Back on May 8th, I wrote 4 Refiners Looking Good Due to WTI Leverage. This article documents a change in the refining space. Refiners trade much like other retail business, but historically these stocks rely on a growing United States economy. When the economy is healthy, there are more jobs and an increased disposable income. Refiners have historically relied on volume as margins have been tight. The change in this business has to do with differentials. United States refiners import a large portion of feedstocks from abroad. Historically WTI has sold at a slight discount to Brent. We are currently seeing very large differentials. This has changed for several reasons:
- Increased production of United States and Canadian oil decrease WTI price
- Large Brent oil reservoirs in OPEC are depleting increasing Brent price
- North Sea Brent reservoirs are depleting increasing Brent price
- Oil in Cushing Oklahoma is backed up decreasing the cost of WTI
- OPEC's recent vote to not increase oil production increased oil prices
The Brent currently sells for $107.80, with WTI at $85.38/barrel. As oil continues to pump through the mid-continent of the United States, refiners have access to an increasing flow of low cost oil. As this increases, cost savings will continue to be realized.
HollyFrontier (HFC), in my opinion, is the best run refiner in the space. Although it may not grow as fast as some smaller market cap competitors, it has very good assets. Holly beat second quarter earnings posting $3.58/share vs. the Street's $3.29/share. Income increased year over year from $1.24/share. For the first six months of 2011, HollyFrontier has earned $5.16/share. The first six months of 2010 earnings were $.71/share.
HollyFrontier states this improvement is largely due to higher refinery gross margins. It concluded these margin improvements were mostly from the price difference of WTI and coastal crude. All of HollyFrontier's crude is at or below the price of WTI. Refinery gross margins were $21.42 per produced barrel this quarter, compared to $11.01 for the same quarter of 2010. Analyst estimates have HollyFrontier growing 434% this year and 25.1% per year for the next five. This is a very good stock and is trading for 7.57 times next year's earnings. It is trading for eight dollars per share less than it did on August 1st. This pullback is a very good opportunity to get into this name.
Marathon Petroleum Corp. (MPC) had second quarter earnings of $2.29/share vs. analyst estimates of $1.96/share. This was a large improvement from the second quarter of 2010, where it reported an EPS of $1.13. Marathon reported increased differentials between WTI and Light Louisiana Sweet and between sweet and sour crudes. Over 50% of Marathon's refining capacity is located in the mid-continent, which will continue to receive cheap feedstocks from Canadian oil and WTI.
Most importantly, Marathon stated it would benefit from less expensive oil whether or not logistics systems in Canada and the United States can handle increased supply of crude oil. Gross margins increased to $10.78 per barrel in the second quarter of 2011 from $5.49 per barrel in the second quarter of 2010. Analysts estimate Marathon Petroleum will grow on average 41.92% per year for the next five. MPC is currently selling for 6.3 times next years earnings. Marathon looks good going forward and is a good play for someone looking for pipeline revenue.
Western Refining (WNR) had earnings per share of $.94 versus an estimated $1.16. Western missed estimates but compared to its second quarter of 2010 earnings of $.16 per share, it performed well. Western stated its improvement in earnings was mainly from cost advantages in WTI versus Brent. The second quarter of 2011 was the best ever in company history. Throughput in the second quarter averaged 153000 barrels per day.
Western's El Paso refinery had throughput of 130000 bpd and had gross margins of $24.65/barrel in the second quarter of 2011. El Paso's gross margin in the same quarter last year was $11.57. The Gallup refinery had throughput of 23000 bpd and gross margins of $29.35/barrel. In the second quarter of 2010, gross margins were $18.16/barrel. Total refinery gross margin per refinery throughput barrel of $23.42 was seen in the second quarter of 2011 versus $9.74 in the same quarter of 2010. Gross profit per refinery throughput barrel was $21,25 in the second quarter of 2011, compared to $8.25 a year ago. Western sells for a forward P/E of 6.29. Analysts estimate it will grow 50% per year for the next five years. This is my favorite play in this sector based on growth.
Tesoro (TSO) had very good second quarter earnings of $1.65/share versus the Street's estimate of $1.34. This compares to $.47 a year ago. This increase was attributed to higher throughput rates and significant crude cost advantages. Total throughput was 578000 bpd or 87% total crude oil capacity. This is compared to 561000 bpd or 84% capacity in the first quarter of this year. An important announcement from Tesoro was its plan to supply crude oil by rail from the Bakken to its Anacortez refinery in Washington.
