The refining sector has been appreciating even with increases in oil price. When the price of oil increases, refining margins usually suffer. This would be true if WTI and Brent increased in concert. Although the price of WTI has grown, it has increased less then Brent. Brent generally refers to petroleum production from Africa, Europe and the Middle East. West Texas Intermediate (WTI) is a light, sweet crude. Refining costs can be difficult to understand. A simple way to figure refining margins is to use WTI as a refiner's cost and Brent as what they can sell at production.
Until September of 2010, the price of WTI to Brent had been approximately + or - $3. When WTI has a lower price, refining margins are greater, and the refiner's costs decrease. The price of Brent correlates with the what refiners realize for the products. When the price of Brent is high and the price of WTI is low, margins increase. In the past, WTI had a higher price then Brent. Both are light, sweet crude, but WTI has a lower specific gravity (lighter) and less sulfur (sweeter) then Brent.
There are several reasons for this price disconnect. On May 24th of 2007, the price of Brent was almost $8 higher then WTI. This was due to a decrease in United refining capacity. This created a bottleneck of WTI in the Cushing storage and pricing facility. As with any supply and demand situation, Cushing had too much supply and this temporarily suppressed the price of WTI. When refining capacity increased, stockpiles were reduced, and WTI price returned to its standard differential to Brent. This was a temporary scenario.
The current pricing situation could have larger and lasting effects on refining margins. In February of this year, the price of WTI was trading at $85/barrel and Brent for $103/barrel. The price of Brent has increased due to civil unrest in the Middle East. This includes Egypt, Libya, and Saudi Arabia. Another reason is depletion in the North Sea fields. These situations seem to be long term. The decreased price of WTI could be from increased production of light, sweet crude from U.S. shale plays. Middle East tensions, and Cushing oversupply could continue to linger. Tensions will continue in poorer countries until inflation is tamed and food costs reduce.
Valero (VLO) released earnings on April 26th. Although the company missed the Street's expectations, it gave reasons to be bullish. Valero earned $98 million last quarter or 17 cents per share. A year ago it lost 20 cents per share or $113 million. Analysts expected 28 cents per share. This looked like a miss for Valero, but its earnings were trimmed by 20 cents per share from maintenance delays. Valero's CEO Bill Kesse was optimistic based on emerging countries' increased use of fuel, and improving economics. Operating income increased to $276 million from a loss of $15 million a year earlier. Most importantly refining margins improved 18% to $7.05 per barrel, while throughput increased 9% to 2.1 million barrels per day. Operating income dropped 7% at its retail locations. Its ethanol business dropped 23%.
Chevron (CVX) had an impressive quarter. Its refineries quietly earned $622 million. That is three times more then the first quarter of 2010. Exxon's (XOM) downstream business has improved. Helped by increased refining margins, its refining business earned $1.1 billion. Royal Dutch Shell (RDS.B) had downstream earnings of $1.65 billion. This is a 112% increase versus the year ago quarter. Refining and higher oil prices are responsible for a large part of major integrated oil and gas companies total earnings:
Good earnings should continue for refining. This week has several names posting earnings.
Frontier (FTO) is a pure play refiner. 100% of profits come from its refining business. It has two complex refineries. Frontier's product markets are the Rockies and Plains States. Its Cheyenne refinery has crude oil capacity of 52000 bpsd. Cheyenne product yields are:
- 48% Gasoline
- 31% Diesel
- 15% Other
- 6% Asphalt
Crude supply is:
- 54% Heavy
- 40% Light
- 6% Other
Frontier's El Dorado refinery has crude oil capacity of 135000 bpsd. El Dorado product yields are:
- 50% Gasoline
- 38% Diesel
- 12% Other
Crude Supply is:
- 37% Light
- 35% Intermediate
- 19% Heavy
- 9% Other
Frontier will have continued strength from its refinery in the Niobrara. Its other refinery is hooked to the Bakken and Canadian oil sands. 12 analysts covering Frontier estimate an EPS of 99 cents. The first quarter of last year it had an EPS of negative 39 cents. 3 analysts are looking for revenue of $1.75 billion. This would be a sales increase of 37.4%.
Holly Corp. (HOC) has a pending merger with Frontier. This merger will make two good companies better. It has three refineries with total processing capacity of 250000 barrels per day. 59% of Holly's total business is refining. It owns 7.3 million LP units of Holly Energy Partners (HEP). Holly has integrated two Tulsa refineries into one complex unit. Current product mix is:
- 38% Gasoline
- 39% Diesel
- 11% Lubricants
- 7% Oil Intermediates/Other
- 5% Asphalt
The first quarter of 2011 estimates an EPS of $1.49. Holly's 2010 EPS was negative 53 cents. 3 analysts estimate upcoming revenues to equal $2.11 billion. This would be an increase of 12.7% over last year's first quarter. Holly will report on May 5th.
