PBF Logistics: 8% Yield Poised For Growth After Solid Results, But Priced For Zero
Summary
- PBF Logistics provided another set of solid financial results for the first quarter of 2021.
- They are generating ample free cash to easily grow their already high 8% distribution yield, plus their financial position is healthy with only moderate leverage.
- Despite being poised for distribution growth, their units currently are only approximately priced for zero future growth based upon my estimates for their intrinsic value.
- If they began growing their distributions by even a small 2.50% per annum, my estimates for the intrinsic value of their units jumps to $27, which is a very impressive 71.76% above their current unit price.
- My bullish rating is being maintained since they offer minimal potential long-term downside risk, but at the same time, still offer ample upside potential.
Introduction
Now that the first quarter of 2021 reporting season is well and truly underway, another quarter has come and gone with PBF Logistics (PBFX) once again providing a set of solid results, which were similar to their subsequent results discussed in my previous article. This leaves them poised to provide real and meaningful distribution growth but as this article explores, they still appear priced for zero growth, and thus they present minimal potential long-term downside risk but ample upside potential.
Background
Whilst they followed the lead of many midstream organizations during the scary start to 2020 by reducing their distributions, this does not automatically mean that income investors should be scared away forever. The past remains in the past but right now they still offer a high distribution yield of almost 8% that is well supported by their consistently solid financial results.
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It can be seen that their distribution coverage is very strong at well over 200% during the first quarter of 2021 and thus they have ample spare cash to boost unitholder returns. When looking elsewhere, it can also be seen that their financial position is healthy with only moderate leverage that has been trending down thanks to their excess free cash flow after distribution payments.
Whilst no one can guess exactly what management will do in the future, these are the two primary elements required to see distributions grow by a material amount. Since nothing has materially changed overall since publishing my previous analysis and thus if interested in further details, please refer to my previously linked article.
Discounted Cash Flow Valuations
Due to their high distribution yield and status as a Master Limited Partnership, it stands to reason that their most desirable aspect and thus intrinsic value centers on the income that they can provide their unitholders. Given this situation, their intrinsic values were estimated by utilizing discounted cash flow valuations that simply replaced their free cash flow with their distribution payments. If interested, all of the details regarding the inputs utilized for these valuations can be found in the relevant subsequent section.
Since selecting variables for discounted cash flow valuations can be rather difficult and open to small errors as well as manipulation, Monte Carlo Simulations have been provided to illustrate how the odds are stacked in each scenario. There is never a silver bullet for ascertaining whether the intrinsic value of an investment but generally speaking, the more positive the results are skewed, the better the probability of generating alpha. When conducting the analysis an estimated target price was found through finding the point in which whereby the results were equally split between positive and negative.
Bearish Scenario
To begin and assess the potential downside risk for investors, a bearish scenario has first been provided that sees their annual distributions remaining unchanged perpetually into the future at $1.20 per unit. Given their previously discussed very strong distribution coverage and healthy financial position, such an assumption of zero future distribution growth would be quite surprising and disappointing. Although some investors may point out that a distribution reduction could possibly be considered a bearish scenario, but this seems too unlikely in the same way that expecting ten years of double-digit growth is too bullish of an assumption.
Under this bearish scenario, it still sees 36% of their results producing an intrinsic value above their current unit price with a target unit price of $17.25, which still remains 9.73% higher than their current unit price of $15.72. Since valuations are part science and part art, these results indicate that their units are currently approximately priced for a bearish scenario that sees approximately zero future distribution growth. This is naturally quite positive and thus indicates there are not only minimal downside risks in the long-term but likely significant potential upside in a bullish scenario.
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Bullish Scenario
The second scenario is a bullish one whereby their distributions begin growing again but in order to remain conservative, this was assumed to average only 2.50% per annum perpetually into the future. They realistically have ample scope to increase their distributions by a far greater amount in the short to medium-term, but obviously, this remains impossible to know for certain. Whilst their actual performance will likely vary, this scenario should represent a middle-of-the-road bullish assumption.
When flipping around to this bullish scenario it sees a massive 100% of the results producing an intrinsic value above their current unit price with a target unit price of $27.00, which sits above their current unit price by a very impressive 71.76%. Whilst this may sound rather extreme, their units traded near this level when first listing so it is not outside the realms of possibility given their solid financial results and obviously indicates that unitholders could be set to generate some significant alpha.
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Risk-Neutral Scenario
The third and final scenario provided takes a risk-neutral approach with the same assumptions as the first bearish scenario, but this time the risk component of the discounted cash flow valuations that is measured by their 60M Beta was kept neutralized at 1.00. Their current 60M Beta is slightly lower at 0.89 and in theory, this stems from their units having a slightly lower systematic risk than the broader market, which means that this scenario will produce lower valuations since higher risk equals lower intrinsic values.
Even though I personally prefer to retain the risk component at its stated level, this approach nonetheless still provides additional food for thought plus also further supports that the earlier findings were not simply mathematical trickery. After slightly increasing and thus neutralizing their risk this scenario still manages to see 45% of their results producing an intrinsic value above their current unit price even with the previous bearish scenario. It also provided a target unit price approximately equal to their current unit price at $16.10 and once again supports the earlier assertion that their units are still priced for approximately zero future growth despite being poised for growth in the coming years.
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Valuation Inputs
The Monte Carlo Simulations utilized 121 different discounted cash flow valuations, which were based upon a wide range of cost of equity assumptions with expected market returns from 5% to 10% and risk-free rates from 0% to 5%, both of which using 0.5% increments. Each of the discounted cash flow valuations utilized a cost of equity as determined by the Capital Asset Pricing Model that utilized a 60M Beta of 0.89 (SA).
Conclusion
The appeal of their high distribution yield of almost 8% is easily visible on the surface, but when digging deeper it becomes even more appealing with minimal long-term downside risk and ample upside potential once their distributions start growing. Given this desirable situation and their continued solid financial results, it should be no surprise that my bullish rating is being maintained.
Notes: Unless specified otherwise, all figures in this article were taken from PBF Logistics’ Q1 2021 10-Q (previously linked), 2020 10-K, and 2018 10-K SEC Filings, all calculated figures were performed by the author.
This article was written by
Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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