PSX - Phillips 66's Portfolio Strength Will Continue

2023-12-25 05:49:41 ET

Summary

• Phillips 66 is targeting increased diversification, growing mid-cycle earnings while reducing risks, as the company vertically integrates.
• The company has a strong balance sheet with minimal debt it needs to aggressively pay down. Increased cash flow can go to shareholders.
• Overall, we expect the company to be able to drive long-term double-digit shareholder returns.

Phillips 66 (PSX) is an American multinational energy company headquartered in Houston. The company is one of the largest publicly traded refining companies, with a market cap just under $60 billion. As we'll see throughout this article, the company's impressive and complex assets will drive long-term shareholder returns.

Phillips 66 Shareholder Commitments

Phillips 66 is working to continue improving the reliability of its business with its commitments to shareholders.

The company is now targeting increasing mid-cycle EBITDA by $4 billion from last year to 2025. That'll come from optimized asset sales, and transforming the company's business to increase cost savings. The company at the same time as it adjusts the portfolio, expects to return ~27% of its market cap in a 2.5 year period, or a double-digit return.

That's a ramp up from the company's prior commitments. It'll come from synergies and improved optimizations in the company's portfolio. With an incredibly complex portfolio, being able to save $1 / barrel in refining costs, for example, is a massive accomplishment. That continued improvement in its existing business, rather than growth at all costs, shows the strength.

Shareholders will benefit heavily from getting in early in this up-cycle.

Phillips 66 Portfolio

The company is more than a downstream company. It has a strong and integrated portfolio.

In fact, midstream, supported by the company's acquisition of DCP midstream, will become almost as big as the company's refining segment. On top of that, the company has various renewable fuel, marketing, and other assets. All of these assets enable the company to have a strong and diversified portfolio that's much more than just its powerful refineries.

Phillips 66 Segment Performance

The company's average adjusted EBITDA was $7.7 billion from 2017-2019. The company's current mid-cycle target EBITDA is ~$10 billion.

For the 1st 3 quarters of 2023, the company has earned $9.6 billion in adjusted EBITDA. Annualized that points to an above average year of ~$13 billion in EBITDA. The company is targeting strong growth from its $10 billion mid-cycle to $14 billion in 2025 mid-cycle EBITDA, enabling even stronger earnings when the market is doing well.

For example in 2023, the company will come in almost 50% above its mid-cycle guidance. $14 billion in mid-cycle EBITDA is incredibly strong for a volatile company with a market capitalization of just under $60 billion.

Shareholder Returns

The company is planning to use its cash for strong shareholder returns, with a 50% increase in discretionary cash flow.

The company already has a strong balance sheet, a must in a volatile industry where a big debt load at the wrong time can put you in a very tough position. The company's sustaining capital is low as it maintains a strong business, and the company remains committed to its annual dividend, currently yielding just over 3%.

Together, the dividend + sustaining capital use up just under $3 billion. The company plans to modestly grow that dividend, but at the end of the day, it'll have almost $8 billion annualized at mid-cycle 2025 to put towards shareholder returns. That's a strong double-digit yield. The company diluted partially with the acquisition of Phillips 66 partners, but it's since bought back stock.

We'd like to see buybacks continue to ramp up at its current valuation, supporting overall shareholder returns.

Thesis Risk

The largest risk to our thesis is the company's ability to meet its growth targets. The company has strong cash flow now, but a substantial part of its returns past its 3% dividend come from having high mid-cycle cash flow going forward. The second risk is what does mid-cycle capital truly mean?

It's based on the company's prior market cycles, but it doesn't guarantee the future. A longer down-cycle could hurt the ability of even a more efficient form of the company to drive returns.

Conclusion

For those looking for a long-term investment to add to their portfolio, Phillips 66 represents the place to be. The company has an impressive portfolio of assets, strong cash flow, and a picturesque financial picture. The company is moving away from refining, while continuing to aggressively increase its mid-cycle earnings, and make opportunistic acquisitions.

Of course being in a cyclical industry is a tough place to be. However, often time that spells opportunity, being a good time to make acquisitions or additional investments, during the down cycle. Phillips 66's goal to generate long-term average double-digit shareholder returns makes it a valuable investment. Let us know your thoughts in the comments below.

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