Part 4
Equity research: Murphy USA, Inc. (Part 4 of 8)

Murphy USA: Why Murphy Oil spun off its retail marketing business

Murphy USA, Inc. (MUSA): Historical financials, FY2012 versus FY2011

Marketing segment total revenues increased by $239.0 million in FY2012 to $19.0 billion compared to the FY2011 amount of $18.8 billion. Total fuel sales volumes per station averaged 277,001 gallons per month in 2012, down 0.3% from the prior year amounts. Within operating revenues, merchandise sales increased $28.8 million FY2012, up 1.4% compared to FY2011.

The ethanol segment total revenues totaled $644.3 million FY2012 compared to $561.5 million FY2011. Revenues increased due to an uptick in volume. However, profitability was materially affected, as ethanol prices decreased and corn prices (the input) increased due to the Mid-West drought, which led to a write-down in the segment and a $54.8 million loss. In the TTM period FY2013, the company achieved profitability in the segment, as pricing has normalized.

MUSA Total Gross Profit Margins By Year 2.41.36 PMEnlarge Graph

Also, it is important to note that FY2011 EBITDA (earnings before interest, tax, depreciation, and amortization) was materially higher than the following years, as the company disposed of its refining operations, which led to a $118.7 million positive impact on the company. Murphy Oil disposed of its refinery segments, which was a part of its roadmap in order to transform into a pure-play E&P (exploration and production) company. Additionally, from prior management calls, Murphy Oil’s executive team believed they could receive greater consideration selling the assets versus spinning them off.

Gross margin analysis

At first glance, Murphy’s gross margins drastically lag those of its peers. However going past “first-level thinking,” Murphy’s strategy is solely focused on value pricing, supported by high volumes and ultra-low operating expenses. The company makes up the lack of margin through excess volume, which translates into higher gross profit dollars and EBITDA. Moreover, Murphy’s margins are in line with its other high gasoline volume–focused retailer, TravelCenters of America.

Murphy’s peers tend to focus less on fuel volumes and more on c-store foot traffic, which translates into higher gross profit margins, offset by higher operating expenses. Additionally, the mix of merchandise (especially non-tobacco merchandise) to gasoline tends to dramatically impact the margin profile of a business. Importantly, MUSA has managed to maintain steady gross margins over a volatile gasoline pricing environment, with a max drawdown of 40 bps, compared to its c-store–focused peers, who have had margin swings in excess of 100 bps at certain times.

Fuel gross profit margins tend to be low throughout the industry, with 50 bps margin swings a norm for operators. Although a low cost-operator, MUSA’s fuel margins are generally in line with its competition, who tend to focus less on volume and more on c-store traffic. Murphy’s ability to keep margins in line, while being a low-cost provider, is primarily due to the company’s wholesale arm and midstream assets. MUSA focuses on:

  1. Volume
  2. Value pricing
  3. Low OpEx, which allows the company to handle external gasoline pricing fluctuations

Murphy’s wholesale segment offers the company flexibility in maintaining margins. It acts as (1) a proprietary sourcing mechanism and (2) a wholesale profit division, which the company can utilize to gain a greater per-gallon margin spread when retail pricing is unfavorable.

MUSA Fuel Gross Profit Margins By YearEnlarge Graph

Merchandise margins tend to be the highest gross profit contributor for many operators in the space. Murphy’s merchandise margins lag those of its peers, as over 80% of Murphy’s merchandise sales come from tobacco products, which carry lower margins than dispensed fountain drinks and other snacks. Going forward, Murphy’s merchandise margins will start to come in line with its peers as the company builds out the 1,200 square foot format stores (23% of the current footprint), which carry a wider selection of higher margined products.

Fuel margins decreased in FY2012 to an average of $0.129 per gallon, compared to $0.156 per gallon in FY2011, a decrease of $0.027 per gallon or 17.3%. The lower fuel margins were caused by increased wholesale gasoline prices which were not fully recovered through higher prices to customers at the pump. Offsetting the decline in fuel margins, merchandise margins in FY2012 were 13.5% of merchandise sales compared to 12.8% in FY2011, an increase of 5.5%.

Capitalization

Murphy is well capitalized at the spin-off, with a relatively unlevered balance sheet with Debt/EBITDA at 1.8x. With the company’s unlevered balance sheet along with its portfolio of owned real estate (90%), Murphy has multiple levers to pull to fuel further growth or return capital to shareholders.

MUSA Merchandise Gross Profit Margins By YearEnlarge Graph

Capital expenditures

Capex within the marketing segment (c-stores) primarily entails the acquisition of land and build-out of stores. Maintenance CapEx is fairly low within the segment, primarily deployed to upgrade existing sites (update pumps et cetera). The company’s other capex is dedicated to its ethanol and terminal segments, which are primarily growth-related initiatives. Overall, the company’s maintenance capex requirements are low (averaging ~$27K per store per year) allowing for a high EBITDA/OCF conversion.

The company expects to spend $204 million on capital expenditures FY2013. Roughly $201 million is slated for the company’s retail segment, with $31 million slated for maintenance capex and $170 million for new retail locations/growth capex. The remaining $3 million is slated for the company’s ethanol facilities.

The Market Realist Take

In 2012, Murphy Oil Corporation (MUR) announced its intention to separate its US retail marketing business into a stand-alone publicly owned company. In its 10k filing, Murphy Oil said it anticipates a fall in revenue post separation of the US retail marketing business from Murphy Oil Corporation during 2013, and the desired sale of the UK downstream business. Murphy Oil’s US and UK businesses generated about 81% of Murphy’s consolidated revenue. These businesses also produced about 16% of income from continuing operations before considering unallocated corporate net costs during the first six months of 2013, and they employed about 79% of the company’s workforce as of June 30, 2013. Murphy Oil expects to be an independent oil and gas company in the future and won’t have a significant refining and marketing business as a diversification to its oil and gas business.

Murphy’s competitors in the convenience store space include Susser Holdings Corporation (SUSS), Casey’s General Stores (CASY), Alimentation Couche-Tard (ATD), The Pantry, Inc. (PTRY), TravelCenters of America (TA), and CST Brands, Inc. (CST)—spun off from Valero (VLO) in April.

The Realist Discussions