After slogging through a challenging 2016, HollyFrontier's (HFC) results in 2017 have been a stark improvement. Not only did the company's refining business produce outstanding results, the contributions from its other businesses were respectable in their own right.
Even more important than these results was the announcement of a significant ownership change for its subsidiary partnership Holly Energy Partners (HEP). Let's take a look at the company's most recent results and what this structural change will mean for the parent organization.
Image source: Getty Images.
By the numbers
| Metric | Q3 2017 | Q2 2017 | Q3 2016 |
|---|---|---|---|
| Revenue | $3.7 billion | $3.4 billion | $2.8 billion |
| Operating income | $449.3 million | $121.6 million | $124.7 million |
| Net income | $272.0 million | $57.7 million | $74.5 million |
| EPS | $1.53 | $0.33 | $0.42 |
Data source: HollyFrontier earnings release. EPS = earnings per share.
Every once in a while, the stars will align for a refining company. This was the case for HollyFrontier this past quarter as every part of the business performed well. While its Petro-Canada Lubricants (PLCI) and equity interest in Holly Energy Partners are a critical part of the company, this quarter was all about the refining business.
The refining industry, in general, was starting to benefit from some trends in the oil & gas market lately. A wider price difference between international and domestic crude oil prices and lower inventories of refined products across the U.S. led to more favorable margins for refiners in the quarter. HollyFrontier's management took advantage of the situation as it ran its facilities at a high rate -- refinery utilization for the quarter was 99.5% -- and was able to keep costs down. The net operating margin across all of its facilities in the third quarter was $8.88 per barrel compared to $4.34 per barrel this time last year.
A great indication of management's focus on improving operations is the turnaround of its Rocky Mountain refineries. These two plants have underperformed for several quarters in a row. In the prior quarter, though, we started to see the impact of a turnaround program that has improved results. That success continued this past quarter as refinery utilization for the region improved to 82.7%. While there is still work to be done to get these facilities to perform like the rest of HollyFrontier's portfolio, it is indeed trending in the right direction.
Data source: HollyFrontier earnings release. Chart by author.
Aside from the favorable refining environment this past quarter, the other big news event had to do with HollyFrontier's ownership of Holly Energy Partners. HollyFrontier was the general partner of Holly Energy Partners, and with that stake, it had incentive distribution rights over its payout. At first, these rights encouraged management to grow its subsidiaries' payout. Over time, though, it made the cost of capital too high to realistically grow the business.
So on October 19, management announced it was going to do an exchange with Holly Energy Partners where it would trade its general partner stake and its distribution rights for 37.25 million shares of common units that values the equity stake at $1.25 billion. HollyFrontier now owns 59% of the company's limited partner units.
What management had to say
Here's CEO George Damiris' statement on the most recent results:
HollyFrontier's strong financial results reflect our ability to capitalize on the margins available during the third quarter. Additionally, PCLI operations performed well and we are reaching the conclusion of our integration project. To date, fourth quarter refining margins have held steady and we are looking forward to a strong finish to 2017.
Also, here's Damiris' statement from the press release where HollyFrontier announced the general partner exchange with Holly Energy Partners:
Eliminating the general partner's IDRs [incentive distribution rights] and the economic GP [general partner] interest will strongly enhance Holly Energy's ability to pursue growth opportunities and manage its business over the long-term by decreasing its cost of capital, and providing increased transparency on the value of HollyFrontier's ownership in Holly Energy.
What a Fool believes
Quarters like these don't happen that often for refiners, but HollyFrontier was in an ideal position to profit from the situation as it was able to keep its refineries running at a high rate and keep operating costs low. There's no guarantee that these market conditions will continue in the fourth quarter, but some trends such as a wide price difference between domestic and international crude are still around.
The deal to change the ownership structure at Holly Energy Partners may prove to be a temporary hit to HollyFrontier's results, but it was the right move to make if management wants the business to grow much further. With that business on a better platform for growth and the continued efforts to integrate its recent Petro-Canada lubricants business, there is a lot more room for this company to grow regardless of the refining environment.
