Marathon Petroleum Corporation
/ (MPC-NYSE)/ Equity Research / MPC | Page 4
Current Recommendation / NEUTRAL
Prior Recommendation / Underperform
Date of Last Change / 01/08/2014
Current Price (01/07/14) / $89.00
Target Price / $93.00
SUMMARY
Despite weak third quarter results, we are upgrading Marathon Petroleum shares to Neutral from Underperform. We like Marathon for its scale advantage, impressive asset quality and an extensive midstream/retail network. We believe management’s steady dividend increases, the ongoing share repurchase program and the recent acquisition of BP’s Texas City refinery could further boost shareholder value. However, we think the current valuation is fair and adequately reflects the company’s future growth prospects. Moreover, Marathon’s core business – refining – is faced with a high degree of volatility, while being capital intensive. This is expected to limit its ability to generate positive earnings surprises. As a result, our long-term total return expectation for Marathon remains muted./ Equity Research / MPC | Page 4
SUMMARY DATA
52-Week High / $91.7352-Week Low / $60.25
One-Year Return (%) / 49.61
Beta / 2.79
Average Daily Volume (sh) / 2,753,130
Shares Outstanding (mil) / 301
Market Capitalization ($mil) / $26,791
Short Interest Ratio (days) / 1.91
Institutional Ownership (%) / 80
Insider Ownership (%) / 1
Annual Cash Dividend / $1.68
Dividend Yield (%) / 1.89
5-Yr. Historical Growth Rates
Sales (%) / 12.1
Earnings Per Share (%) / 29.1
Dividend (%) / N/A
P/E using TTM EPS / 12.8
P/E using 2014 Estimate / 10.5
P/E using 2015 Estimate / 9.6
Zacks Rank *: Short Term
1 – 3 months outlook / 2 – Buy
* Definition / Disclosure on last page
Risk Level * / Average,
Type of Stock / Large-Blend
Industry / Oil Refing&Mktg
Zacks Industry Rank * / 82 out of 267
OVERVIEW
Findlay, Ohio-based Marathon Petroleum Corporation (MPC) is a leading independent refiner, transporter and marketer of petroleum products. The company, in its current form, came into existence following the 2011 spin-off of Houston, Texas-based Marathon Oil Corporation’s refining/sales business into a separate, independent and publicly traded entity. Marathon Petroleum operates in three segments: Refining and Marketing, Speedway (Retail), and Pipeline Transportation.
Ø Refining and Marketing: The unit’s operations include seven refineries having a combined crude processing capacity of 1.7 million barrels per day, concentrated primarily in the Midwest, Gulf Coast and Southeast regions of the country. Additionally, Marathon Petroleum – through its marketing organization – sells transportation fuels, asphalt and specialty products throughout the country to support commercial, industrial and retail operations. This segment contributed bulk of the company’s 2012 earnings (approximately 90%).
Ø Speedway (Retail): Marathon Petroleum also possesses a profitable retail footprint headquartered in Enon, Ohio. Known as Speedway LLC, it is the fourth biggest chain of company-owned and -operated gasoline and convenience stations in the U.S. Speedway consists of some 1,350 stores in seven states, catering to approximately 2 million customers daily.
Ø Pipeline Transportation: The company’s ‘Pipeline Transportation’ segment – which oversees one of the biggest petroleum pipeline networks in the U.S. based on total volume delivered – owns, operates, leases or has an ownership interest in about 9,600 miles of pipeline, consisting of 68 systems spread over 15 states and federal waters. Marathon Petroleum transports more than 2.8 million barrels of crude oil and petroleum products daily through these pipelines.
REASONS TO BUY
Ø Marathon Petroleum is the fourth largest domestic refiner with a combined crude oil processing capacity of approximately 1.7 million barrels per day through its portfolio of seven refineries. A major advantage for the company is its proprietary access to pipelines, which inhibits lower-cost competitors from supplying Marathon Petroleum's key markets.
Ø Marathon Petroleum’s recent purchase of BP Plc's Texas City refinery – one of the largest and most complex in the country – will help the company to solidify its position in the fuel export business, apart from improving production flexibility.
Ø Marathon Petroleum is through with its $2.2 billion Detroit Heavy Oil Upgrading Project. The completion of the project – on budget and on schedule – will not only deliver an extra 80,000 barrels a day of heavy oil processing capacity but also free up capital expenditures and boost the company’s free cash flow.
Ø The company’s financial flexibility and strong balance sheet are real assets in this highly-uncertain period for the economy. Marathon Petroleum remains in excellent financial health, with over $2 billion in cash/cash equivalents and an investment-grade credit rating with a debt-to-capitalization ratio of 23%. Furthermore, regular dividend increases and the ongoing share buyback program highlight the company’s commitment to create value for shareholders.
