(By Mani) Refining stocks have outperformed energy groups and the S&P 500 in the last 12 months and recently surged as a result of a fire at the giant Motiva refinery, a joint venture between Shell and Aramco).
Despite the strong performance, refining stocks remain attractive, trading at low price to earnings (P/E) and price to cash flow (P/CF) multiples relative to their historical ranges, other energy stocks and the S&P 500.
"Because of structural changes in the energy markets, we expect US refineries to continue to benefit from discounted crude costs and cheap natural gas, which is used both as fuel and feedstock, as well as growing export markets," Oppenheimer analyst Fadel Gheit wrote in a note to clients.
Following are the five stocks with strong fundamentals, cheap valuation and better shareholder returns that investors may consider in the refining upsurge.
Phillips66 (NYSE:PSX), which was spun off from ConocoPhillips (NYSE:COP), has 2.2 million barrels a day (mmbd) refining capacity, large gas gathering and processing, and petrochemical operations. It has a 2.4 percent dividend yield, 1 percent net debt ratio, but lower return on capital. The stock has higher P/E and P/CF multiples on consensus estimates.
"PSX has the highest diesel yield of 41% and benefits from cheap gas as feedstock and fuel in both refining and petrochemicals," Gheit added.
HollyFrontier Corp. (NYSE:HFC) has 443 mbd refining capacity and the highest Mid-Continent exposure with access to discounted crude. It has the highest unit profit and the strongest balance sheet among peers with more cash than debt.
In 2012, the company has twice increased its dividend and paid special dividends, and increased share buybacks, which boosted stock performance above all energy stocks and the S&P 500.
Valero Energy Corp. (NYSE:VLO) is the largest refiner in the US with 2.8 thousand barrels per day (mbd) of capacity, processing. Completing two hydrocracker projects in the second half of 2012 should boost earnings, reduce 2013 capex, and generate more than $1.3 billion in free cash flow, which will likely be used to buy back shares and increase the dividend. Net debt ratio is 27 percent, the highest in the group, but P/E & P/CF multiples are the lowest.
Marathon Petroleum Corp. (NYSE:MPC) has 1.2 mmbd refining capacity, large marketing operations, and extensive midstream assets, which are considered a master limited partnership (MLP) candidate. The Detroit refinery upgrading project to process 80 mbd Canadian heavy oil is expected significantly boost earnings beginning in the fourth quarter of 2012.
The company has a 2.5 percent dividend yield, 11 percent net debt ratio and its 15 percent return on capital leads peers and is ahead of schedule on its $2 billion share repurchase program.
Tesoro Corp. (NYSE:TSO) has 665 mbd of capacity, mainly in the West Coast & Mid-Continent, where it continues to source discounted Bakken crude. Tesoro continues to improve its operations and spend its cash flow on improving reliability, investing in high-return projects, and reducing debt.
The company, which does not pay dividends, has a net debt ratio of 20 percent and trades at the second lowest P/E and P/CF among peers.
"Share buybacks and dividend growth have been a key factor in refining stock performance. Given the inherent volatility in refining stocks, investors can maximize return buying well below the midpoint of the two-year price range, and selling well above it," Gheit noted.