Whenever oil prices decline in a quarter, you can bet oil refiners will benefit to a certain degree. That was the case for Valero Energy (NYSE:VLO) in the fourth quarter as it smashed earnings expectations. Falling oil prices weren't the only thing helping Valero this past quarter, though, and those other factors may be the reasons Valero will be able to keep producing great results in 2019.
Let's dig into the numbers of Valero's most recent quarter to see what investors could have in store for them this year and beyond.
By the numbers
|Metric||Q4 2018||Q3 2018||Q4 2017|
|Revenue||$28.73 billion||$30.85 billion||$26.39 billion|
|Operating income||$1.30 billion||$1.22 billion||$843 million|
|Operating cash flow||$1.80 billion||$496 million||$915 million|
The large discrepancy in Valero's earnings-per-share numbers between this past quarter and the prior year's was a sizable one-time gain related to changes in corporate tax rates. What's more important about this quarter was the company's large gains in operating income and cash flow, all of which can be attributed to its refining segment.
Generally, falling crude oil prices are good news for refiners because it normally means the price difference between crude and refined products is wider than normal. That was the case this past quarter, as a barrel of West Texas intermediate, the U.S. benchmark price, declined 40% from above $75 to $45 per barrel in just a few months. That price decline, in addition to the transportation and logistics bottlenecks in North America, helped lift refining margins to $11 per barrel.
Valero also did its part to take advantage of this favorable crude environment by keeping operating costs low and running its facilities at a high rate. Its utilization rate was 96% of total throughput capacity, and its operating costs, including depreciation, were $5.64 per barrel. The overall margin on a per-barrel basis doesn't sound like much on paper, but Valero processes just over 3 million barrels of crude per day, so a few pennies in either direction for refining margins or operating costs go a long way.
Overall, this quarter was mostly business as usual. The three events this past quarter were that it completed its acquisition of all outstanding shares of subsidiary partnership Valero Energy Partners, it acquired three ethanol manufacturing facilities from Green Plains, and it gave the green light to expand capacity at its Diamond Green Diesel plant. Considering how small the contributions of its Valero Energy Partners and ethanol segments are to the bottom line, these aren't necessarily needle-moving changes.
What management had to say
Refineries these days can reap huge rewards from processing domestic crudes because there are so many infrastructure constraints. The only way to do so, though, is to have the means to move those crude oils to the refinery. So it's not too surprising to hear CEO Joe Gorder highlight two recently completed feeder pipelines in his prepared statements.
The logistics investments we made over the last several years are contributing significantly to earnings. The completion of the Sunrise Pipeline expansion and our prior investments, including Line 9B and Diamond Pipeline, provided us with greater access to discounted North American crudes in the fourth quarter of 2018. And as evident in our results, the flexibility of our refining system enabled us to capture additional margin from processing these cost-advantaged grades.
You can read a full transcript of Valero Energy's conference call.
Maybe this is more sustainable than previously thought
Refining margins this large aren't an everyday occurrence for the refining industry, and it's fair to say most refining stocks have been priced as if the other shoe was about to drop. Valero Energy's stock has a price-to-earnings ratio of 11, which shows that Wall Street isn't that bullish on its stock. What's even more surprising is that its valuation is considerably higher than those of its refining peers.
With infrastructure constraints likely to hold back shale production for a few more quarters, along with the company's investments in pipelines for better feedstocks and new rules on marine fuel that could be uniquely beneficial to U.S. refiners, it's possible that great quarters like this won't be a rare occurrence.