Phillips 66 (NYSE:PSX)
UBS Oil & Gas Conference Call
May 21, 2013 11:35 a.m. ET
Clayton Reasor -- Senior Vice President IR, Strategy and Corporate Affairs
Rosy Zuklic -- Manager IR
Started with Phillip 66, I would like to welcome Clayton Reasor, Senior Vice President IR, Strategy and Corporate Affairs, he will speaking, joining him is Rosy Zuklic, Manager of IR. Clayton, I will turn it over to you.
Thank you, Craig. It’s nice to be back at the UBS conference in Austin, Texas, no place I would rather be and hope you keep coming to Austin, it’s a great venue. (inaudible) as well keep up the good work, maybe one day you will get a ride (inaudible) Philip.
Slide two, contains our Safe Harbor Statement, let me see if I can advance it here. Obviously I'll be making some forward-looking statement today during the presentation and a question-and-answer session, actual results may differ materially from what I present today and sources of those differences can be found on slide two along with our filings with the SEC.
So, if you look back, two years ago to what we have said at the time we were respond from ConocoPhillips or if you look back at the analyst meeting 2012, look back at our latest analyst meeting, we just had analyst meeting in April of this year, the story it remains the same.
We are taking excess cash flows, our funding business is generating and applying it into the mainstream business and the chemical businesses, the higher value segments as a company and so this shift in portfolio is occurring and it will take a little time but you can see what the intention is on the pie-charts on the right-hand side of the graph and the rational behind this really stems from the fact that we believe the uplift between the domestic crude prices and global product prices will not be as durable or long-lived as the uplift that exist between North American natural gas or natural gas liquids and global crude prices which is what our midstream business or our chemical’s business operate on. So we think there is cycle time or there are number of cycles that this North America natural gas global crude prices is a lot more extended.
Strategy, from the start it all starts with the operating excellence, we are big believers and keeping people safe, we want everyone of our employees to go home every day, every week their end career without getting hut at our facilities.
The consequences of operational upsets are too severe for us to allow those kinds of things to happen. So we are big believers in operate on the excellence, our numbers reflects that. Also, big believers that environmental stewardship and maintaining reliability at our facilities.
We think we do have a unique position given as the strength of our chemicals and midstream assets and those are the businesses that we plan to grow. Capacity growth the chemicals business over the next 4 to 5 years expected to be about 30% and then we have significant growth opportunities not only in our own midstream but in our 50-50 JV with respect to DCP. In fact, $7 billion of capital over the next three years 14 – 15 to 16 will go into our wholly owned midstream business while DCP continues to grow primarily through dropping assets out of DCP into DPM.
The refining business for us is about returns and so we have got a large refining system, 2.2 million barrels per day, 1.8 million of that in the U.S. we run at well, we generated returns we believe at the top of the industry, we will see a chart later on last year but the focus really in a refining for us is in improving capital efficiency rather than growing capacity. So, you will see the investments that we make with the discretionary in nature and defining are clearly quick hit, high return, quick payout projects that allow us to run more advantageous crudes or increase our export capacity.
As we grow our business, we also recognize the importance of taking care of our shareholders, we think we have been very shareholder friendly, our dividend has increased to 150% in the last two years, dividend now we pay $2/share, we started at $.80 a share. We bought 10% of the company in, so quite a bit of the stock in over the last couple of years and we have recognized the value, especially in the mature business is relatively low return to return in cash and capital back to shareholders.
Finally, as we move into the more agile and different business in the midstream to recognize we need to build over traditional capability and so we have been fairly active attracting people to the company from midstream or other businesses that support the areas that we are trying to grow.
Everybody in the room, I’m sure is somewhere about what we have seen in the external environment and the change in the North America energy environment, so growing domestic natural gas and crude production has just reshape the industry and I think the whole philosophy is shifted from one of the resource constraint and declining production to one of the resource abundance and supply growth and it’s on that belief that US refining and petrochemical businesses enjoys free stock advantage as well as an energy cost advantage that we think will last over the next couple of decades. This allows us to meet domestic demand while competing favorably in export markets we couldn’t compete with as recently as five years ago, so you will continue to see us increase our product exports.
