August 2, 2012:

State oil giant Saudi Aramco has extended the deadline to bid for construction of a new refinery in Jizan by one month, industry sources said. The refinery in Jizan, an underdeveloped province bordering the kingdom's southern neighbour Yemen will have a capacity of 400,000 barrels per day (bpd). Far from Saudi's oilfields on the Gulf coast, the refinery is part of a crucial plan by Aramco, increasingly looking to expand its downstream activities, to raise its domestic refining output to 3.5 million bpd by 2016. Bidding is now due to close in mid-September after some contractors asked for an extension to prepare their engineering, procurement and construction (EPC) packages, industry sources said.

Separately, bids for expansion of an oil lubricants refinery in Yanbu, the Saudi Aramco Lubricating Oil Refining Co (Luberef), are due to be submitted on September 1. Luberef is 70 percent owned by Saudi Aramco while Saudi Jadwa Industrial Investment owns the remaining 30 percent in Luberef, after U.S. oil firm ExxonMobil sold its stake. Luberef, established in 1976, produces around 550,000 tonnes per year of oil lubricants at its two refineries on the kingdom's Red Sea coast at Jeddah and Yanbu. As a result of the expansion in the Yanbu refinery, which now has a capacity of 280,000 tpy of oil lubricants, a type of base oil that is new to the Gulf region will be produced.

U.S. Jacobs Engineering conducted front-end engineering and design (FEED) for the expansion of the refinery, whose capacity will double once the project is completed in 2015. An executive at Luberef told Reuters in 2010 the cost of the project is expected to be around $1 billion.

By Reuters

August 2, 2012:

Prior to the market open on Wednesday, Phillips 66 (PSX) reported earnings that smashed estimates. The earnings this quarter were more interesting than normal, as this was the first independent report for the company since splitting from ConocoPhillips (COP). Following completion of this transaction, ConocoPhillips is now a leading refining and marketing (R&M), midstream, and chemicals company. Phillips 66's R&M operations include 15 refineries with a net crude oil capacity of 2.2 million barrels per day, 10,000 branded marketing outlets, and 15,000 miles of pipeline systems.

The company reported a fantastic $1.4 billion in adjusted earnings, or $2.23 per share. This compared to analyst estimates for around $1.78. Most importantly, these numbers set the baseline for the new entity.

Q2 2012 Earnings Highlights

The majority of earnings came from the R&M sector at just under $1.2 billion for the quarter. This leaves limited earnings provided by the midstream and chemicals businesses, where investors hope for growth. Below are the earnings highlights.

    Adjusted earnings of $1.4 billion or $2.23 per share

    Successful separation from ConocoPhillips completed May 1, 2012

    Operating cash flow of $1.4 billion

    Improved refining and marketing margins

    Refining capacity utilization of 93%

    Midstream impacted by lower NGL prices

    Closed the sale of the Trainer Refinery for $230 million

Strategic Review

The refining business is benefiting from lower feedstocks from domestic oil supplies. In that regard, Phillips 66 is increasing access to domestically produced, advantaged crude oil via rail by acquiring 2,000 rail cars to transport shale oil. The Sand Hills pipeline is being built to transport 200,000 barrels per day of NGL from the Permian Basin and the Eagle Ford fields to the Gulf Coast. The first phase goes into production in Q3 2012. The Southern Hills project is expected to be in service by mid-2013, with a capacity of 150,000 barrels per day. The chemicals division is going forward with two major domestic plants. The construction of the world's largest on-purpose 1-hexene plant started recently with anticipated start up during 2014. The other plant isn't scheduled to start construction until 2017, if approved.

The investment potential in Phillips 66 relies on the concept of growth in the pipeline and chemicals businesses, the existing plans provide for very little growth in the near term. Not to mention that the plans for the chemicals plants depend on the cheap natural gas feedstocks that may not exist beyond 2014 as the U.S. plans to export natural gas by then, making the market more global in nature.

