Jefferies Issues Top Refining and Marketing Stocks to Buy

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Tesoro

  • One of the largest refining operators in PADD 5
  • Refining is the smallest operating segment as a % of [cash flow] contribution
  • Exhibiting largest discount to Sum-of-the-Parts
  • We expect support will be needed by TLLP in the form of attractive drop-down multiples
  • Goal of attaining Investment Grade credit rating

Tesoro Logistics

  • Large presence in the Midcontinent and Williston basin thus creating volume exposure to crude, natgas & NGLs from Bakken producers
  • Large inventory of drop-down assets from TSO although we expect parent support on at least one of the drop-down transactions
  • Stated goal of retaining [investment grade] and hitting $1B EBITDA in 2017
  • Deep in 50% [incentive distribution rights] splits making growth more difficult vs peers

Valero

  • Largest independent refiner in world with largest presence in PADD 3
  • Refining is the largest operating segment as a % of [cash flow] contribution
  • Largest discount to peers on almost every metric
  • Environmental costs remains an issue – currently in litigation with EPA
  • Spun off retail business in 2013 decidedly making VLO a merchant refiner

Valero Energy Partners

  • Fastest rate of distribution growth under MLP coverage
  • Robust coverage and healthy balance sheet provides cushion of support not shared by peers
  • Stated goal from mgmt to grow distribution by 25% in 2017 & 2018
  • Large inventory of drop-down assets from VLO
  • Don’t expect to see a MPLX type transaction

For the near term, the Jefferies analysts conclude:

Refining margins remain under pressure and, we believe, intermediate-term utilization rates will decline on the back of maintenance downtimes & economic run cuts. Accordingly, we have seen a material slowdown in refining directed capex and, instead, a pivot by US refiner[s] to enhancing their individual midstream capabilities. We believe significant organic midstream investment and M&A will be completed by US refiners in the coming years and the logistic MLPs first created to simply provide financial flexibility will be large enough to support significant cash flow generation back to the parent sponsors. Therefore, while we do not expect the same magnitude of structural separation as was seen with the diversified E&P companies like El Paso, Williams, & QEP earlier this decade, we believe the time will come for refiners to monetize portions of their MLP positions to provide valuation markers, similar to the actions of Anadarko & EQT with Western & EQGP, respectively. By that time, however, we believe crude markets will have rebalanced and, following the structural move away from streamlined midstream GPs (Kinder, Targa, & Plains), we think refiners’ GP structures may be both unique and valuable to external investors.

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