Over the past year, shares of refiner HollyFrontier (NYSE:HFC) are up over 140% thanks to a much better refining environment than what you might expect with oil prices on the rise. This quarter's result even generated enough cash that management felt comfortable enough to start buying back stock. What was even more surprising, though, is the incredibly ambitious goals management has put forth for growing the business over the next several years.
Here's a brief review of how HollyFrontier was able to produce a good refining result despite the conventional wisdom that refiners don't do well in a rising crude oil environment as well as whether investors can expect much more out of this meteoric rise in share price.
By the numbers
|Metric||Q1 2018||Q4 2017||Q1 2017|
|Revenue||$4.13 billion||$3.99 billion||$3.08 billion|
|Operating income||$395.8 million||$365.6 million||($33.5 million)|
|Net income||$268.1 million||$521.1 million||($45.4 million)|
2018 is shaping up to be a great year for HollyFrontier. Even though the company has diversified its business by investing in its lubricant & specialty product business and its midstream subsidiary Holly Energy Partners (NYSE:HEP), refining is still the real needle-mover for this company.
The refining environment in general has been relatively favorable this past quarter as other independent refining companies reported solid earnings this past quarter. It's a little surprising to see a favorable refining environment as crude oil prices rise because that is typically a sign of weak margins. However, HollyFrontier and others are taking advantages of pricing discrepancies of various crude oils. HollyFrontier has the capacity to refine a lot of what are classified as heavy and sour crudes -- about 54% of feedstock was heavy or sour crude. These crudes are harder to refine than most, and not many others have the capacity to handle these specific feedstocks. Therefore, HollyFrontier is able to buy this crude at a discount to other oils and earn higher margins.
Another reason HollyFrontier was able to produce such strong results in its refining segment is that it ran its facilities at high utilization rates, which helps to spread the high fixed costs of running a facility across more barrels of product. HollyFrontier's utilization rate came in at a respectable 90.9%. These high utilization rates helped to lower per-barrel operating costs to $5.69 per barrel.
What management had to say
There has been a slew of merger & acquisition activity in the refining industry as of late as companies look to add economy of scale. The rate of consolidation went into warp speed last week when Marathon Petroleum (NYSE:MPC) and Andeavor (NYSE:ANDV) announced their $23 billion merger deal. HollyFrontier isn't a big fish in this industry, but it does have a reputation for making value-adding acquisitions. So of course, an analyst asked CEO George Damiris on the company's conference call for his view of the M&A market and what we might expect from HollyFrontier. Here's his response:
I think the way we view it is pretty much status quo. I think the macro read that we have is consistent with what we shared at our Analyst Day that we think the industry is going to continue to consolidate. I think scale is important which is why we have our desire to double the size of each of our businesses in a disciplined manner, but as far as the set of opportunities that we're seeing in the market right now, they really aren't impacted by the announcement earlier this week.
Too hot to buy?
It's no surprise to hear that HollyFrontier is on the hunt for acquisitions, and it's not that surprising to hear that it doesn't see a whole lot of bargains out there right now. That's a line management has said repeatedly over the past couple of years.
What is surprising, though, is that it intends to double the size of each business segment. To do that will involve a pretty sizable acquisition in the near future because there aren't many companies that have the kind of asset footprint HollyFrontier would be looking for.
Overall, though, things are looking good at HollyFrontier right now. Its refining segment is running very well, and it's getting slightly improving results from its other two segments. As you can see from the chart above, though, shares have been on an absolute tear recently and aren't selling for a huge discount. As good of a refiner as HollyFrontier is, this is a cyclical business, and it may be worth waiting for the next dip before making an investment.