We believe that investors will put higher values on or higher multiples on businesses that have stable cash flow and also businesses with significant without pretensions so that influences our capital allocation into both midstream and chemicals business. As I said earlier, we believe that the uplift between natural gas and NGL global crude prices is more durable than what we are seeing between domestic crude prices and international refined product values.
So, our approach as I have said invest in more higher valued segments that are longer lasting while focusing on improving our returns in refining.
You can see our global portfolio, the markets that we serve are global, 80% of our assets are US-based, so as I mentioned earlier 11 of our 15 refineries are in the US. Essentially all of our midstream assets are based in the US, we do have some chemical assets in the Middle East, so five large petrochemical complexes, three in Saudi Arabia, two in Qatar but again 75% to 80% of the assets in the capital employed is based in the US and this is the place to be.
The fact that we have a chemicals business and midstream business and refining business allows us to look through these different value chains and we believe gives us an advantage in how to allocate capital between these different operating segments. And our asset mix will continue to shift over the time but essentially be US focused. So as we spend capital in the future while we see the market is growing in Asia and other parts of the developing world, the capital that we plan to put to work in terms of the increasing capacity will be US-based.
All of these businesses are industry-leading in terms of return on capital employed, we think this is foundational to creating value is capital efficiency and how well, how much you have to spent generate the next dollar of net income, so whether it’s midstream chemicals or refining and marketing, we have leading returns.
ROCE is also the key metric for us around the compensation both at the executive level and down throughout the organization. So it’s not just about building and spending more capital to build greater facilities which we love to do as we operate the businesses, it’s also how we create value and we think capital efficiency is a key metric there.
We would move now to talk about each of the specific business and I will start with midstream.
So our midstream business really consist of three business lines. One we called NGL which is our wholly owned NGL business and it contains our third interest in Sand Hills and Southern Hills pipelines. We also have interest in three fractionators on the Gulf Coast and the business also will contain our recently FID Sweeny hub project which consist of a 100,000 barrel a day NGL facility and a 150,000 barrel a day LPG exports facility at Free Port Texas.
Our transportation business consist primarily of our refining logistics networks, so its moving crude oil and refined products both to customers in the U.S. and internationally and the midstream segment also contains our 50% interest in DCP which is a leading NGL producer and gathering and processing company based primarily in the mid-con and sits on the lot of shale plates in the middle part of the country.
A key part of our growth story that's not shown on the slide is our own MLP, PSXP and it currently contains assets that are supporting our transportation business so the results from PSXP are consolidated into our transportation business today and excluding the DCP EBITDA of about 3 million net to us in 2013 our consolidated midstream business generated around $0.5 billion a year, graph on the right shows that there is another billion dollars of EBITDA that's moving into this midstream segment and of that billion dollar increase about half of it comes from the new frac and export facility that we are building in Sweeny, the frac comes on in 2015, the export facility comes around in ’16 about a quarter of the increase, a billion dollar increase assets that are currently inside the refining fence that we don’t break out that are currently reported inside the refining segment and then there is another $250 million to $300 million of EBTIDA around projects that are in feed stage that we haven’t disclosed or haven’t gone to FID on but you will hear more about as the year goes on.
Just touch on Phillip 66 partners, we do get several questions about MLP and this is a very important vehicle for a couple of reasons one to be able to compete in this space you need to have access to low cost of capital wherein MLP can provide, it also provides transparency for us or for you to be able to see the types of assets that generate fee-based an MLP able EBITDA and its a great source of future growth for us in the midstream segment.
We own 73% of the limited partner interest as well as the 2% general partner interest. We are targeting partnership distributions with the top quartile of our peer group and in March of this year PSXP closed it's first acquisition of Phillip 66 with great deal of sponsorship up from the parent obviously and it acquired the gold-line which runs from a boarder refinery to Wood River. It also acquired two refinery grade propylene spears that are located in the Medford Oklahoma is about $70 million of EBITDA that it acquired for $700 million.
