Is This Oil Refining Company a Good Investment?
Soroush is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
HollyFrontier (NYSE: HFC) is not the largest oil and gas refining company in the United States, though it may have the brightest future. The result of last summer’s merger between Holly Corporation and Frontier Oil Corporation, HollyFrontier has returned 55.7 percent year-to-date, outpacing both the oil and gas refining industry (10.56%) and the broader S&P 500 Index (8.96%). Upon first glance, one may assume that this growth has been driven by efficiency gains from the merger; if you thought that, however, you’d only be partially correct. HFC has one unique advantage over its competitors: primo location. Specifically, it has operations in Wyoming, Kansas, New Mexico, Oklahoma, and Utah; this is not your traditional Gulf of Mexico-centric company. With the western U.S. experiencing its own oil boom, HFC is able to transport this resource at a lower cost than its competitors, due to its closer proximity to domestic oil fields. In industry-speak, this is known as a “feedstock advantage," which is even more desirable in a global economy with this horrific outlook.
Now, this advantage allows HollyFrontier to enjoy some exceptional margins, both from a net (6.54%), and operating (11.04%) standpoint. In this year’s first quarter, these margins improved by nearly 25 percent, as the company’s top and bottom lines soared past analyst estimates. Specifically, revenues jumped by 41 percent to $63.5 million, and earnings increased more than twofold to $0.60 a share. HFC execs reported that increased production in North Dakota’s Bakken region and Texas’s Permian Basin were the primary drivers for this growth.
When comparing HFC’s valuation metrics, a surprising story is told – the stock looks to be underappreciated by the markets. With a P/E ratio of 5.7X, HollyFrontier is cheaper than competitors like Valero Energy (NYSE: VLO) at 8.9X, Tesoro Corp (NYSE: TSO) at 7.5X, Western Refining (NYSE: WNR) at 39.5X, and Marathon Petroleum (NYSE: MPC) at 6.4X. From a historical standpoint, HFC is trading well below its own 10-year average P/E of 23.4X. In fact, the company’s earnings have been valued, on average, at a 38 percent premium to those of the S&P 500 over the past decade. This year, they appear cheaper, trading at a 61 percent discount. Going forward, the Street is predicting the company to finish 2012 with an EPS of $5.85. If consensus holds, and the stock can vault to a valuation on-line with its closest competitors, HFC can eclipse $40 a share by year’s end; it currently trades in the $36 range.
It is also important to take note of HollyFrontier’s cash flow, which has been growing with tremendous ferocity. In the first quarter alone, the company generated $254 million in cash, three-quarters of which was used for dividends and stock repurchases. Despite exhibiting extraordinary growth rates in terms of operating (372%) and free cash flow (1,277%) between 2010 and 2011, the bulls are lagging behind, so to speak. The stock currently trades at a price to cash flow ratio (4.6X) that is below the industry average (7.4X) and its slower growing peers like TSO (8.0X) and MPC (5.8X).
From a macroeconomic standpoint, the favorable price differential between West Texas Intermediate and the higher-priced Brent crude will continue to be a boon for HollyFrontier’s profitability. As geopolitical instability continues to rock the U.S.’s main suppliers of “black gold," domestic production will continue to be needed; this only benefits HFC further. Due to these advantages, along with the company’s combination of strong growth with persistent undervaluation, now may be the best time to get into the stock. WealthLift’s Sentiment Index currently rates HFC as a strong buy, with nearly all of the community’s users placing an “overperform” rating on the stock. For an innovative take on this and other financial news, visit WealthLift INSIDER today.
Fool Blogger Jake Mann does not own shares in any of the companies discussed in this article. The Motley Fool owns shares of Western Refining. Motley Fool newsletter services recommend HollyFrontier. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.