Northern Tier Energy (NYSE:NTI) is an independent downstream energy company with refining, retail, and pipeline operations serving the PADD II region in the U.S. Its refining business consists of a single refinery located in St. Paul Park, Minnesota and a 17% equity stake in Minnesota Pipe Line Company. The retail business operates about 230 convenience and franchised stores under the SuperAmerica brand. These convenience stores are located primarily in Minnesota and Wisconsin, selling various grades of gasoline and diesel, and other consumer items, such as non-alcoholic beverages and prepared food. The refinery supplies substantially all of the gasoline and diesel sold in the convenience stores.
Northern Tier Energy used to be owned and operated as part of Marathon Oil (NYSE:MRO), but it was sold to Acon Investments and TPG, private equity firms, a few years ago. Acon and TPG took it public in 2012 as a variable-payout master limited partnership [MLP], at a price of $14 per unit. Northern Tier currently has a market capitalization of about $2.34 billion, being traded on the New York Stock Exchange. More recently, Western Refining (NYSE:WNR) bought the General Partner and 38.7% of the variable LP units of Northern Tier Energy from Acon and TPG, for a total consideration of $775 million.
Northern Tier Energy's refining segment is the partnership's largest business, accounting for about 68% of its revenues. This business segment consists primarily of a refinery with a capacity to process around 81,500 barrels per day. It is one of two refineries located in Minnesota and one of four refineries in the Upper Great Plains area. Its location allows the partnership to have direct access, primarily via the Minnesota Pipeline, to abundant supplies of crude oil from the Bakken. More than half of its crude supplies come from the Bakken, with the remaining being sourced from Canada. Northern Tier Energy operates a vertically integrated refining platform possessing upstream connectivity to the Bakken and to downstream retail gas outlets. NTI derives the majority of its earnings from its refinery business and is therefore highly exposed to the refining industry.
Northern Tier Energy's geographical location is clearly a structural advantage being one of the refiners closest to the Bakken Shale, benefiting therefore from the increased oil production in the region. Oil production in the Bakken has increased considerably over the past few years, from about 400,000 barrels per day in 2011 to about 1 million in 2013. The partnership's refinery location allows it to source cost-advantaged crude feedstock, having lower transportation costs than most competing refineries, especially those located in the Golf Coast. Northern Tier Energy buys Bakken oil at a discount to West Texas Intermediate oil price due to its closest location, being able therefore to have above-average refining margins.
On the other hand, one of Northern Tier Energy's major weak points is the concentration risk due to having only a single refinery. This may negatively affect Northern Tier Energy for instance in case of accident. Its production may be interrupted for a long period of time, possibly leading to a lower ability to pay distributions to unitholders. It can also suffer minor accidents, like the fire that occurred in September, which led to unexpected repair costs and results on lower cash available for distributions. To protect against these risks, Northern Tier Energy has insurance contracts to protect against property damage and business interruption with a maximum loss limit of $1 billion combined, with no sub-limit for business interruption.
Regarding its downstream operations, Northern Tier Energy's retail chain and related supply contracts also help secure dedicated end markets for the refined products that it produces at its refinery. Substantially all gasoline and diesel sold by its retail business is supplied by its refinery, resulting in an integrated business model. In addition, the partnership has a contract with Marathon to supply substantially all of the fuel requirements of Marathon stores in the marketing area that Northern Tier Energy serves, helping to sell its refined products.
Regarding its financial performance, Northern Tier Energy has benefited over the past couple of years from improved refining margins within its industry, boosting its profitability to record levels. In 2012, Northern Tier Energy's revenues amounted to $4.7 billion, an increase of 8.7% from the previous year, primarily from higher sales volumes and higher average market prices for refined products. Its EBITDA stood at $740 million, an impressive increase of 72% from 2011. Its EBITDA margin improved from 10% in 2011 to 16%, which was Northern Tier Energy's record high and it is very good within its industry. Its net profit also increased substantially to $197 million, much higher than $28 million achieved in 2011.
However, during the first nine months of 201, Northern Tier Energy has reported much lower financial results, due to lower refining margins, or crack spreads, compared to 2012 showing that its business is relatively cyclical and volatile. The partnership's operating results were also negatively impacted by unexpected downtime at its refinery, resulting in lower volumes than during the same period of 2012. Northern Tier Energy's EBITDA was $294 million during the first nine months of the year, a decrease of 49% from the same period in 2012. Going forward, the partnership expects profitability in the fourth quarter of 2013 and first quarter of 2014 to benefit from wider market crude differentials that began in mid-September, showing that its recent weak financial results may recover soon.
Unlike traditional MLPs, Northern Tier Energy pays out all its cash available in distributions therefore offering a high-dividend yield. Its policy is to distribute an amount equal to the available cash it generates each quarter. This also means that its distributions will be volatile and if it does not generate cash no distribution will occur. Since its IPO, Northern Tier Energy has declared five distributions, totaling close to $5 per unit. Its trailing twelve months yield is close to 14%, but the last distributions have been lower. Its distribution related to the third quarter of 2013 is $0.31 per unit, payable in cash on November 27, 2013, resulting in an annualized distribution of $1.24 per unit or a forward dividend yield close to 5%.
Regarding capital expenditures [capex] Northern Tier Energy only spent $30 million in 2012, primarily to replace or maintain equipment at its refinery. In 2013 the partnership has engaged in a major turnaround cycle in its refinery, increasing its capex to between $50 to $60 million for the full year. The partnership has already completed two discretionary projects at its refinery, with the third one to be completed in the first quarter of 2014.
The big turnaround cycle for Northern Tier Energy's refinery was 2013, so it should not occur again for about 5 years. Thus, its capex should decline over the next few years, which according to analyst estimates should be about $40 million both in 2014 and 2015. This lower capex levels will result in higher cash available to distribute to unitholders over the next few years, increasing its sustainability and yield. Furthermore, Northern Tier Energy's balance sheet is very strong which is a further support for its distribution policy. As of September 30, 2013, its net debt was only $155 million, representing a net debt-to-EBITDA ratio of only 0.34x.
Northern Tier Energy is clearly an attractive yield play for income investors, given its sound business fundamentals, low leverage, and good cash flow generation. Its financial results over the past few quarters were relatively weak but they should recover in the short term as temporary effects abate, supporting higher distributions going forward, making Northern Tier Energy a compelling income investment.
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