While the four oil refineries Delek US Holdings (DK) owns with its over 300,000 barrels per day (BPD) of capacity represent less than two percent of the U.S. total, the company's good access to ever-increasing Permian crude - including a refinery planted in the center of the Midland sub-basin - and its solid operations that include an eye-popping first quarter make it worth investors' consideration.
The company also has substantive logistics assets and is the largest 7-Eleven convenience store licensee.
Brief Company Summary
Delek US Holdings is a refining and marketing company with a market capitalization of $2.53 billion based on a May 29th 2019 closing price of $32.97/share, down about 33% from a year ago. The company owns and operates four standard inland U.S. oil refineries with a capacity of 302,000 barrels per day (BPD) and two biodiesel facilities. It also owns crude oil gathering and transportation pipelines, storage tanks and terminals, and it leases convenience stores. However, refining is by far the largest contributor to profits.
Delek US Holdings employs 3,700 people full-time and is headquartered in Brentwood, Tennessee. The company was founded in 2001.
Oil Prices and Supply
U.S. oil production in the week ending May 17, 2019, was 12.2 million BPD, nearly 2 million BPD, or 20%, over just a year ago. Volumes continue to ramp up from the West Texas-East New Mexico Permian, with oil production there expected to reach 4.2 million BPD in June.
WTI price, Cushing, $/Bbl, credit: market.businessinsider.com
The NYMEX May 29th closing oil price was $59.06/barrel for West Texas Intermediate (WTI) crude oil at Cushing. The NYMEX closing RBOB gasoline price was $1.94/gallon.
The trend in the 3-2-1 crack spread, a measure of refining profitability or margin, is shown above and is currently about $23/barrel, having dipped significantly in the first quarter. However, while this number is defined as three barrels of crude subtracted from the sum of two barrels of gasoline and one of distillate, the specific crude used for this calculation is WTI-Cushing. Companies like Delek able to use less expensive crude have netted larger profitability.
Oil prices in Midland, Texas, remain under pressure due to the escalation in Permian supply and relative lack of transport capacity. Delek's 73,000 BPD Big Spring, Texas, inland refinery is advantaged in this regard: it is located in Howard County at the heart of one of the six prime counties of the Midland sub-basin of the Permian. While Delek realized particular benefits in 2018 and early 2019 in its position as one of the few "neighborhood consumers," with pipeline capacity being expanded and built, this advantage will attenuate.
The company's other refineries comprise an 80,000 BPD location in El Dorado, Arkansas; a 74,000 BPD location in Krotz Springs, Louisiana; and a 75,000 BPD location in Tyler, Texas. This 302,000 BPD of capacity uses about 70% Permian basin crude.
The company makes biodiesel from two plants located in Crossett, Arkansas, and Cleburne, Texas.
Midstream and Retail
Delek's logistics assets include crude and product transportation pipelines, crude oil gathering lines, storage, a rail facility, and light products terminals.
Included also are storage tanks, salt wells, product terminals, and a marketing agreement. Some of these assets are contained separately within Delek Logistics of which Delek owns 61.4%.
Delek is the largest 7-Eleven licensee in the U.S., operating about 300 convenience stores in central and west Texas and New Mexico.
As noted, Delek's four refineries are located in Petroleum Administration of Defense District (PADD) 3, the largest by refining volume of the five US PADDs with 56 refineries. Thus, Delek's capacity of 302,000 BPD among its four refineries represents only 3.1% of the PADD 3 capacity of 9.76 million BPD, or 1.6% of total US refining capacity of 18.6 million BPD.
In PADD 3, Delek competes with everyone from Valero (VLO) to Saudi Aramco, Marathon Petroleum (MPC), Exxon Mobil (XOM), and numerous other large and small companies. However, all of the company's refineries are inland, away from Gulf Coast monster refineries that process up to 600,000 BPD. At 73,000-80,000 BPD apiece, each of the four is still large enough to attain economies of scale.
Unlike its Gulf Coast competitors, Delek runs little if any Venezuelan or Mexican crude and so is not affected by their supply declines and sanction limits.
The extreme flooding upstream and downstream on the Mississippi River has required at least one refinery - HollyFrontier's Tulsa refinery on the Arkansas River - to shut and Delek's Krotz Springs, Louisiana, refinery to plan for high water. Although the company last week said it has levees and other preparations in place, decisions by the Army Corps of Engineers to release large volumes of water from dams along the Mississippi River and its Plains tributaries have resulted in significant challenges for plants and barge traffic on these rivers.
Other regulatory factors could decrease the cost of crude (Washington state's vapor pressure limit on crude by rail), increase it in the case of more limited Colorado drilling and production, decrease costs if Delek continues to get a small-refinery renewable identification number (RIN) exemption for its El Dorado refinery, or increase profitability as lower-sulfur marine diesel is demanded - and refiners provide it - starting in 2020.
Earlier this week on May 28th, Delek Logistics announced it had purchased a one-third ownership in Red River Pipeline. Red River expects to increase pipeline capacity from 150,000 BPD to 235,000 BPD and, in turn, Delek's access to crude from Cushing, Oklahoma, storage will increase from 35,000 BPD to 100,000 BPD. Red River Pipeline runs from Cushing, Oklahoma, to Longview, Texas, where it can supply Delek's Tyler and El Dorado refineries or a third-party pipeline.
Delek US Holdings both started up its Krotz Springs alkylation unit and completed its El Dorado refinery turnaround in April.
