Fossil gas marketers may find some much needed breathe thanks to a new hike on crude oil prices. The positive impact is welcomed by an industry that operates with thin margins and increasing debt levels. Pressures that forced market competitors to tweak their business models in an attempt to remain operative and profitable. Hence, asset dropping and acquisitions have been common throughout the last year, and more are expected. Most important, marketers have developed new and creative business initiatives in an attempt to lure more customers through their pumps. Marathon Petroleum (NYSE:MPC), for example, introduced gift cards with an instant discount at those gas station that have adhered to the program. Here, Valero Energy (NYSE:VLO) will be placed under the magnifying glass.
Small Losses Hide Great Improvements
Valero Energy’s market performance during the last quarter of 2013 and first of 2014 was impressive. Face value increased over 55% percent, repeating a pattern seen the previous year. A small decline put a dent on the positive trend, which resume after a brief period. Today, stock value stands very close to the 52-week high at $56. Most important, Citigroup and Bank of America have downgraded the rating to “Neutral,” in clear opposition to Zacks’ upgrade to “Outperform.”
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- VLO 15-Year Financial Data
- The intrinsic value of VLO
- Peter Lynch Chart of VLO
The report for fiscal year 2013 gave Valero Energy an ambiguous image. On one side, revenue and net income experienced a small decline when compared year over year. On the opposite side, cash flow grew by $2 billion, representing a 59% increase. That has resulted in a highly improved debt-to-cash ratio, as debt continues to see small reductions. In the middle stands an operating margin which has remained stagnant for three years. Hence, overall performance has improved in spite of the small retreat of some indicators.
Most important, potential investors should be aware the performance improvement reported by Valero Energy is a direct result of a higher demand for oil production. The business model absorbed the new market synergy, using part of the benefits to repurchase four million shares. That decision is partly responsible for the small declines in financial indicators. However, the company has to address the recent complaints related to its refinery located in Mearaux, La. Citizens of Chalmette and Meraux have reported a loud sound followed by foul smells.
Turning Improvements Into Growth
Valero Energy trades at 11.3 times its trailing earnings, and carries a 20% discount to the industry average. The debt-to-cash ratio improvement has left the company in a comparatively better position than most of the competition. However, revenue growth for the last three years remains below that of its competitors. Most important, free cash flow has grown for the fourth year in a row, giving management good opportunities to reward shareholders and fund organic growth projects.
The most important upside to Valero Energy is having no additional risks. In other words, the company is exposed to the same risks the whole industry confronts: uncertainty regarding future regulations pertaining to greenhouse gas emissions and the potential for higher requirement of biofuels, government regulations, weather conditions and crude oil and natural gas prices. Hence, the upsides are all the more important. Among those positive characteristics, the company offers the most diversified refinery base (16 in total located throughout the U.S., Canada and the Caribbean), a higher concentration on industry-specific strategies, developing of a new master limited partnership and joint ventures, which deserve to be highlighted as catalysts for future growth.
When looking at gurus’ transactions, there is small evidence of long-term investment. Andreas Halvorsen (Trades, Portfolio), the largest shareholder GuruFocus tracks, has grown his position since the first quarter of 2013. However, important reductions have mediated the overall increase. Pioneer Investment, the only long-term shareholder during the last three years, has sold out during 2013. Nonetheless, the stock remains a good prospect for a long-term position.
Disclosure: Vanina Egea holds no position in any of the mentioned stocks.