Tesoro states that Bakken crude oil yields 16% more clean product and less fuel oil than Alaska North Slope crude. The differential between these products is $28/barrel offering a significant yield advantage. The rail will supply an estimated 30000 bpd. Gross refining margin was $16.61/throughput barrel. That's an improvement from $12.89/throughput barrel in the second quarter of 2010. If we compare total numbers to those of Tesoro's refineries in North Dakota and Utah, we see that latter's gross margin is $26.07/throughput barrel. Analyst estimates have Tesoro growing 1424.1% this year. It trades at a forward P/E of 6.37.
Valero Energy Corp. (VLO) reported $1.30 EPS for the second quarter versus the Street's estimates of $1.44. Valero reported increased throughput of 136000 bpd and increased margins of $1.84/barrel. Valero reported its highest throughput in three years. Valero noted a marked discount of WTI and Eagle Ford crudes when compared to Brent. Its margins have improved in the third quarter when compared to the second, and believes margins will be attractive into 2012. Valero's margin per barrel in the second quarter of 2011 was $11.41 versus $9.57 in the second quarter of last year. Its mid-continent margin was $16.50 versus $9.13. Analyst estimates have Valero growing 129% this year or 5.4% per year for the next five. It sells for 5.28 times next years earnings.
Alon USA Energy (ALJ) reported second quarter of 2011 earnings at $.30/share versus the Street's $.35/share. This compares to a loss of $.55/share a year ago. Although Alon missed earnings, it did better than expected. Its shutdown at Krotz Springs decreased operating income by $6 million and the one month delay startup of the hydrocracker unit at Bakersfield cost $7 million. These had a net income per share impact of $.14/share. Refinery operating margin per barrel of throughput in the second quarter of 2010:
- Big Spring margin $9.58
- California refineries average margin $2.87
- Krotz Springs margin -$1.95
Refinery operating margin per barrel of throughput in the second quarter of 2011:
- Big Spring margin $19.65
- California refineries average margin -$.75
- Krotz Springs margin $3.39
Alon USA trades for 5.24 times next year's earnings. Analyst estimates have it growing 153.5% this year and 20% per year for the next five years. Alon USA derives a large portion of its business from asphalt. I believe there are better investments in this sector.
CVR Energy (CVI) beat estimates in the second quarter of this year. It had an EPS of $1.48 versus the Street's estimate of $1.32/share. In the second quarter of 2010, CVR Energy had an EPS of 1 cent. Increased margins for petroleum products and improved prices for nitrogen fertilizer are the main reasons for its improved earnings. CVR Energy's refinery had margins per crude oil throughput barrel of $25.49 for the second quarter of 2011. The second quarter of 2010 margins were $6.70 per throughput barrel. Gross profit increased to $19.36/throughput barrel versus $1.13 in the second quarter of 2010. CVR Energy is a great way to play the refiners. Analysts estimate it will grow 713% this year and 20% per year for the next five. CVR Energy trades for 7.82 times forward earnings.
Delek US (DK) beat second quarter of 2011 estimates. It reported an EPS of $.80 versus the Street's estimates of $.69/share. In the second quarter of 2010, Delek had an EPS of $.23. Delek stated WTI had an average discount to Brent of $14 in the second quarter of this year. Its Tyler Texas refinery had margins of $21.26 per barrel versus $8.96 per barrel in the second quarter of 2010. Delek's El Dorado, Arkansas refinery had margins of $10.90/barrel. Analysts estimate Delek will grow 752.8% this year and 14.55% per year for the next five. Delek currently trades for 8.07 times next years earnings. Delek seems well positioned. Its retail unit is not doing as well as hoped but will pick up when the economy does. Delek had great margins from its Tyler Texas refinery, which should continue for an extended period.
In summary, I believe the refiners are well positioned in 2011. Even with a slow United States economy, refiners will continue to benefit from WTI's discount to Brent. I am not saying that this discount will grow larger, but I do not believe it will pull back significantly. The refiners that are best positioned will not have too large of a retail footprint. It will also have refineries in the mid-continent as throughput will continue to see good margins. Tesoro's move to rail Bakken oil to the west coast shows the pricing power light sweet Bakken oil has. Watch Western Refining, HollyCorp and CVR Energy to outperform the sector.