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Hold onto Marathon Petroleum

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On Aug 5, 2013, we retained our Neutral recommendation on independent oil refiner and marketer Marathon Petroleum Corp. (MPC - Free Report) . Our investment thesis is supported by a Zacks Rank #3 (Hold).

Why the Reiteration?

Spun out of parent Marathon Oil Co. (MRO - Free Report) in 2011, the company’s positives include its scale advantage, impressive asset quality and an extensive midstream/retail network. We believe management’s steady dividend increases, the ongoing share repurchase program and the recent acquisition of BP Plc’s (BP - Free Report) Texas City refinery could further boost shareholder value.

However, we think the current valuation is fair and adequately reflects the company’s growth prospects. Moreover, Marathon Petroleum’s core business – refining – is faced with a high degree of volatility, while being capital intensive. This is expected to limit its ability to generate positive earnings surprises.  

Detailed Analysis

Marathon Petroleum is the fourth largest domestic refiner with a combined crude oil processing capacity of approximately 1.7 million barrels per day through its portfolio of seven refineries. A major advantage for the company is its proprietary access to pipelines, which inhibits lower-cost competitors from supplying Marathon Petroleum's key markets.

Marathon Petroleum’s purchase of BP's Texas City refinery – one of the largest and most complex in the country – will solidify the position of the former in the fuel export business, apart from improving production flexibility.

The Findlay, Ohio-based firm’s financial flexibility and strong balance sheet are real assets in this highly-uncertain period for the economy. Marathon Petroleum remains in excellent financial health, with over $3 billion in cash/cash equivalents and an investment-grade credit rating with a debt-to-capitalization ratio of 22%. Furthermore, an attractive dividend yield and the ongoing share buyback program highlight the company’s commitment to create value for shareholders.

However, due to the volatile nature of the refining business, we do not see any significant price upside for Marathon Petroleum shares in the next few quarters. We expect the company to grow at a somewhat more conservative and sustainable pace.

Finally, with refiners being buyers of crude, an increase in oil prices can squeeze their profitability. As a result, with the commodity’s price hovering around $105 per barrel, we expect Marathon Petroleum’s margins to be negatively impacted due to a rise in the cost of oil it buys to refined products.

Stocks That Warrant a Look

While we expect Marathon Petroleum to perform in line with its peers and industry levels in the coming months and advice investors to wait for a better entry point before accumulating shares, one can look at Range Resources Corp. (RRC - Free Report) as a good buying opportunity. This North American energy explorer – sporting a Zacks Rank #1 (Strong Buy) – has a solid secular growth story with potential to rise significantly from current levels.

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