Western Refining (WRN) derives 88% of its business from refining. I currently own this stock. It has 3 refineries, one of which is idled. Western's El Paso refinery has capacity of 127800 bpd and a complexity of 7.9. Crude slate is 82% sweet, 11% sour, and 7% other. Its Gallup refinery has a capacity of 23000 bpd and a complexity of 9.9. 88% of its crude slate is sweet and 12% other products. Western also has 150 retail locations, that should continue to do well as the economy improves. 8 analysts are estimating an EPS of 30 cents. This is much better then the first quarter of 2010's loss of 35 cents. 4 analysts estimate Western's revenues to be $1.66 billion, which is a 13.4% decrease from the year prior. Western reports earnings on the 5th of May.
Delek US Holdings Inc (DK) has the smallest market cap of the refiners listed. Delek is up 67% in the last three months. The reason is the same as Frontier, Holly, and WNR. All four are 100% levered to WTI. Many refiners buy Brent to convert into products, some are specifically levered to oil in Canada and the US. Those with the highest percent of WTI will have higher margins. It owns one refinery with capacity of 60000 bpd and a complexity of 9.5. Delek has 420 retail locations. 6 analysts estimate Delek to have an EPS of 23 cents. EPS a year ago was a loss of 26 cents. 1 analyst estimates revenues of $566.74 million. This would be a decrease of 36.5%. Delek reports earnings on May 4th.
CVR Energy (CVI) recently spun off its fertilizer business was spun off. This subsidiary is CVR Partners (UAN). CVI's refining business has WTI advantaged feedstocks. Its refinery has a capacity of 115000 bpd and complexity of 12.9. The CVI refinery is located in Coffeyville, Kansas. This is close to the crude hub in Cushing and gives CVI an advantage with storage to optimize purchasing and crude slates. Its crude storage includes:
- Refinery 700000 bbls
- Gathering 500000 bbls
- Cushing 2700000 bbls
CVI is currently constructing an additional million barrel storage facility at Cushing. In 2010, the Coffeyville refinery produced 49% gasoline, 41% distillates and 10% other. CVI reports earnings on May 9th. An average of 4 analysts estimate an EPS estimate of 64 cents. Last year, CVI lost 25 cents per share. 2 analyst's average estimate a revenue of $932.93 million. This would be a sales growth of 4.3%.
Alon USA Energy (ALJ) has access to WTI feedstock through its Big Springs refinery. It has a 70000 bpd sour crude cracking refinery. This refinery provides 91% of Alon's retail motor fuel requirements. It has a Bakersfield refinery. Bakersfield is 90000 bpd heavy crude asphalt refiner complex. It will begin operations in mid-2011. Bakersfield and Paramount refinery are in the process of integration. Its Krotz Springs refinery is an 83000 bpd sweet crude residual cracking refinery. Krotz has access to foreign oil through its Louisiana offshore oil port.
Alon has 11 asphalt terminals. It contends the downturn in the asphalt business will create a demand by state and city governments in the near term. As governments collect tax revenues they will start fixing roads. Alon has over 300 7-eleven stores. It also supplies branded motor fuels to over 900 sites and 8 states. Alon has almost doubled its retail business since 2006. 6 analysts estimate an EPS of 21 cents for the first quarter of 2011. This is an improvement from an EPS of negative 91 cents. 3 analysts estimate this quarters revenue to be $1.5 billion. That would be an improvement of 158.6%. Alon reports earnings on the 5th of May.
Tesoro (TSO) is a play on refining and retail. It has 7 refineries with 665000 bpd of capacity. Tesoro has 1200 retail stations. In 2010, Tesoro purchased 65% of its crude oil from domestic sources with a large portion from the Alaskan North Slope. 35% of crude is foreign with a large portion from Canada. Tesoro has some interesting areas such as its Mandan, ND refinery (Bakken oil). Its California retail business will ramp up significantly as the economy improves. Tesoro reports earnings on May 4th. The average of 15 analysts is an expected EPS of 66 cents. The first quarter of last year Tesoro's EPS was a negative 97 cents, Estimated revenue for the first quarter is $5.83 billion. This would be an increase year over year of 26.6%.
Although demand has been sluggish for refined products, it is improving. Margins should be good as WTI prices are low with respect to Brent. Some of the refiners have increased in market cap between 300% to 500% in the past year. Even with this move, refiners are trading with forward PEs of 8 to 11 times earnings.
Disclosure: I am long WNR.