Net Payouts

ConocoPhillips remained one of the largest net payout yield (NPY) companies during Q2, so it shouldn't be a huge surprise that Phillips 66 announced a $1 billion share buyback. In fact, the original lack of a buyback program combined with the smaller dividend pointed toward weaker results at Phillips 66. The dividend remains at $0.20 per quarter, providing for a 2.2% yield. That's small in comparison to the 4.7% dividend provided at ConocoPhillips. Cash provided by continuing operating activities was $1.4 billion. The company also received $230 million in proceeds from the sale of the Trainer Refinery. The cash flow suggests that the buyback is very doable; plus, the company has over $3.1 billion of cash on the balance. The company has $8 billion of debt at a current weighted-average pre-tax interest rate of 3.5%.

Normally, some preference exists for companies reducing large debt loads instead of repurchasing shares. However, when the interest rate is this low and the stock trades at a low valuation, the buyback appears to be a smart plan.

Valuation

The stock remains cheap, especially considering the cash flow and the ability to fund a much more aggressive shareholder payout plan. Right now, investors are only getting paid 2.2% to wait while the company reduces shares outstanding at these stock prices. The dividend has plenty of room to grow.  Based on the large beat of earnings estimates, the stock trades at roughly seven times the expected updated analyst estimates for 2013. For example, competitors Valero (VLO) and Tesoro (TSO) trade at a lower six times forward estimates. In fact, Tesoro just reported a big earnings beat as well, making that stock even cheaper.

Conclusion

ConocoPhillips remains cheap, especially considering the increasing NPY. Investors are able to find similar -- if not cheaper -- valuation in the refining sector. The stock is a compelling value, but it is not the cheapest in the sector. Until the pipeline and chemicals businesses show stronger growth potential, it will be difficult to get beyond that investment thesis as refining profits swings will dominate this stock for now.

By SeekingAlpha

August 2, 2012:

Phillips 66 (PSX), which became the largest U.S. independent refiner after its spinoff from ConocoPhillips earlier this year, said second-quarter profit rose 13 percent on higher fuel margins and announced a plan to buy back shares valued at $1 billion. Net income rose to $1.18 billion, or $1.86 a share, from $1.04 billion, or $1.64, a year earlier, Houston-based Phillips 66 said in a statement today. Profit excluding the sale of the Trainer refinery, debt retirement, and other one-time costs was $2.23 a share, 55 cents more than the average of 14 analysts’ estimates compiled by Bloomberg.

U.S. refiners have seen profit reach the highest point since 2007 as new crude production in Texas and the Midwest has reduced oil costs. The difference between crude and the price at which refiners can sell fuel averaged $29.05 a barrel in the April-to-June period, the most for a second quarter, according to data compiled by Bloomberg. Phillips 66 plans to keep its Alliance refinery in Belle Chasse, Louisiana in anticipation of less expensive Gulf Coast crude. “We’re off to a solid start, running well in a positive margin environment,” Greg Garland, chairman and chief executive officer, said in the statement. The board has approved the repurchase of as much as $1 billion of the company’s shares. The company didn’t give a timeframe for the buybacks.

The emerging advantage of U.S. crude supplies will help Phillips 66 return cash to shareholders and may draw new investors to boost the stock price, Paul Cheng, an analyst at Barclays Plc in New York, said in a June 30 note to clients. Billionaire Warren Buffett said on July 13 that Berkshire Hathaway Inc. (BRK/A) had invested in Phillips 66.

Pipeline Growth

The company was still part of ConocoPhillips during the first month of the quarter before its April 30 spinoff. The new company reported earnings in its refining, pipeline and chemicals businesses for the full three months that compare to what it would have earned in the year-ago quarter on the same basis. Phillips 66 has stakes in 15 operating refineries as well as a chemical joint venture with Chevron Corp. (CVX) and a pipeline unit with Spectra Energy Corp. (SE) Garland has touted future growth from pipelines and chemicals as he seeks to reduce less profitable refining holdings. ConocoPhillips (COP) last week said its quarterly profit fell 33 percent because of the loss of income from the refining unit. The earnings were announced before regular trading began on U.S. markets. Phillips 66 rose 1.8 percent to $38.27 at the close in New York. The shares have 11 buy ratings and six holds from analysts.

