Valero Energy Corporation (NYSE:VLO) is one of the largest independent refiners in the United States. The company owns and operates 15 refineries in the U. S., Canada and United Kingdom. Together they produce a variety of products for the energy end-market including gasoline, diesel fuel, asphalt, petrochemicals, jet fuel, lubricants and other products. The company also owns and operates 10 ethanol plants with a combined production capacity of over 1 billion gallons per year. Currently the company markets its products through a combination of almost 7,000 retail outlets in the US, Canada, UK, Ireland and Aruba.In July 2012 Valero announced it intended to separate and spin off its retail business in an effort to unlock shareholder value and focus on its refining business. This week, on April 8, 2013 the company announced board approval to spin off 80% of CST Brands, Valero's retail business, in a tax free transaction to occur on May 1, 2013. According to Zack's Research, Valero shareholders will receive one share of CST Brands (NYSE:CST) common stock for every nine shares of Valero common stock held as of the record date of April 19, 2013. The new company will operate 1,032 convenience stores in nine states as well as 848 retail sites in six Canadian provinces. In addition the new company will supply product to 4,000 independently owned locations.
Stock Price Drops Over 5 Weeks
After hitting a 52 week high of 48.97 on March 5, 2013 the stock has dropped 13 percent in 5 weeks, even though the shares are up 23% year to date. The company has a P/E ratio of 11.1, below the S&P 500 ratio of 17.8.
Is the pullback attributed to the announced spin off of the retail business? Perhaps, but it shouldn't be. Consider, according to Standard and Poor's, the refining business contributed $4.45 billion in operating income in 2012 whereas the retail segment contributed $348 million. Ethanol had a loss of $47 million in 2012. Refining activities are clearly the driver of the company's success. Valero is one of many in the oil/energy business that have been going through a restructure as they discard non-essential segments while pouring more concentrated resources into profitable businesses. Other reasons for the price pullback include poor short term ethanol prospects, and new proposed EPA rules which aim to reduce sulfur in US gasoline and would cost Valero an estimated $300 million.
Valero…and Others Restructure to Grow
Valero is one of many in the oil/energy business that have been going through a restructure as they discard non-essential segments while pouring more concentrated resources into profitable businesses. Consider the example of Marathon Oil (NYSE:MRO) which in June 2011 spun-off its refining and marketing assets into Marathon Petroleum (NYSE:MPC). Or more recently, ConocoPhillips (NYSE:COP) spun-off its refinery and marketing assets in May 2012, creating Phillips 66 (NYSE:PSX) as an independent company. Valero shareholders may want to hold on to their new shares of CST Brands as the share price of both new businesses in the above examples grew more than the parent company in the first year they were separate companies. I acknowledge that these are not apples-to-apples examples as CST Brands doesn't have the same asset base or scale of business that Phillips 66 or Marathon Petroleum had when they were spun off from their respective companies and different parts of the business were kept by the parent company in each case. Still, according to the investopedia website, CST Brands will be the second largest independent retailer of fuel and convenience merchandise in North America with nearly 1,900 locations. Approximately 60% of its U.S. business is in Texas, which just happens to have one of the stronger economies in the U.S. More importantly, 60% of its sites are owned rather than leased making it a real estate play as well. It does expect to pay a dividend although the amount is unknown at this time.
Valero Location…in the 'Sweet Spot'
Valero is the largest Gulf Coast refiner and as such should benefit from increasing oil production from Upper Midwest shale plays and Canadian oil sands. Valero should benefit from increased raw supplies which may lead to lower input costs and result in creating a cost advantage over its competition. The eventual build-out of the Keystone Pipeline, should it happen, will add to Valero's opportunity.
Valero pays a dividend of 80 cents/share for a yield of 1.9%. The 3 year dividend growth rate is an above average 38% and the payout ratio is a below average 19%, meaning there is room for continued dividend growth. As indicated above, the new spin off company, CST Brands intends to pay a dividend although the amount has not been announced nor is there a concrete commitment for a dividend.
Metrics and competition:
Valero boasts a positive PEG ratio. Valero is the little guy against much larger competitors…but this presents opportunity.
5 year PEG
Price to Sales ttm
Source: Yahoo Finance
I think there is a real positive story building for Valero as well as the soon-to-be CST Brands. A vast majority of its business footprint is in North America, largely free of foreign government meddling. The physical location in the Gulf Coast is creating advantages as shale and Canadian raw supplies come through the center of the country to the Gulf for refining where Valero's assets are concentrated. As a retiree, I count on each individual stock in my portfolio to have the propensity for share price growth AND pay a growing dividend. Valero offers both.
Finally, I offer this bullish outlook by the website thestreet.com:
VALERO ENERGY CORP reported significant earnings per share improvement in the most recent quarter compared to the same quarter a year ago. The company has demonstrated a pattern of positive earnings per share growth over the past two years. We feel that this trend should continue. During the past fiscal year, VALERO ENERGY CORP increased its bottom line by earning $3.75 versus $3.67 in the prior year. This year, the market expects an improvement in earnings ($5.50 versus $3.75).
Disclosure: I am long VLO. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I am not a professional investment advisor, just an individual handling his own account with his own money. You should do your own due diligence before investing your own funds.