What Does Phillips 66′s Earnings Boost Mean for Investors?
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By Simon Osipov
For as long as people drive cars, heat homes, and cook food, Phillips 66 (NYSE: PSX) is going to be there refining the petroleum products we use every day. In my last two articles, I’ve given a background of the company and why it is positioned to outgrow competitors and provide wealth for their shareholders. Sine it was spun off of ConocoPhillips (NYSE: COP), it has gained more than 20% in just a few months. Meanwhile, the S&P has remained in the red. August 1st was a big day for Phillips 66. For the first time as an independent company, Phillips released earnings--and they did not disappoint, to say the least. Expected EPS of 1.78 was thoroughly beat with a 1.86 EPS ($1.2 billion earnings) and 2.23 EPS ($1.4 billion adjusted earnings), a whopping 25% earnings surprise.
Refining & Marketing earnings of $1.185 billion reflected an increase of 53% from the same period last year. The Coker and Refinery Expansion (CORE) project at the Wood River Refinery allowed for higher yields and cheap feedstock costs. Also, the sale of the Trainer Refiner reduced exposure to more expensive Brent and Brent-like crudes. The sale generated approximately $230 million. Phillips also decided to take its Alliance Refinery off the sale block to retain exposure to cheap Gulf Coast feedstock. Phillips is in the process of acquiring 2,000 rail cars to transport shale oil domestically. Year-to-date, Phillips averaged a throughput of 120,000 barrels per day of shale crudes.
The international market, though, is by no means being ignored. Phillips increased capacity to export by about 14,000 barrels per day, adding up to a total of 130,000 barrels per day. Another four different projects are expected to increase export capacity to over 220,000 barrels a day by the end of next year. Emphasis is being placed on WTI crudes, as these will remain advantaged in the foreseeable future (see Brent and WTI futures spread below). Year-to-date, advantaged crude increased from 47% of the portfolio to 52%.
Phillips has stated before that a $1Bbl decrease in the WTI/Brent spread will yield a loss of about $90 million in net income. Should the chart above point to a red flag as the spread is clearly dropping big time? Probably not. Although WTI may not be as “advantaged” in coming years as they are now, Phillips will benefit from what some analysts are calling the “new golden era” in US refining. There is a supply glut in the middle continent, which will for many years be reflected in lower crude prices. The crude glut is not translating into a glut of gas and distillates because refiners like Phillips are strategically selling to international markets that do not have such easy access to sweet, Gulf Coast crudes. In this way, refining margins are being propped up.
At least for the next few quarters, Phillips should be benefiting from its refining operations. In the second quarter, though, the midstream segment posted a $91 million loss. The loss included a $170 million non-cash impairment of Phillips 66’s in the Rockies Express Pipeline. The biggest factor was a 38% decline in NGL prices and higher operating costs, partially offset by high volume. NGL prices are expected to increase with rising global demand, and natural gas prices are expected to fall when infrastructure catches up with the shale boom.
DCP Midstream (NYSE: DPM) is continuing development of its Sand Hills Pipeline, which will allow for NGL to be transported from the Permian Basin and Eagle Ford fields to the Gulf Coast, with planned initial capacity of 200,000 barrels per day. Sand Hills' first phase service is expected in the third quarter of 2012. DCP’s Southern Hills Pipeline project is also progressing as planned with expected full service in mid 2013. Southern Hills will have a capacity exceeding 150,000 barrels per day.
Just like R&M earnings, second quarter chemicals earnings shot up big time. Phillips announced that the chemicals segment had profits of $207 million. Adjusted earnings were $242 million, excluding a $35 million expense related to CPChem’s debt retirement. The $52 million adjusted earnings increase from the same time of the last year was due to improved chemicals margins and lower utility costs. CPChem repaid $600 million of debt in the quarter, and is expected to repay the remaining $400 million in the third quarter.
CPChem began construction in the second quarter on the world’s largest 1-hexene plant in Baytown, Texas. Start up is expected in 2014. Additionally, CPChem has plans for a 1.5 million metric ton per year ethane cracker and two 500,000 metric ton per year polyethylene units in the Gulf Coast. Phillips is positioning itself to grow its chemicals segment at solid double-digit growth rates.
More good news came when Phillips announced a $1 billion share repurchase program, signaling its bullish view on its own stock price. Phillips is not done growing yet. Analysts are revising price targets, with Barclays moving its $37 target up to $63 a few days ago! This is not a stock any intelligent value investor could afford to miss out on.
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This article is written by Simon Osipov and edited by Jake Mann. They don't own shares in any of the companies mentioned above. The Motley Fool has no positions in the stocks mentioned above. 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.