The company's convenience stores, with their Texas and New Mexico locations, can be expected to continue to benefit from the booming Texas and Permian (west Texas and eastern New Mexico) economies.
Delek US Holdings' Financial and Stock Highlights
Delek's trailing 12 months' earnings per share (EPS) are $6.20 and the average of analysts' 2019 EPS estimates is lower at $4.25. The company's return on assets was 8% and its return on equity was 30%.
First-quarter 2019 revenues of $2.2 billion provided $222 million of operating income and $149.3 million of net income attributable to Delek, or earnings per share of $1.90. These compare to a first-quarter 2018 net loss of -$40.4 million or -$0.49/share. Note this was also nearly quadruple analysts' average estimated first-quarter 2019 EPS of $0.47. Delek has matched or beaten analysts' estimates for each of the last four quarters.
These improvements were due to increased contribution from refining - including a large Midland-Brent differential (lower crude costs) - and a lower RIN expense.
For context, I am showing both the one-year and three-year stock price charts above.
At March 31, 2019, the company had $4.473 billion in liabilities and $6.372 billion in assets resulting in a fairly steep liability-to-asset ratio of 70%. However, the company's March 31, 2019, reported cash and cash equivalents total was $990 million. With a ratio of current assets divided by current liabilities is 1.5, it is comfortably above the desirable minimum of 1.0.
Its most recently reported trailing 12 months' operating cash flow was $884 million and its levered free cash flow was $175 million. Market capitalization is $2.53 billion at a May 29, 2019, stock closing price of $32.97 per share.
Delek's 52-week price range is $29.51-61.57 per share, so its May 29th, 2019, closing price of $32.97 is only 54% of its one-year high. The company's one-year target price is $44.92/share, 36% above its May 29th closing price.
Delek has raised its dividend to $1.12/share, thus yielding 3.4% at the May 29th stock price of $32.97/share. The company also expects to repurchase $60 million in stock during the second quarter of 2019.
Mean analyst rating for DK is a 2.2, closer to "buy" leaning slightly toward "hold," from the 14 analysts who follow the stock. Since the beginning of the year, three analysts have downgraded the stock and one has reiterated Delek as a "strong buy."
As of March 31, 2019, most of Delek's stock was owned by institutions, some of which represent index fund investments that match the overall market. The five largest holders were Vanguard (10.5%), BlackRock (7.4%), Dimensional Fund Advisors (6.3%), FMR/Fidelity (6.3%), and Wellington (5.9%).
Delek's beta is 1.13, meaning its price moves directionally with the overall market but to a slightly greater degree.
At April 1, 2019, Institutional Shareholder Services ranked Delek US Holdings' overall governance as a 4, with sub-scores of audit (2), board (5), shareholder rights (6), and compensation (3). In this measurement, a score of 1 represents lower governance risk and a score of 10 represents higher governance risk.
About 8.7 % of the floated stock is shorted and insiders own 2.4% of the company's stock.
Delek Logistics Partners LP
Delek US Holdings is the general partner in Delek Logistics Partners LP and owns 61.4% of the $786 million partnership. Logistics assets are crude and product pipelines, storage tanks, terminals, and loading rack facilities near and/or integrated with Delek's refineries.
Because partnerships can have far-reaching tax-specific issues for individual owners, I am not making a recommendation on Delek Logistics Partners LP. Nonetheless, return-seekers may note Delek Logistics is currently yielding 10.05%.
Notes on Valuation
The company's book value per share of $22.42 is about two-thirds of its stock price, showing the market value of the company's assets is higher than its depreciated base.
With an enterprise value (EV) of $3.72 billion, its EV/EBITDA ratio is 3.7. This metric is quite far below the preferred ratio of 10 or less, suggesting a big bargain. Whether investors indeed think Delek is a bargain depends on assessment of future earnings. For example, the blowout feedstock discounts on Permian oil experienced in the last half of 2018 and the first quarter of 2019 are likely to dissipate as more pipeline capacity comes online.
Positive and Negative Risks
Potential investors should consider their refining margin expectation, comprising gasoline and diesel prices less the cost of the feedstock oil price, as the factor most likely to affect Delek. Moreover, as the Permian crude transport situation continues to ease, the company's Big Spring feedstock discount will be reduced, shrinking that comparative advantage. Delek could also lose its beneficial RIN small-refiner waiver for its El Dorado refinery, which would increase costs.
While, like HollyFrontier, Delek's refineries are near new shale production, as pipelines expand Permian crude may be drawn toward the Gulf Coast for use there or for export.
Recommendations for Delek
I recommend energy investors consider buying stock in Delek particularly for its refinery in the heart of the Midland sub-basin and the ability of all of its refineries to use locally-produced oil. Delek has excellent access and discounted feedstock cost, retail operations in the strong Texas-New Mexico economies, and well-integrated logistics assets through its ownership of DKL.
The obvious flies in the ointment are the possibility of flooding and consequent temporary shutdown of the Krotz Springs refinery although the company does not believe this is likely, the sharp narrowing of the Midland-Cushing price differential whose benefit Delek has enjoyed, and potentially a charge for higher-priced oil held in inventory.
Still, the second-quarter refining margins have recovered and the company is well-prepared going into the strong summer gasoline season. Operationally the company is executing well.
Dividend investors and bargain-hunters may note the company's 3.4% dividend, its $60 million second-quarter share buyback program, as well as its price at a low point for the year. The ratio of enterprise value to EBITDA also suggests the stock is bargain-priced.
Disclosure: I am/we are long CVX, MPC, VLO. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.