Independent refiners process crude but don’t explore for or produce oil and natural gas. Phillips 66 is the largest independent U.S. refiner by sales and market value.

By Bloomberg

August 1, 2012:

Eni SpA (ENI), Italy’s biggest energy producer, will reduce refining volumes and battle to preserve its market share of natural-gas sales as demand weakens. The company today reported a 2 percent gain in second- quarter adjusted profit to 1.46 billion euros ($1.8 billion), helped by a recovery in Libyan output. It also booked a 1.1 billion-euro charge on gas and refinery assets. In Europe, “gas demand is projected to fall sharply as a consequence of the economic slowdown as well as a big drop in thermoelectric consumption,” Rome-based Eni said in a statement. “Refining margins are anticipated to remain at unprofitable levels.”

Gas demand in Europe will be hurt by high prices, slower economic growth and expansion in renewable sources of energy through 2017, the International Energy Agency forecast in June. Refining was depressed by shrinking price differentials and weak fuel demand. “Although the European refining environment improved in the second quarter, Eni continued to be impacted by a low differential between light and heavy crudes and weak fuel demand,” Oswald Clint, an analyst at Sanford C. Bernstein & Co., wrote in an e-mailed report.

Eni, the largest oil producer in Africa, has restored operations in Libya following last year’s civil war. That helped to offset lost production in the North Sea and Nigeria, it said. Output is expected to grow about 10 percent this year from 2011, the company said.

Refining Loss

The 1.1 billion-euro charge helped to reduce net income by 82 percent to 227 million euros. Eni’s refining and marketing division reported an adjusted operating loss of 144 million euros in the quarter. Adjusted earnings missed the 1.5 billion-euro average estimate of 13 analysts surveyed by Bloomberg. Second-quarter output increased 11 percent to 1.65 million barrels of oil equivalent a day, while natural gas sales fell 4 percent to 20.2 billion cubic meters, Eni said. Separately, Eni today announced a “new giant” gas discovery in the eastern part of Area 4 off the coast of Mozambique. The find at Mamba North East 2 increased the area’s resource potential to 70 trillion cubic feet of gas in place, Eni said. That’s enough to meet Italy’s supply needs for almost 30 years.

‘Promising Areas’

During the second quarter, Eni said it bought exploration interests “in promising areas” in Vietnam, Kenya and Indonesia, according to today’s statement. The company’s stock, up 5 percent this year, may gain from its sale of shares in Italian gas distributor Snam SpA (SRG), ordered by Prime Minister Mario Monti to boost competition and reduce consumer prices. The Italian company is also reducing its stake in Galp Energia SGPS SA (GALP), Portugal’s largest oil producer, and in July completed the disposal of 5 percent to Amorim Energia BV, a holding company controlled by Portuguese investor Americo Amorim. Eni now holds about 28 percent of Galp.

The sale of the Galp and Snam stakes will enable the company to reduce debt by about 20 billion euros by the end of the year, Chief Executive Officer Paolo Scaroni told investors. Eni, which today declared an interim dividend of 54 euro cents, will “redefine” its payout policy next year, Scaroni said.

By Bloomberg

August 1, 2012:

Valero Energy Corp. (VLO) (VLO)’s plan to cleave its convenience stores and gas stations from oil refining may allow the company to bolster its balance sheet by paying off debt and abandoning a business with narrowing profit margins. The largest U.S. refiner by processing capacity aims to leave its retail unit with a comparable debt load to peers and keep investment-grade ratings for the remaining business. A dividend to the parent from the spinoff combined with reduced capital spending would let Valero pay off about $480 million of bonds due next year (VLO) and leave the retailing business with about $750 million of debt, according to Gimme Credit LLC.

While Valero will lose the 9.3 percent (VLO) of sales generated by cigarettes, beer and snacks, margins are narrowing in the retail business as those in refining grow. The spinoff may also take more debt relative to its earnings than the refinery segment, according to Madison Investment Holdings Inc. “You can look forward to getting some cash in from the retail spin and an improving free cash flow outlook from the perspective of a capex plan that’s lower next year,” Philip Adams, an analyst at Chicago-based bond-researcher Gimme Credit, said in a telephone interview. “There’s cash coming in that will be dedicated toward debt reduction.”

