Valero Energy Corporation (NYSE:VLO) beat estimates and everyone should be sufficiently happy about it. The circumstances that created the positive news for Valero are useful to look into for industry guidance and to help us analyze direct peers and other oil firms, and for great business practices and strategic decisions that you can look for with other companies. Everyone is watching Valero to look for broader lessons, better understand the industry, and find a stock that benefits from the same circumstances that is flying under the radar. I did not find that hidden gem, because the entire sector is on fire, but there are still some solid companies to invest in for a longer outlook on cheap crude and expensive gas.
Valero beat by so much it makes you wonder about estimates in general. Netflix and VMware are just the most recent extreme moves that are “surprises,” and those massive movements are becoming a regular occurrence. Instead of exuding infallible confidence, exude confidence with discussion about the unknowns. Valero’s beat was not force majeure, or an act of god–it was great revenues, around $34 billion versus an estimate of around $31 billion, and margins that were 20% higher than expected.
All the numbers are great for investment purposes, but boring over all–the why is much cooler. Valero was helped by North American oil from places like North Dakota and Canada. If you are not familiar with the boom going in North Dakota it is well worth reading about. The crude coming from the Midwest is cheaper than some other sources. Valero used this cheaper crude to push down costs. It also imported crude from Canada that requires some special equipment, but is also cheaper once the investment is made.
Valero has every intention of continuing to use the cheaper crude. It has the benefit of having refining operations close to that area. Rail and barges will help transport the oil in addition to existing pipelines. Ethanol margins were terrible and actually offset the fantastic margins that Valero posted. Think about that–ethanol actually lowered overall margins, but margins were 20% higher than expected. The price of corn was the cause of eroding margins. Revenue surprises will probably be harder, since estimates will take the new information into account. If Valero pulls back some it might be worth a buy into the next earnings announcement.
What is in Store for the Peers?
Valero has national operations, and refineries that are not in the Midwest or Gulf area are not able to get the benefit of cheap oil. Perhaps a smaller company with more local operations will be better. Having the refineries within shouting distance of the cheap crude would help margins. I bet local crude tastes better too, just like local vegetables if you are from a good growing area.
HollyFrontier Corp (NYSE:HFC) has five refiners in the Midwest and Rockies. The map of operations reveals that each refinery has access to crude via pipelines, rail, and road if need be. That means that there does not need to be a lot of work done to ease the logistics. By truck is probably the least efficient way to move crude, after mules.