The assets that are now in PSXP, Phillip 66 partners are key connectors to five of our U.S. refineries that we would consider core; two along the gulf coast our Sweeny refinery and Lake Charles refinery as well as the three refineries that are shown on the graph above, so strategically a very important part of the story as we plan to grow out midstream business.
The highest value or highest returning segment within Phillips 66 is our chemicals business. And we do this through a 50/50 JV with Chevron, called CPChem.
Capital spending chart is shown on the right. As you can see, we are planning to spending a lot of money in chemicals over the next three or four years. CPChem is totally self-funding. We expect that this business will not only fund its capital program but generate a dividend that pays out to both Chevron and the Phillips. And this is due to the strong market environment that we see for ethylene or polyethylene. So, 80% to 90% of the earnings that are coming out of the CPChem right now are generated through this polyethylene chain, CPChem also has a very large aromatics business so benzene, styrene, xylene, cyclohexane but those businesses tend to be more liquid based and just don’t have the margins uplift that the gas or lighter hydrocarbon space businesses have.
Over the past ten years CPChem invested heavily in the Middle East. So five major projects that are all running now but again that again is in the ethylene polyethylene chain and the next step change for CPChem is you see this $6 billion to $7 billion of capital being invested at a growth level will be 1.5 million metric ton per year cracker that will be built at Cedar Bayou which is east of Houston and then two polyethylene plants that will be built at Sweeny with at our Sweeny complex which is south of Houston. And those units are planned for start up in 2017.
The first of several new ethylene cracker complexes will start up in North America and first lower advantage should help us with the cost of construction and minimize the amount of inflation that we would expect to see in constructing these world scale facilities.
Project cost roughly $6 billion increases CPChem's worldwide ethylene capacity by 32%. So really big project for CPChem and in total we would expect total EBITDA from the number of projects that we are pursuing whether it's alphaolefins increased or debottle necking ethane cracking capacity at Sweeny but we expect EBITDA to increase by $1.3 billion to $1.6 billion a year when these plants are fully operational.
Our largest segment is our refining business. We are the most capital employed here, most of our people are in this part of our business and our strategy around refining is really about improving our returns. Refining initiatives are focused on increasing advantage crudes, cost discipline and increasing margins through finding new markets for our products.
Based on our current levels of capital employed refining ROCE has averaged around 10% over the last five years and we believe that enhancements that we have in mind would generate an additional 400 basis points of refining ROCE by 2018. It’s not insignificant given that refining has about $14 billion of capital employed in the business so that would represent somewhere around $600 million in that income after tax.
Half of that improvement comes from running more advantage crudes so we currently run somewhere between 90% and 95% of our latest as advantage crudes we would like to take that to 100%. We also plan on improving our yields.
So last year I think our clean product yield was somewhere around 84%, 1% improvement in clean product yield equates to about $150 million and then we have plan to take cost, operating cost out of the business.
So all of those initiatives together lead us to believe that we can get refining to a mid-teens returning business which is where we think it needs to be, to be able to be competitive going forward.
Our fourth segment is our marketing and specialist business and it consists of our European and U.S. marketing and our specialties lubricants and coke business. US marketing is really closely aligned with the refining business. It's really there to provide rateable off-take of refining production especially in markets that aren’t liquid. So think about the MITCON, think about California areas that there is not a lot of options for product sales outside of a system.
We have a wholesale model. We have somewhere between 7000 and 8000 franchises that market under the Philips 66 Conoco or 76 brand. And we enter into arrangements so that they are buying our product at the rack but fairly closely based to where we have refining assets.
In central Europe, we have a very high returning retail business that reaches consumers under the Jet brand. This business is located in Germany, Austria, and Switzerland. We have over 1200 sites that are predominately owned by us and operated by dealers and there the focus is on increasing profitability inside the shop. So similar to the U.S., where most of the profitability occurs inside the convenient store and gasoline margins are relatively small.
