As Valero Energy (VLO) has posted earnings per share of $1.91 - beating the street estimates by $0.18 - we reiterate our bullish stance on the stock. VLO is mainly attractive to investors because of its cheap valuations. It is currently trading at a forward price to earnings of 6x - at a significant discount when compared to industry average of 7.2x. Its dividend yield is 2.4 percent, which is greater than its peers' average of 1.9 percent. In our opinion, Valero's St. Charles and Port Arthur hydrocracker projects are expected to be completed sometime next year, enabling the company to bring enhancement in its profitability situation.
The company has registered a net income of $674 million in the third quarter compared to $1.2 billion in the same quarter of last year. Although at face value this seems like a drop in income, in our opinion the company has performed really well despite the tough circumstances it faced during Hurricane Isaac. The company's unplanned maintenance of the Meraux refinery also hit its refinery margins. It has also shouldered a non-cash impairment loss after incurring a tax of $341 million and severance expense of $41 million related to its Aruba refinery. Keeping an eye at its future growth projects, we believe the company is now in a great position to generate considerable amount of profits.
In our opinion, considering the high oil consumption growth rate of 0.9 million per barrel in the fiscal year 2013, Valero's refineries will generate sustainable profits in the longer run, which is thereafter expected to increase further with the expected increase in the transportation industry, and household heating needs. However, in the short run (particularly focusing on the next quarter), we see the company's gasoline margins remaining narrow but the distillate and sour crude margins expanding significantly. The company has also decreased its capital spending guidance to $3.5 billion from the previous guidance of $3.6 billion for the fiscal year 2012.
Profitability in the fourth quarter is still a matter of concern for the investors as Valero has closed several refineries for maintenance purposes. This is more than likely to put an impact on its profitability. In the longer term, however, Valero's investment in lucrative projects such as Port Arthur and St. Charles would enable the company to generate significant cash flow in the coming years. We have discussed the financial feasibility of these projects in our previous report.
Despite the devastation of Hurricane Isaac and other problems the firm encountered, the stock has managed to show an upside of 11 percent over the course of the last three months. On the other hand, its competitors - Chevron (CVX) and Western Refining (WNR) - only showed an upside of 1 percent and 9 percent respectively. Tesoro (TSO) is the only player in the market which showed an upside of 38 percent due to its acquisition of British Petroleum (BP)'s California refinery. We believe VLO has significant potential to show a further upside with the commencement of its refineries and improvement in the U.S economic situation.
Source: Google finance
The stock is currently trading at EV/EBITDA of 3.9x, at a considerable discount when compared to Tesoro Corporation's and Chevron Corporation's EV/EBITDA of 3.7x and 4x respectively. It is trading at a premium when compared to Chevron Corporation's EV/EBITDA of 4.06x. VLO is trading at P/S of 0.12x, forward P/E of 6x and EV/Revenue of 0.16x, which are relatively lower than its competitors, as shown in the table below. Therefore, we recommend investors to take long position in the stock.
Valero Energy Corporation
Forward P/E (Dec 2013)