REASONS TO SELL
Ø The refining segment – which contributes the bulk of Marathon Petroleum’s revenues and earnings – is the major driver to the company’s results. However, with refiners being buyers of crude, an increase in oil prices can squeeze their profitability.
Ø The inherent volatility of the refining business reduces the accuracy and reliability of long-term earnings and revenue estimates. Additionally, results are exposed to unplanned shut-downs that may have a lingering impact.
Ø Marathon Petroleum plans to invest roughly $4.0 billion during the 2014–2016 timeframe – quite high by industry standards. This may adversely affect the company’s leverage and deteriorate its credit metrics. Additionally, the increasing capital intensity of its operations may result in reduced returns going forward.
Ø The requirement of policies to reformulate fuel and lower emission from refinery operations make the industry a highly regulated one. As a result, companies like Marathon Petroleum are often forced to divert cash flows to ensure regulatory compliance, which can adversely impact profitability.
RECENT NEWS
Marathon Petroleum Unveils $4B Budget
On Dec 4, 2013, Marathon Petroleum said it plans to invest roughly $4.0 billion during the 2014–2016 timeframe. The amount will be allocated to three business units - Refining and Marketing, Pipeline Transportation, and Speedway (Retail).
This planned investment reflects a $2.4 billion hike from what Marathon Petroleum had invested during the previous three years for the segments.
Out of $4.0 billion, the company is expecting to spend around $640.0 million for midstream properties during 2014 to 2016. The midstream operation is part of Marathon Petroleum’s Refining and Marketing business, which include seven refineries having a combined crude processing capacity of 1.7 million barrels per day, concentrated primarily in the Midwest, Gulf Coast and Southeast regions of the country. Marathon Petroleum earns majority of its profit from this business unit.
Marathon Petroleum will invest another $2.4 billion of the total planned investment for Pipeline Transportation, which also includes subsidiary MPLX LP. The company’s ‘Pipeline Transportation’ segment – which oversees one of the biggest petroleum pipeline networks in the U.S. based on total volume delivered – owns, operates, leases or has an ownership interest in about 8,300 miles of pipeline.
The remaining $925.0 million will be allocated for expanding the company’s Speedway retail segment. Marathon Petroleum possesses a profitable retail footprint headquartered in Enon, Ohio. Known as Speedway LLC, it is the fourth biggest chain of company-owned and -operated gasoline and convenience stations in the U.S.
Marathon Petroleum also said that it will likely provide their shareholders with 100% of the through-cycle free cash flow in the near future. The cash flows will be distributed among the shareholders through dividends and share repurchases.
MPC to Fund ENB Sandpiper Pipeline
On Nov 25, 2013, Marathon Petroleum announced that it has decided to become the primary shipper of Enbridge Inc’s Sandpiper pipeline project. The pipeline will transport crude oil from the Bakken field of North Dakota to the refiners of U.S.
Moreover, Marathon Petroleum has agreed to finance roughly 37.5% of the $2.6 billion Sandpiper project for 27.0% ownership in the North Dakota pipeline System of Enbridge Energy Partners LP. Marathon Petroleum also has the option to hike its ownership to 30.0% with further investments in the future.
Sandpiper pipeline will integrate with the North Dakota pipeline, increasing the Bakken crude oil transporting capacity of the latter by 225,000 barrels per day (bpd). The Sandpiper pipeline is expected to start operating by 2016.
Marathon Petroleum revealed that it will be able to transport more crude oil from the Bakken play at a competitive cost, upon completion of the Sandpiper pipeline project.
Third Quarter 2013 Results
On Oct 31, 2013, Marathon Petroleum announced weak third quarter earnings, pulled down by lower margins on the back of spiraling costs. The company reported earnings per share – adjusted for special items – of $0.59, underperforming the Zacks Consensus Estimate of $0.65 and way below the year-ago period adjusted profit of $3.31.
However, revenues – at $26,274.0 million – were up 23.6% year over year and also surpassed the Zacks Consensus Estimate of $23,293.0 million, backed by higher fuel sales volumes and throughput.
Segmental Performance
Refining & Marketing: Margins in the refining business decreased significantly from the year-earlier levels. The situation was further compounded by narrower sweet/sour differentials.
Marathon Petroleum’s refining and marketing unit earned $227.0 million during the quarter, compared to profits of $1,691.0 million last year – reflecting lower margins and crack spreads.
The company's realized gross refining and marketing margin of $2.55 per barrel was down markedly from last year period's margin of $13.12 per barrel.
However, Marathon Petroleum’s total refined product sales volumes improved 33.8% from the year-earlier level to 2,148 thousand barrels per day, while throughput was up 39.6% to 1,877 thousand barrels per day.