Record Low

Valero’s most actively traded debenture, its 6.625 percent bond due in June 2037, increased 0.73 cents on the dollar to 121.78 cents yesterday to yield 5.07 percent, the lowest level since the San Antonio-based company issued $1.5 billion of the debt in 2007. Chief Executive Officer Bill Klesse said yesterday on a conference call that the company was committed to retaining its investment-grade rating, and Chief Financial Officer Mike Ciskowski said leverage at the new retail business would be comparable to peers. Bill Day, a spokesman at Valero, which is rated two levels above junk by the three biggest ratings firms, said the company couldn’t comment on specific plans for the spinoff’s capital structure. By assuming the $750 million of borrowings that Gimme Credit’s Adams estimated the retail business could support, the separation would allow Valero to trim 10.7 percent of its debt (VLO) while losing 9.2 percent of its earnings before interest, taxes, depreciation and amortization, according to data compiled by Bloomberg and based on Klesse’s Ebitda estimate of $500 million for the retail unit.

‘Credit Positive’

“I don’t see the retail company taking 10 percent of the debt with it; I think they’re going to take more,” Alan Shepard of Madison Investment, whose firm in Madison, Wisconsin, oversees about $16 billion of assets and owns Valero bonds, said in a telephone interview. While “the shifting of debt off to the retail company is a credit positive for Valero,” the risk that refining margins may deteriorate makes the spinoff plan credit neutral, he said. Valero’s retailing margins have narrowed since 2009 to 3.26 percent from 3.72 percent with operating income of $381 million in 2011, Bloomberg data show. That compares with an increase to 3.22 percent from 0.44 percent for the refining business, which generated $3.5 billion last year. New U.S. crude production in Texas and the Midwest has flooded markets and allowed refiners to buy oil for less. The crack spread, a measure of the difference between the cost of West Texas Intermediate crude and the price at which refiners can sell fuel, averaged $28.98 in the April-to-June period, almost four times the average since 1987.

Refiners Rise

Shares of refining companies such as Valero and Marathon Petroleum Corp. have gained 35 percent this year to lead every other energy sector. That compares with a 9.7 percent return for the Standard & Poor’s 500 index. Capital spending at Valero may drop as much as 44 percent next year as the company completes construction on two plants that use hydrogen to break down oil into lighter products such as gasoline, jet fuel and diesel fuels, the company said in a statement yesterday. That will boost funds that Valero can use to reward shareholders through dividends or stock buybacks, to reinvest in the company or to pay down debt. “That is very, very helpful” for bondholders, Brian Gibbons, an analyst at CreditSights Inc. in New York, said in a telephone interview. While it’s too early to say whether the planned spinoff will improve Valero’s credit quality, “it’s at worst credit neutral,” he said.

‘Stable Part’

The split may hurt the company’s credit by removing “the most stable part of Valero’s earnings and cash flows,” Moody’s Investors Service analysts led by Gretchen French wrote yesterday in a report. Operating income from the retail unit is more stable than refining, generating between $200 million and $400 million each year since 2006 while accounting for as much as 42 percent of the company’s total in 2009 and as little as 3.3 percent in 2007, Bloomberg data (VLO) show. Valero’s Baa2 rating from Moody’s “remains supported by its large operating scale,” diversity among refining operations that spreads the risk of plant shutdowns and good liquidity, the analysts wrote. “We do not anticipate anything harsher than a negative outlook,” JPMorgan Chase & Co. analysts led by Robin Levine wrote yesterday in a research note. Valero’s ratio of debt to earnings probably won’t exceed 1.5 times even without paying down debt after losing the retail unit, they said.

The company’s ratio of debt to Ebitda has been below 1.5 times for the past 12 months, the longest stretch since the first three months of 2009, Bloomberg data show. The gauge was 1.3 in the second quarter, the lowest since 2008. “For the Valero business that’s going to stay, it’s definitely going to benefit from a leverage standpoint,” Jody Lurie, a corporate credit analyst at Janney Montgomery Scott LLC in Philadelphia, said in a telephone interview.   

By Bloomberg