We have downgraded independent oil refiner and marketer Western Refining Inc. (WNR) shares to Neutral from Outperform, based on weaker-than-expected operating results and continued balance sheet concerns.
An uptick in economic activity overseas (mainly in China and India) and prospects for higher fuel demand in the U.S. are likely to push 2011 industry margins higher than the last year’s level. Against this backdrop, we expect income from Western Refining’s refining operations to improve in 2011.
Additionally, we believe Western Refining’s strategic actions – to improve its performance and competitiveness in a cost-effective manner – will drive the company’s profitable growth and boost its stock valuation.
In the near term, the company stands to benefit from exposure to the profitable Southwest refining assets. Western Refining’s strong retail and wholesale operations strengthen the positive sentiment.
However, we believe Western Refining’s comparatively weak liquidity position and the lack of meaningful debt reduction have overshadowed its gains from successful restructuring initiatives over the last two years and leave the company vulnerable to an extended drop in refining margins.
As of March 31, 2011, Western Refining had cash on hand of $11.9 million and total debt of approximately $1.1 billion, representing a debt-to-capitalization ratio of 60.3%. Rising crude oil prices have added to the company’s challenges by increasing the cost of production.
Given these headwinds, we expect Western Refining shares to perform in line with the broader market. We think that the current valuation is fair and adequately reflects the company’s future growth prospects. Our new long-term Neutral recommendation is supported by a Zacks #3 Rank (short-term Hold rating).
Incorporated in 2005, El Paso, Texas-headquartered Western Refining is an independent refiner and marketer of refined petroleum products in the Southwestern and Mid-Atlantic regions of the U.S. The company operates in three segments: Refining (accounted for 72% of the company’s total 2010 net sales), Retail (6%), and Wholesale (22%).
Western Refining competes in the Oil Refining and Marketing industry with other established firms like Valero Energy Corp. (VLO), Tesoro Corp. (TSO), Sunoco Inc. (SUN), etc.
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