The first quarter was a busy one for Sunoco LP's (SUN +1.01%) management team. After acquiring several hundred retail fueling stations from its parent company less than a year ago, it's already in the process of selling those retail stations to clean up its balance sheet. With that major deal still pending, the company's most recent results don't seem to have much bearing on the company's future.
At the same time, though, there were some important things to look at in this most recent quarterly report. Here's a look at what's going on Sunoco, what management plans to do following the sale of its retail segment, and what investors should do with all this news.
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By the numbers
| Results* | Q1 2017 | Q4 2016 | Q1 2016 |
|---|---|---|---|
| Revenue | $4,394 million | $4,306 million | $3,215 million |
| Adjusted EBITDA** | $155 million | $153.6 million | $159 million |
| Net income per share | ($0.22) | ($6.32) | $0.47 |
| Distributable cash flow | $77 million | $56 million | $111 million |
| Distribution coverage ratio | 0.74 | 0.61 | 1.14 |
**EBITDA= Earnings before interest, taxes, depreciation, and amortization. Data source: Sunoco LP earnings release.
It's hard to call this most recent quarter a success, even though it's an improvement over the prior quarter. Wholesale and retail fuel margin contracted in the quarter, which hit the bottom line harder than increased volumes for both segments. Merchandise, on the other hand, did grow to $540 million. Those gains aren't going to give investors much confidence, though, since Sunoco is in the process of selling most of its retail locations.
In fact, there isn't a whole lot investors can glean from this most recent report, since the company is in the middle of closing a major sale. Sunoco has agreed to send a majority of its company-owned retail stations to the parent company of 7-Eleven in exchange for $3.3 billion in cash and a 15-year contract, whereby Sunoco will remain the exclusive wholesale fuel provider for the locations as well as maintain Sunoco-branded gasoline at the locations.
Sunoco also has plans relatively soon to unload the remainder of its company-owned locations in the continental U.S. -- it will hang on to its Aloha retail stations in Hawaii. Management has decided that wholly owned convenience stores aren't where the company wants to go and will instead focus on its fuel-distribution business and selling the franchise rights of Sunoco-branded stores.
With all of these moves going on, the company will be a fundamentally different business in a quarter or two. In some ways that's a good thing, because the current path it's on is unsustainable, but without seeing what its results and capital structure look like post-sale is hard to say if the company is materially a better business.
Perhaps the largest concern in the coming quarters is what management decides to do with all that cash. Debt reduction will be a priority, because its creditors have pretty much stipulated that Sunoco lowers its leverage ratio. At the same time, though, selling these assets means it has less cash flow-generating ability. Investors will probably be curious whether a decrease in interest expenses can offset the loss of operational cash flow. If not, then management may also need also to consider buying back shares to lower total distribution obligations or to cut its current payout.
What management had to say
The aforementioned options are the most conservative choices management has for using that cash. But it appears that, based on CEO Bob Owens' comments, Sunoco may choose more aggressive options with that cash:
I want to leave you with a few thoughts on how we think about Sunoco after our exit from retail. This is a significant step and a strategic shift toward MLP [master limited partnership]-qualifying businesses. Concentrating the Sunoco business model around a simplified wholesale business provides significant scale and cost efficiencies. Retail divestments will immediately improve Sunoco's financial profile and set the stage for strategic optionality to take advantage of consolidation opportunities in a fragmented wholesale market or to move into new markets and qualified businesses with stable cash flows.
What a Fool believes
Owens' comments suggest that Sunoco is going to make more acquisitions that will add cash flow to the business. In theory this makes sense, because using all that cash to acquire other companies would add cash flow to the bottom line without adding more debt. That should help to solve the issue of dwindling cash flows that have to support its overly aggressive distribution.
For investors, though, there's something else to consider. Management hasn't proved to be great at making acquisitions. Last quarter's writedown of the retail segment was an admission that it overpaid for those prior moves. If the company continues to overpay for assets, there will probably be trouble down the road regardless of how management funds them.
Sunoco has yet to show that it has the qualities necessary to be considered a long-term investment, especially one that touts being a high-yield investment. Until we see some results that show a material improvement in the company's ability to generate cash and support its payout, then this is a stock to stay away from.
