Quick Take On Spin-Off: Murphy Oil (MUR) / Murphy USA (MUSA)

Sep. 04, 2013 9:31 PM ETMUR, RS, MPC, MRO, DVLN, TA, CST, WMT, VLO3 Comments
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Steinway Capital Inc is a New York based proprietary investment research firm with a focus on opportunistic long-term investments. The firm focuses on spin-off related investment strategies, distressed and post distressed investments, and event driven special situation investments. Steinway Capital Inc. pursues no fixed methodology and is selective in its ongoing coverage targets. Prior to founding Steinway Capital in 2004, Christopher Schulz was for 5 years a Senior Analyst at Horizon Asset Management Inc/New York (a $15 billion asset management firm with hedge funds, mutual funds and managed accounts run by Murray Stahl and Steven Bregman, now known as Horizon Kinetics LLC). At Horizon, he was in charge of The Spin-Off Report, which during his tenure gathered a cumulative track record of 120%. Steinway Capital Inc advises institutional investors, family offices and self-directed affluent investors through written research and verbal consultation, and does not manage client assets. In addition to his Wall Street advisory activity, Christopher Schulz has 7 years of operational background in hotel audit at Sheraton, market research for Isopublic/Gallup, and various chemical laboratory testing/quality control assignments at Leica Geosystems, Rhone-Poulenc and SFS Intec/SFS Holding.

The growth platform for Murphy USA appears to be one of organic store addition at Wal-Marts. 200 or so stores. EBITDA should over time go from around 350 MM to 420-450 million. I estimate the short term price target of spinoff close to 50 bucks. 45-50 if I had to guess for a 12 month price band. I use about an 8x EBITDA multiple.

As to Murphy Oil, I have done a lot of work on Malaysia some of which can be glimpsed through my comments including an Instablog post on MISC Berhad which stands for the Malaysian International Shipping Company.. MISC which trades in Malaysia participates in the Malaysian oil sector opportunities in a slightly different way than Murphy Oil does. MISC supplies floating production storage and offloading platforms (FPSO) including the Gumusut-Kakap FPSO that will be used by the operators of the Gumusut-Kakap oilfields where Murphy participates in Kakap development. Gumusut-Kakap is the second deepwater offshore field in Malaysia after Murphy's Kikeh field. MISC also participates with a 50% interest in the FPSO that serves the Kikeh field which currently produces around 70,000 barrels of oil per day.

we know from upgrading work at Fpso Kikeh that output of Kikeh will go to 120,000 barrels per day. Gumusut-Kakap has another 120-140,000 per day capacity of which 50,000 is dedicated to Kakap.. All in all and subject to the risks of actually extracting the added hydrocarbon quantities near term production in Murphy fields in Malaysia is set to double from a not small base number.

Admittedly, there is bigger risk with something in hydrocarbons extraction going wrong or off plan than say in the steady eddy Murphy USA business.

The reserve life of Murphy Oil isn't that great but they have had a very decent run of the last couple of decades. I give them the benefit of the doubt that they can reinvent themselves, especially if Malaysia production plans are on target.

Having reviewed both names, I feel most comfortable to assume here both risks. MUR should have more earnings variability than MUSA, albeit I can foresee a distinct case where MUR surprises on the upside. I wouldn't bet against them. I am exposed to them through CET, MUR and now MUSA. CET is the longest holder of MUR known to me other than the founding family itself. Its a very well managed closed end fund in its own right for whatever it is worth.

Although I take notice that Third Point has exited its position being happy with the short term gain they have made. I believe both post spin investments created by Murphy have the characteristics of decent long term holdings. Murphy Oil wasn't an expensive one to being with with respect to its tangible book value and while I am not an expert on their abilities to reinvent their reserve book, I understand the near term value of book value. Murphy Oil on that basis trades a little bit like a liquidation, ludicrous as that sounds for a company that is labeled by Morgan Stanley as a mini-major or part of that sub-group. The valuation characteristics are not too dissimilar from a Talisman Energy.. But when you look at Anadarko (APC) or Encana (ECA) you have very different multiples and just of the top of the head Nexen (NXY) fetched a very different multiple. Marathon Oil (MRO) provides a different reference point for a company with sluggish international growth profile at about 1.3x book and some amount of restructuring charges diminishing earnings. The multiple at 15-16 x earnings is probably what it is because of some lack of confidence in them... spinoff Marathon Petroleum (MPC) more than doubled and has at times had a bigger market cap than the parent co MRO itself.

MPC now trades at 2x book value. Its had a great run for sure boosted by shale bonanza and great refining profits. Profits have quintupled since spinoff and there is a view that this may not last forever. The growth profile of MUSA should be more subdued given the different nature of their retailing and marketing operations. MUSA has some similarities with the Sunoco business that was bought by Energy Transfer last year. At least in its retailing aspects. Different animal though as SUN had lots of pipeline assets in addition to 4900 gasoline stations. Valero spinoff CST looks most similar in nature. The final disaggregation of these constituent assets into E&P producers, transporters (pipelines), refiners and retailers of end product is the surprising part.

The weakness of any of these businesses so created is in their supply agreements. In the case of Murphy USA there appears to have been no special relationship with the parent co on supplying the refined gasoline goods. Unlike with Valero and CST. This reduces the specter of nasty earnings surprises at Murphy USA because more likely than not things have already been conducted on an arms length basis going into the spinoff. A spinoff that clearly wasn't separated on an arms length basis is Travel Centers of America (TA). The contractual issues there reside not so much in gasoline supplies but in the rents they have to pay to their landlord under sale leaseback arrangements entered with parent. TA wasn't set up to enrich shareholders but more so to let the parentco feast high on the hog. I suspect no such evil intentions on the side of Murphy that lead to their spinoff of MUSA. Just some of the shades of spinoff gray to consider.

My thesis for now is that MUSA will outgrow to prosperity to make up for any diseconomies of scale felt in the short term. Some of the store count additions of 200 are part of that game plan. They have a very nice captive client base as a Wal-Mart centric business. Their business model very much reflects that everyday low pricing philosophy for which they are compensated with much higher volume.. Lower margins per unit but more overall bang for the buck. That is what I like having made very good experiences with other Wal-Mart centric but more esoteric businesses such as DVLN (DVL Inc), an original landlord to Wal-Mart in the days where Wal-Mart didn't own all its real estate. National Vision (formerly NVI, and today owned by Berkshire Partners) is also a good example of the good operational things that can happen in symbiosis with Wal-Mart. Each DVLN and NVI fell on tough times for reasons unrelated to Wal-Mart and become interesting value investments for someone like me who wasn't around when these firms even had their heydays.. if it wasn't for Wal-Mart, NVI would never have grown to its scale in the early to mid nineties. I am not an expert on the capex aspects that come with adding 200 stores at MUSA. This will in all likelihood drain decent cash. Folks like NVI have been adding 250 stores in 1993 and 400 in 1994, but the presumption is that these eyewear centers anchored within existing Wal-Marts were less capex intensive to begin with. Time will tell how many stores will be added per annum. I'd be happy if the 200 stores can be added over the next 3-4 years. That would in and of itself be a significant acceleration of their business providing some margin of safety to whatever else might happen in their biz.

Disclosure: I am long MUSA, MUR, OTCPK:DVLN.

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