The Value Of Phillips 66's Midstream Assets Shine Bright In 2024

Core Thesis - Phillips 66 (PSX) has seen a significant shift in its earnings structure, with midstream assets now contributing over 45% of earnings, while the refining segment has dropped to under 20% of the bottom line, raising questions about the company's long-term outlook [2][5] Q2 Earnings Results - In Q2 2024, PSX reported an EPS of $2.31, beating market expectations by $0.33 and exceeding Q1 performance by $0.41, but still down from $3.87 a year ago [3] - Weak refinery margins, which have fallen approximately 33% year-over-year and 50% since Q1 2023, were the main driver for the decline in earnings [3] - The refining segment's earnings decreased from $1.7 billion in Q3 2023 to $302 million in the latest quarter, while midstream, chemicals, and marketing segments increased pretax income by 22% over Q1 [3][4] Midstream Business Developments - PSX announced the acquisition of Pinnacle Midstream for $550 million, expected to yield a 5.5x EBITDA multiple, indicating a strategic move to enhance its midstream capabilities [7] - The divestment of a 25% stake in the Rockies Express Pipeline for $1.275 billion at a multiple of 10.2x EBITDA allowed PSX to retire associated debt and unlock $135 million in cash [10] Future Refining Outlook - The refining sector faces challenges with new refineries in the Middle East and Africa expected to increase capacity, potentially putting pressure on crack spreads in the near term [11] - Despite current struggles, PSX's management remains optimistic about long-term refining fundamentals, citing limited capacity growth beyond 2025 and increasing global demand [11] Operating Costs and Efficiency - PSX has successfully reduced operating costs by $1.53 per barrel since 2022, achieving a quarterly cost of $6.43 per barrel with 98% utilization across its portfolio [12] - However, PSX's margins remain lower compared to competitors, indicating room for improvement in cost structure [12] Valuation and Shareholder Returns - PSX generated $4.13 billion in EBITDA in the first half of the year, yielding an annualized EV to EBITDA multiple of 9.6x, which is not expensive but represents a premium compared to peers [13] - The company has returned $11.2 billion to shareholders through dividends and share repurchases, with expectations to reach a total of $13-$15 billion by the end of 2024 [14] Key Takeaways - Weak refining crack spreads persist due to high US utilization and new Middle Eastern refinery capacities [16] - PSX's diverse business segments have created a reliable earnings floor, allowing for substantial cash generation despite market pressures [16] - The company's current valuation and near-term challenges lead to a HOLD rating, but long-term opportunities remain due to cash generation capabilities and positive refinery market forecasts [16]