplished the sale of its Speedway enterprise to 7–Eleven for after–tax proceeds of $16.5 billion in money. The deal features a 15–yr gasoline provide settlement for about 7.7 billion gallons of gasoline per yr. MPC will use the proceeds to scale back its debt and will even return $9 billion to shareholders through share repurchases. The quantity of share repurchases is very large, as it could possibly scale back the share rely by 25% on the present inventory value.

MPC is correctly positioned to profit from the brand new marine guidelines. Because of a sequence of previous investments, the refiner can improve about 600,000 barrels per day of low–worth residue to diesel. We count on the vitality market to proceed to get better from the pandemic because of the huge vaccination program that’s underway.

Nevertheless, on account of the sale of the Speedway enterprise, we count on MPC to develop its earnings–per–share solely 1.0% per yr on common off its mid–cycle degree (common 2015–2019) of $4.59.

However, Marathon is now buying and selling at a P/E of 12.7, which is far increased than its historic common of 10.7. If the P/E ratio declines from 12.7 to 10.7, the inventory would incur a 3.4% annualized P/E contraction.

Total, the inventory is prone to provide only a 1.6% common annual return over the subsequent 5 years, because the 1% anticipated EPS progress and the 4% dividend yield will likely be partially offset by P/E contraction.

Last Ideas

Because of the robust tailwind of the financial reopening and their robust enterprise fashions, the Huge 4 main U.S. refiners are prone to considerably develop their EPS within the subsequent 5 years. A number of refining shares have outperformed the S&P 500 to begin the yr, which might make buyers hesitant to purchase. Thankfully, we nonetheless see them as undervalued, with robust complete returns anticipated by their future EPS progress, rising P/E multiples, and dividends.

Within the comparability of three of the key refiners, the dividend yield didn’t differentiate them considerably. The outlier was HollyFrontier, which suspended its dividend this yr. In the meantime, MPC has the bottom projected complete return of the group, as it’s the inventory with the best anticipated P/E contraction (signaling it’s the most overvalued).

Quite the opposite, Phillips 66 appears to have probably the most engaging mixture of valuation, progress prospects, and dividend yield. In consequence, PSX is the inventory is prone to provide the very best 5-year return. Buyers also needs to word that it’s the solely refiner that’s extremely diversified and may hold thriving even in a downturn of the refining margins.

The truth is, if the worth of oil continues to rise within the upcoming years, it can most likely exert stress on refining margins on account of its stress on the demand for oil merchandise. In such a state of affairs, the midstream section of Phillips 66 will offset a lot of the harm of the refining section. Due to this fact, in such a state of affairs, Phillips 66 is prone to outperform its friends by a large margin.