Our specialty business consists of our finished lubes business. We also have a JV base oil business and a needle and(inaudible) business where we make specialized needle coke at Humbert and our Lakes Charles Refinery and you can see the EBITDA out of our marketing specialty businesses not insignificant.
So this has impacted from time to time on the value of Brent, this is where we capture the uplift from rents and the rent cost are born in refining.
We understand the importance of capital allocation. We know that we need to do it well. And over the next few years we would expect that 60% of the capital allocated will be towards reinvestment in our business with 40% return to shareholders in the form of dividends or share repurchases.
We try to allocate capital conservatively. We understand the importance of maintaining financial strength and investment rate credit. And also by constraining capital it ensures that you are doing the very best projects.
Regarding distributions, we plan to grow our dividends at double digit growth rates over the next three years. You may have seen recently we just raised our dividends 28% to $2 a share. But we also see value in buying our shares in and as long as we continue to trade well below our intrinsic value of the company, you should expect us to buy our shares.
Capital structure, we believe will remain one of the best in the industry. We have about $6.4 billion of debt on the balance sheet right now. Net debt to cap ratio in the low single digit. Longer term we would expect debt to cap ratio in 20% to 30% range as when utilize low cost debt markets but the financial flexibility is especially important in businesses such as ours where you can have the volatility of earnings and cash flow in such a short period of time and you really need to be able to invest and distribute cash throughout all of these cycles.
Last month we announced an outlook on our capital program. So not only providing you 2014 capital expectations but those what we expect to spend in 2015 and ’16 so if you include the proportionate share of capital that we are spending inside of CPChem and DCP, we would expect $16 billion of capital to be spent over the next three years and of that $16 billion of total capital, $12 billion is directed towards growth. Of that $12 billion, 90% will be in the midstream and chemicals and $7 billion will be spent by our owned midstream business, fully consolidated midstream business with small amount into marketing or refining and about $5 billion of the $12 billion will be spent by our joint ventures CPChem and DCP.
Believe the dividends not only have to be secure and affordable that need to be recognized that they are safe but they also need to grow and we expect to have sufficient cash flow from operations to be able to grow our dividends at double digit rates over the next few years.
In 2013, our dividends represented less than 15% of our cash flow giving us room to increase them significantly. And in addition, our board has authorized $5 billion of share repurchases of which $1.8 billion remain.
We have purchased about $42 million shares under our share repurchase program and as result of those purchases an exchange of our Flow Improver’s business for stock earlier this year we bought back close to 10% of the company.
Our financial strategy remains consistent with what we pointed out in the past. We understand the importance of using a disciplined approach to capital allocation. We understand the importance of maintaining a strong and flexible balance sheet given the cyclicality of our business.
We are committed to growing shareholders distributions, we intend to continue to provide growth in those distributions through 2016 and believe the share repurchase programs are consistent with our philosophy to add value.
So looking at 2014 and beyond we have got high expectations. We have got good start but it's really not about what we have done in the past, it's about our future. Our strategy will remain unchanged, we are going to grow our midstream and chemicals business, we are going to focus on returns in our refining business. Distributions will grow over time and this is all built on a strong foundation of operating excellence and building organizational capability and we will want to be known as good allocators of capital.
So when we think about our initiatives for 2014, we come back and talk to you in Austin a year from now. We will look at this list and hopefully you can say that we have delivered on all of these things. I want to thank again for the opportunity to speak and your interest in Philips 66. Thank you.
At this time if there are any questions in the audience, I would like to open it up. Otherwise, Clayton I will kick it off with the question. A big part of your story has been focused on unlocking value. What are your thoughts on recent filing by Westlake Chemical Partners, LP which involved a number of ethylene crackers? Why wouldn't PSX proceed down in similar road with your chem’s assets?