Speedway: Income from the Speedway retail stations totaled $102.0 million during the quarter, up from $76.0 million in the year-ago period. The positive comparison was driven by improved gasoline and distillate gross margin, together with higher merchandise gross margin. This was partially offset by higher operating expenses.
Marathon Petroleum’s same-store fuel sales were up by 1.0% year over year.
Pipeline Transportation: Segment profitability for the most recent quarter was $54.0 million, up marginally from the $52.0 million achieved during the third quarter of 2012. Earnings were propped up by higher transportation revenue, somewhat negated by a rise in operating and depreciation expenses.
Capital Expenditure, Balance Sheet & Share Repurchase
During the quarter, Marathon Petroleum spent $411.0 million on capital programs (59% on Refining & Marketing). As of Sep 30, 2013, the company had cash and cash equivalents of $2,018.0 million and total debt of $3,403.0 million, with a debt-to-capitalization ratio of 23%.
Moreover, for the reported quarter, Marathon Petroleum returned about $1,200.0 million to shareholders through dividends and share repurchases.
VALUATION
We like Marathon Petroleum’s strong seven-plant refining portfolio and its diversification into retail/midstream business lines, which make the stock potentially more stable. Additionally, the company possesses one of the healthiest balance sheets among peers and a robust free cash flow generating ability. The periodic payout hikes and the ongoing buyback program highlight Marathon Petroleum’s commitment to create value for shareholders.
However, due to the volatile nature of the refining business, we do not see any significant price upside for Marathon Petroleum shares in the next few quarters. We expect the company to grow at a somewhat more conservative and sustainable pace.
This is reflected in our new Neutral recommendation.
Marathon Petroleum’s trailing 12-month P/CF multiple is 6.9 compared to the 7.7 average for the peer group and 19.0 for the S&P 500. The company’s trailing 12-month EV/EBITDA multiple is 4.5, compared to the industry average of 5.8. Marathon Petroleum’s $93 price objective is based on a multiple of 7.2X trailing twelve-month cash flow.
Key Indicators
Earnings Surprise and Estimate Revision History
DISCLOSURES & DEFINITIONS
The analysts contributing to this report do not hold any shares of MPC. The EPS and revenue forecasts are the Zacks Consensus estimates. Additionally, the analysts contributing to this report certify that the views expressed herein accurately reflect the analysts’ personal views as to the subject securities and issuers. Zacks certifies that no part of the analysts’ compensation was, is, or will be, directly or indirectly, related to the specific recommendation or views expressed by the analyst in the report. Additional information on the securities mentioned in this report is available upon request. This report is based on data obtained from sources we believe to be reliable, but is not guaranteed as to accuracy and does not purport to be complete. Because of individual objectives, the report should not be construed as advice designed to meet the particular investment needs of any investor. Any opinions expressed herein are subject to change. This report is not to be construed as an offer or the solicitation of an offer to buy or sell the securities herein mentioned. Zacks or its officers, employees or customers may have a position long or short in the securities mentioned and buy or sell the securities from time to time. Zacks uses the following rating system for the securities it covers. Outperform- Zacks expects that the subject company will outperform the broader U.S. equity market over the next six to twelve months. Neutral- Zacks expects that the company will perform in line with the broader U.S. equity market over the next six to twelve months. Underperform- Zacks expects the company will under perform the broader U.S. Equity market over the next six to twelve months. The current distribution of Zacks Ratings is as follows on the 1037 companies covered: Outperform - 16.0%, Neutral - 78.0%, Underperform – 5.1%. Data is as of midnight on the business day immediately prior to this publication.
Our recommendation for each stock is closely linked to the Zacks Rank, which results from a proprietary quantitative model using trends in earnings estimate revisions. This model is proven most effective for judging the timeliness of a stock over the next 1 to 3 months. The model assigns each stock a rank from 1 through 5. Zacks Rank 1 = Strong Buy. Zacks Rank 2 = Buy. Zacks Rank 3 = Hold. Zacks Rank 4 = Sell. Zacks Rank 5 = Strong Sell. We also provide a Zacks Industry Rank for each company which provides an idea of the near-term attractiveness of a company’s industry group. We have 264 industry groups in total. Thus, the Zacks Industry Rank is a number between 1 and 264. In terms of investment attractiveness, the higher the rank the better. Historically, the top half of the industries has outperformed the general market. In determining Risk Level, we rely on a proprietary quantitative model that divides the entire universe of stocks into five groups, based on each stock’s historical price volatility. The first group has stocks with the lowest values and are deemed Low Risk, while the 5th group has the highest values and are designated High Risk. Designations of Below-Average Risk, Average Risk, and Above-Average Risk correspond to the second, third, and fourth groups of stocks, respectively.