Parkland Top Riskless Return on Record Oil GapEric Lam and Sean B. Pasternak
Parkland Fuel Corp., Canada’s largest independent fuel distributor, has posted the best risk-adjusted return among the country’s energy stocks as it reaps the rewards of the world’s cheapest crude.
Parkland outperformed all other 61 members in the Standard & Poor’s/TSX Energy Index in the 12 months through Feb. 8, returning 3 percent after adjusting for price swings according to the Bloomberg Riskless Return Ranking. The Red Deer, Alberta-based company, which sells gasoline, diesel, propane and lubricants, has surged 46 percent over the same period, the second-best performing stock in the energy index. The stock fell 0.3 percent to C$20 today.
Parkland has been taking advantage of the discount between Western Canadian Select crude and North American benchmark West Texas Intermediate, which reached as much as $42.50 last year. The company has also benefited from a contract with Suncor Energy Inc, in which it shares a portion of Suncor’s refining margins.
“The refining profits have been immense because of that discrepancy between WTI, Brent and the other different grades of crude,” said Michael O’Brien, director and fund manager with TD Asset Management in Toronto. He oversees $3 billion in assets.
Refiners such as Suncor and Imperial Oil Ltd., which are able to process cheap crude to more expensive higher-grade gasoline, have benefited from these pricing differences, and the profit has trickled down to Parkland. Imperial, the largest refiner in Canada, reported record refining profit of C$549 million ($548 million) on Feb. 1, compared with C$272 million a year earlier.
Parkland, with a market value of about C$1.36 billion, purchased and distributed about 25 percent of its total fuel from Suncor last year under a contract signed in 1997 and which is due to expire at the end of this year.
“The refining margin formula has allowed us in the last two years to really benefit from the differential in Western Canadian pricing and Brent pricing,” Tom McMillan, a spokesman for Parkland, said by phone from Calgary. “Contracts like this don’t exist anymore. We’re the last. There’s very pronounced volatility in refiners’ margins, and as much as this has helped us in the last two years, it has hurt us over time and led to volatility in our results.” It was Suncor’s decision to end the contract, he said.
Sneh Seetal, a spokeswoman for Suncor, said it is company policy not to comment on contractual arrangements with its customers and suppliers.
Parkland currently holds 5.2 percent of market share in Canada and plans to boost it to 10 percent by 2016, McMillan said. The distributor shipped more than 4 billion liters (1.1 billion gallons) of fuel in the past 12 months to the more than 700 retail gas stations it owns in western Canada, Imperial’s Esso stations in Ontario and wholesale and commercial operators.
Trevor Johnson, an analyst with National Bank Financial, estimates Suncor’s payments to Parkland accounted for about C$50 million of Parkland’s 2012 earnings before interest, taxes, depreciation and amortization (EBITDA), which he expects to be C$220 million.
“I don’t think we’ll see the same type of returns for Parkland in 2013,” Johnson said in a phone interview from Toronto. “The challenge is their success the past 12 months has been the refinery margins, and that is going away at the end of the year. It could be more of a headwind as we get closer to that date.”
The deal is a relic of a past era when both Suncor and Parkland were much smaller and needed each other’s business, Johnson said. Now, the economics have changed and Suncor does not need to “incentivize” distributors, he said.
As recently as 2010, Parkland’s deal with Suncor forced the company to pay higher prices, McMillan said.
“There are years where we were making money hand over fist and years when we could have bought fuel from another competitor for cheaper,” he said.
The details of the payments are confidential, he said. Parkland will make up the lost Suncor product from other suppliers such as Imperial, Shell Canada Ltd. as well as Ultramar Ltd., and will likely sign a newer, smaller deal with Suncor, McMillan said.
Parkland management declined to comment ahead of its earnings. The company will post profit of 36 cents a share, adjusted for certain items, according to the average of two estimates compiled by Bloomberg. Parkland has exceeded analysts’ expectations in four of the last five quarters, data compiled by Bloomberg show.
Jennifer Dowty, a fund manager with Manulife Asset Management Ltd. in Toronto, said there is still upside to the stock, even after its leading performance in 2012.
“If we see some strong earnings numbers, with the current upside to the market, that might extend the multiples and make it more attractive,” Dowty said in an interview. “The problem with capacity won’t be fixed in the next couple of quarters, so for the balance of 2013 I don’t see that advantage going away.”
That said, the price spread between Western Canadian and West Texas Intermediate crude has narrowed since December, to $24.40 on Feb. 8, the narrowest since Oct. 24.
“Stability in the differential should be restored in the second half of 2014 with start-up of the Flanagan South - Seaway II connection” to the Gulf Coast heavy crude processing market, Paul Y. Cheng, an analyst with Barclays Capital Inc. in New York, said in a note to clients on Feb. 5. He expects the differential to settle in the $15 to $20 a barrel range.
The Seaway pipeline, a jointly owned project between Enbridge Inc. and Enterprise Products Partners LP that leads from Cushing, Oklahoma to the Gulf Coast, is expected to reach a capacity of 850,000 barrels a day by mid-2014.
National Bank’s Johnson sees about 10 percent to 15 percent upside for Parkland stock in 2013. He expects the company to focus on growth, with C$200 million or more to spend on acquisitions.
“They have a pretty ambitious strategic plan,” he said.
Parkland agreed in December to buy Elbow River Marketing from AvenEx Energy Corp. for C$80 million in cash and C$10 million to C$15 million in debt. The transaction added 1,200 leased rail cars throughout Canada and the U.S., suggesting the company is looking south of the border to expand its business, Johnson said.
The Suncor contract has been a “black box” in Parkland’s balance sheet, and its removal will allow investors to evaluate the company on its own merits, McMillan said.
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