SUN - Sunoco: Attractive Dividend And Growing Through Acquisitions

Summary

• Sunoco has increasing cash flow, grows through acquisitions and pays an above industry average forward dividend yield of 7.37%, which is sustainable under the 1.8X coverage ratio.
• Its aggressive acquisition strategy has left it with major long term debt, however no maturities due until 2027.
• Cautious of the industry's sensitivity to fluctuating oil prices and the changing fuel demands of the industry in the long term.

Sunoco LP ( SUN ) is an MLP energy sector stock with a market cap of $3.818 and a low forward price-to-earnings ratio of 7.96. The initial attraction is often due to its high-yielding dividend of 7.37%. The stock had seen a relatively stable upward stock trend. The big dip was in March 2020 when crude oil traded at a historically below zero dollar value.

SUN has been growing through acquisitions, the most recent in October 2022. It has increased cash flow and will release its full-year earnings report next month, estimated to bring in $23.3 billion, a 31.6% increase YoY. The management show confidence in their 2023 performance. Although cautious that the company carries a high level of debt, it has shown stability in its performance and has no short-term maturities to pay off. Investors may want to take a bullish stance on this sturdy company.

Overview

SUN is a master limited partnership ((MLP)) which operates as an independent fuel distributor, servicing fuel to its diverse customers. Its sales channels are broken from highest to most negligible revenue generating as follows; distributor > 50%, dealer +/-20%, unbranded wholesale +/-20%, commission agent, rental income and others. Its customers are across 40 states with over 10,000 gas stations, with its headquarters in Dallas. It's famously known as the official fuel provider for NASCAR. It grows mainly through acquisitions. The most recent was Peerless Oil & Chemicals, Inc, paid through its revolving credit facility in October 2022 for $70 million.

SUN has revenue stability from a few key sources. Firstly, since 2018 SUN has had a 15-year take-or-pay fuel supply agreement with 7-Eleven ( OTCPK:SVNDF ). Secondly, it benefits from economies of scale, allowing the company to buy low and sell at the premium of its brand. Thirdly, it has 950 infrastructure and real estate sites in its portfolio which generate a steady income, although it only accounts for a minimal % of total revenue. Lastly, it has a long history of controlling expenses through weaker market trends.

Key to note is that the company has grown through an aggressive acquisition strategy, with little organic growth. Although it has stable performance, there is much debt to this company.

Financials

SUN has continued its steady growth through economic instability and geopolitical factors creating significant volatility. It is essential to see if the company has been increasing revenue in the long run. If we have the data over the last ten years, we can see that, although the company was hit severely by the pandemic in FY20, there has been upward growth of 76% from FY16 to FY21 to reach $17.56 billion. Growth has been through acquisitions rather than organically.

The next thing to find out is whether the company is becoming more profitable over its performing years. We can see that SUN has remained profitable for the last three financial years reaching $524 million in FY21. Its TTM currently stands at $520 million.

The company has a healthy balance sheet, although its debt is high. If we look at total current assets versus total current liabilities by quarter, we can see that SUN keeps a consistent current ratio; as of the prior quarter, it is at 1.41. However, the quick ratio for the same period is riskier at 0.71.

If we look at the company's free cash flow, it has a positive levered cash flow of $217.75 million TTM. Total annual free cash flow has been positive for the last four financial years. In the previous ten years, we see two significant cash flow outliers. In 2017 the negative cash flow was attributed to paying for a series of acquisitions of retail businesses from Energy Transfer LP ( ET ) it acquired in 2016. The company underwent a significant business model change in 2018, selling off convenience stores, including those purchased in 2016, to 7-Eleven for $3.3 billion. SUN is now a business focused purely on gas distribution, moving away from convenience store performance volatility.

We can see that selling off its convenience stores in 2018 helped to reduce total debt. However, total debt remains very high, and the debt-to-equity ratio is extremely risky at 400%. On the more positive side, the company has no short-term maturities, with the first senior note due in 2027 at a value of $600 million.

SUN has been paying out dividends since 2012. It is a quarterly dividend-paying stock with a 7.27% forward dividend yield, compared to the Oil and Gas Refining and Marketing industry average of 5.12%. Its latest payout was $0.83 per share on 18 November 2022. The dividend has increased over the last ten years, although there has been no growth in the previous five years, and the value has dropped at most 10%.

SUN is trading below its annual price target of $46.75. It has an attractive price-to-earnings ratio of 7.96, below the oil sector average of 8.16. Zacks Rank and Seeking Alpha's Quant system give the stock a hold rating. The stock has been performing above SP500. However, we can see that revenue over three years is at a low of 14.79%, and the company has a high price-to-book ratio due to the amount of debt it carries.

Risks

SUN is an MLP which trades similarly to common stocks. However, it has a very different ownership structure, which can complicate your tax filings. If you trade in this stock, you will receive an additional K-1 document to file your taxes. It is essential to realise that these businesses are exempt from paying tax on earnings. This is also a reason why the dividends are generally higher. Instead, this is passed on to the stakeholders through these documents. Investors should be aware of the benefits and risks of MLPs .

Furthermore, SUN is part of an industry transitioning into alternative energy sources. There needs to be more certainty about the adoption rate of EVs in the market. In some countries, such as Norway, passenger EVs market share is 83% as of December 2022. The USA is a very different market, with only a 6% market share. However, it is a trend that we should continue to evaluate with caution.

Final thoughts

SUN is a company with solid top and bottom-line performance. Although it has a debt-heavy acquisition strategy, it keeps an upward-trending positive cash flow, controls expenses and proves that it can perform through economic uncertainty and when hit by price volatility from geopolitical factors. With an attractive dividend, a positive outlook at the end of the financial year and recent acquisitions to continue its stable growth, investors may want to take a bullish stance on this company.

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