US prices climbed 8.6% in May. A big reason for these price increases – 0.3 percentage points more than expected – is the rise in gasoline prices which just exceeded $5 per gallon on average – 62% more than the previous year, according to the wall street journal.
This begs the age-old question: cui bono (Latin for who benefits)? The answer: oil refineries like the ones that Valero Energy
Although its shares have soared so far this year, Valero’s rapidly growing revenue and earnings per share suggest its shares will rise even further.
(I have no financial interest in any securities mentioned in this post).
The Gasoline Industry Value Network
Why are gasoline prices so high? The demand for gasoline exceeds the world’s ability to supply it to consumers. How? Each link in the industry’s value web – the chain of activity from oil exploration to gasoline consumption – propels prices at the pump:
- oil exploration is down from its peak in 2014 because the biggest oil exploration companies choose to divert their cash to shareholders in the form of dividends, share buybacks and debt repayments rather than exploring more oil. For example, according to Bloomberg, in February, Occidental announced a $3 billion buyout program and a $5 billion repayment of its nearly $28 billion debt. To be fair, for the industry as a whole, the number of oil rigs has increased by 60% to 574 over the past year, which is still down about 64% from from its peak of 1,609 in 2014, according to Baker Hughes.
- Oil production is falling due to the loss of much of Russia’s oil, which accounts for about 10% of the planet’s 100 million barrels per day, according to the Federal Reserve Bank of Dallas. Oil prices — at around $120 a barrel — reflect the loss of that Russian supply somewhat offset by lower Chinese demand due to Covid lockdowns, according to oilprice.com. Over the past two years, US crude oil supply has fallen 23% to 417 million barrels.
- Oil refineries – which converts oil into gasoline, jet fuel and other products – are operating at 90% capacity, near the top of the five-year range. How? Since 1982, the number of refineries in operation has dropped by about 50% to 254, according to the Energy Information Administration (EIA). In addition, since the pandemic, one million barrels per day of refining capacity in the United States has stopped operating, with some refineries having been damaged by a hurricane. Hence the gap between the price refineries pay for oil and the price they charge for gasoline — is 60%, according to the Log. Sanctions against Russia could cut 1.4 million barrels a day of gasoline from the world’s supply. The result is higher refining profits. For example, gasoline margins on the East Coast have quintupled over the past two years, approaching $50 a barrel, the Journal notes.
- Consumer demand for gasoline is strong — recovering quickly from a pandemic slump to record 9.33 million barrels in 2018 — to hit 8.9 million barrels per day in 2022, according to the EIA. The reason for the increase is that those who have been locked in during the pandemic – and who can afford to pay record high gas prices – are hitting the road during the summer driving season.
Valero performance and outlook
Refineries were the big winners in an otherwise terrible 2022 stock market. A good example – with its shares up 87% in 2022 – is Valero Energy which “engages in the manufacture and marketing of transportation fuels and other petrochemicals”.
Valero is a leader in this attractive industry. How? Its 16.5% share in the petroleum refining industry earned Valero an All Star rating, according to IBISWorldas it boasts “stronger market share, earnings and revenue growth than its peers”.
Valero’s technology allows it to process different types of crude oil, which makes the company more flexible than its competitors. IBISWorld notes that it can process “86 different crude oils, making it the industry leader in input flexibility.”
For example, when the sanctions against Venezuelan crude – which is heavier – came into effect in 2019, Valero had already started to exploit higher volumes of lighter oils which were in greater quantity.
Valero controls 12 US refineries — representing 84% of its production. It operates six refineries on the US Gulf Coast with a combined production capacity of 1.6 million barrels per day, while its other six US refineries can produce 590,000 barrels per day.
Valero’s financial results have been exceptional so far this year. In the first quarter of 2022, Valero reported revenue up 89% to $37 billion, 20% higher than analysts expected. Its profits soared 229% to $905 million, resulting in a net profit margin of 2.44%, up 168% from a year earlier.
What analysts say
Zacks is optimistic about Valero’s revenue and earnings growth prospects for the current quarter and year. Namely, he expects large increases in
- Sales on the rise 37% to $37.9 billion in the quarter ending June and 33% higher to $151.6 billion for all of 2022.
- Earnings per share to pop 850% to $5.62 in Q2 2022 and up to 409% to $14.30 for 2022
These infuriating gas prices are terrible for consumers and great for Valero. To ease your pain, buy its shares.