In recent quarters, fuel margins for companies in the Zacks Oil and Gas - Refining & Marketing MLP industry have declined, falling significantly below the peak levels seen in 2022. Although strong demand and light product inventories should continue to support the sector, most operators anticipate subdued margins for the remainder of 2024. Additionally, rising costs driven by persistent inflation are further squeezing profits. However, the defensive nature of these stocks, their fee-based business models, and built-in inflation mitigation measures provide some resilience in a volatile market. For those interested, we highlight Targa Resources TRGP, Sunoco LP SUN and CrossAmerica Partners LP CAPL.
Industry Overview
Master limited partnerships (or MLPs) differ from regular stocks since interests in them are referred to as units, and unitholders (not shareholders) are partners in the business. Importantly, these low-risk hybrid entities bring together the tax benefits of a limited partnership with the liquidity of publicly traded securities that earn a stable income. The assets owned by these partnerships are typically oil and natural gas pipelines and storage/infrastructure facilities. The Zacks Oil and Gas - Refining & Marketing MLP industry is a sub-sector of this business model. These firms operate refined product terminals, storage facilities and transportation services. They are involved in selling refined petroleum products (including heating oil, gasoline, residual oil, jet fuel, etc.) and a plethora of non-energy materials (like asphalt, road salt, clay and gypsum).
3 Trends Defining Oil and Gas - Refining & Marketing MLP Industry's Future
Refining Margins Under Pressure: Refining margins, while still healthy, have weakened from the exceptional highs of 2022, with crack spreads narrowing due to lower refined product prices relative to crude oil. Elevated inventories and demand uncertainties pose additional risks to profitability. Despite sanctions and price controls, Russia's shift of oil exports to India and China has prevented the anticipated tightening of global product supplies. This dynamic has contributed to the recent decline in refinery margins, weighing on the earnings of downstream companies.
A Stable Investment: Amid the current volatile oil market driven by demand swings and geopolitical tensions, master limited partnerships (MLPs) present a safer investment option. MLPs offer attractive returns with lower risk by focusing on assets like oil and natural gas pipelines and storage facilities that generate steady fee-based revenues through long-term contracts. These contracts reduce direct exposure to commodity price fluctuations, providing consistent cash flow across market cycles. Many agreements also operate on a take-or-pay basis, guaranteeing payment to MLPs regardless of transportation volumes.
Supply Chain Challenges: Despite a generally positive energy outlook and improved demand, the industry faces ongoing challenges from supply-chain disruptions and rising costs. Key issues such as increased transportation expenses, driver shortages, and labor constraints have hindered MLPs (or energy infrastructure providers) from delivering packaged volumes to customers. These headwinds, combined with the difficulty in passing increased costs onto clients, have pressured profitability. Unfortunately, these challenges are expected to persist in the near term, affecting the midstream sector’s financial performance.
Zacks Industry Rank Indicates Bearish Outlook
The Zacks Oil and Gas – Refining & Marketing MLP is a six-stock group within the broader Zacks Oil – Energy sector. The industry currently carries a Zacks Industry Rank #162, which places it in the bottom 35% of more than 250 Zacks industries.
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates fairly dull near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.
Despite the dim near-term prospects of the industry, we will present a few stocks that you may want to consider for your portfolio. But it’s worth taking a look at the industry’s shareholder returns and current valuation first.
Industry Outperforms Sector & S&P 500
The Zacks Oil and Gas – Refining & Marketing MLP industry has fared better than the broader Zacks Oil - Energy Sector as well as the Zacks S&P 500 composite over the past year.
The industry has gained 47.5% over this period in contrast to the broader sector’s decrease of 2.9%. Meanwhile, the S&P 500 has gone up 22.5%.
One-Year Price Performance
Industry's Current Valuation
Since midstream-focused oil and gas partnerships use fixed-rate debt for most of their borrowings, it makes sense to value them based on the EV/EBITDA (enterprise value/ earnings before interest tax depreciation and amortization) ratio. This is because the valuation metric takes into account not just equity but also the level of debt. For capital-intensive companies, EV/EBITDA is a better valuation metric because it is not influenced by changing capital structures and ignores the effect of non-cash expenses.
On the basis of the trailing 12-month enterprise value-to-EBITDA (EV/EBITDA) ratio, the industry is currently trading at 10.10X, significantly lower than the S&P 500’s 18.52X. It is, however, well above the sector’s trailing 12-month EV/EBITDA of 3.08X.
Over the past five years, the industry has traded as high as 13.57X and as low as 5.78X, with a median of 9.02X, as the chart below shows.
Trailing 12-Month Enterprise Value-to-EBITDA (EV/EBITDA) Ratio (Past Five Years)
3 Stocks in Focus
CrossAmerica Partners LP.: Headquartered in Allentown, PA, wholesale distributor of motor fuels CrossAmerica Partners’ variable rate margins helped it offset the loss in volumes during the pandemic. Further, CAPL’s recent acquisitions of retail and wholesale assets provide it with a wider reach and scale.
Over the past 30 days, CrossAmerica Partners saw the Zacks Consensus Estimate for 2024 jump 206.3%. The firm, which pays out 52.50 cents quarterly distribution to yield nearly 11%, beat the Zacks Consensus Estimate for earnings thrice in the trailing four quarters and missed in the other. CAPL stock, carrying a Zacks Rank #2 (Buy), has edged down 1.7% in a year.
You can see the complete list of today’s Zacks #1 Rank stocks here.
Price and Consensus: CAPL
Targa Resources: It is a leading provider of integrated midstream services in North America. The Houston, TX-based operator primarily derives its revenues from gathering, compressing, treating, processing and selling natural gas. Targa Resources also provides services associated with natural gas liquids, including those to liquefied petroleum gas exporters, and crude oil.
The Zacks Consensus Estimate for Houston, TX-based Targa Resources indicates 60.7% earnings per share growth over 2023. The firm, which pays out 75 cents quarterly dividend to yield just over 2%, has a VGM Score of B. Valued at around $32.2 billion, this Zacks Rank #3 (Hold) stock has surged 75.2% in a year.
Price and Consensus: TRGP
Sunoco LP: It participates in the transportation and supply phase of the U.S. petroleum market across a number of states. It also focuses on motor fuel distribution to convenience stores, independent dealers and commercial customers. SUN pays out 87.56 cents quarterly distribution ($3.5024 per unit annually), which gives it a 6.7% yield at the current unit price.
Over the last 30 days, the Zacks Consensus Estimate for Sunoco’s 2024 earnings has moved up 12.6%. The 2024 Zacks Consensus Estimate for SUN indicates 124.9% year-over-year earnings per unit growth. Valued at around $8 billion, this Zacks #3 Ranked partnership has gained 15.8% in a year.
Price and Consensus: SUN
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