Sure. We understand the accretion that comes from moving EBITDA out of the (inaudible) into a MLP, we would expect that there would be – there would need to be partnership agreement for us to move chemical assets out of our joint venture into an MLP, not sure that our partner necessarily would be aligned with what our thinking is around moving chemical assets into an MLP is way of creating value. So we would need to find a way for Chevron to be comfortable with that decision.
Okay and what about new investments?
I think most of our chemical’s business will be done inside of CPChem. That’s really where the expertise is. They understand the markets well. I think we have got other assets that we can move into an MLP before we have to start thinking about assets in the chemical area. There is also I would say a bit more commodity price risk on the assets that you would drop in from ethylene cracker or polyethylene facility versus the pipeline internal and more traditional fee based assets that we are looking at dropping into PSXP over the next couple of years.
Okay. How about a question on the midstream?
There has been a significant focus of yours in terms of your future growth and your investment right now. Are there any specific assets you see out there that you look at you think this should be a good way to augment organic investment. I am talking about maybe acquisitions?
So we are out there with a lot of the other midstream players looking at assets and I think to the extent that we can find things that can be built-on to existing assets that we have or could allow some of our refineries to run more advantage crudes or if there is some competitive advantage that we would have to acquiring an assets that another midstream player may not have, there might be an opportunity for us to do something in the MNA space.
The assets values are pretty fully, I would say they are fully – the value of the assets are fully reflected in the price that sellers are willing to sell them for. They are showing a lot of competition. A number of these transactions are done through auctions. So it's a difficult environment to buy things in but that said, we are looking at assets everyday and there is potential for us to do an acquisition if it makes sense for us given where our facilities are and what is that we are trying to do with our midstream business but I would say the majority of our midstream investment is going to be done organically.
Got it, okay. How about a question on refining?
Export potential, I know you are looking at growing that over the time. Can you just outline where you at right now with current export levels and really what is the getting factor that prevents you from reaching your capacity levels going out for future?
Sure. So I think at the end of the first quarter, we had little over 400,000 barrels a day of capacity. The plan is to take that to 550,000 barrels a day of export capacity. Essentially all of that growth and export facility is on the Gulf Coast.
Our first quarter exports were down relative to fourth quarter. Fourth quarter was approaching 200,000 barrels a day, first quarter was around 140,000 - 150,000 barrels a day that was due to our alliance refinery was down and turnaround. So alliance is exporting quite a bit of up product that have an impact there.
We still find markets very open to us to move barrels out of the gulf coast into Latin America and South America, West Africa and actually some barrels into Europe. So I guess the restriction on increasing export to this point would just be the availability of our dock space and being able to move barrels across and I would also say we optimize where product is placed.
So to the extent that U.S. gasoline prices have arisen to a point that it's more profitable for us to move gasoline in the U.S. that’s where the product will go. So there is – a bit of it depends on the (inaudible) but we would like to have that optionality built into our system. We think that in order to maintain high utilization rates in refining you need to be able to export products.
Okay. Got it. One final question.
California I know it's a subject that you probably tired of answering I asked the similar question to Valero.
Looking at time that in with the slide where you have about a target of getting to 1.5 billion of EBITDA growth in the midstream, a portion of that coming from assets within the refinery fence, does any of that bucket consist of midstream assets in your California refineries?
I don't think so. Even if it were, it would be relatively small amount. You know as we think about midstream assets that are suitable for dropping into PSXP I would say our focus is on mid-con in the Gulf Coast. We will continue to -- focusing California is really trying to find the way of getting advantage crudes whether its shell crudes or Canadian crudes of other crudes into that system, they really have not benefited from the advantage crudes to way that the rest of the country has. They also have been able to participate in the export markets to the extent that the Gulf Coast markets have but given the potential for California, this is the business that's cash positive. Now it doesn’t generate the kind of returns we like to see in our refining business but if we could run more advantage crudes in our California system, we could at least make them more competitive.
Perfect. Well there are no further questions in the audience, I would like to thank both Clayton and Rosy for coming today. Thanks a lot. Please join me in thanking.
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