Cost Reductions And Asset Sales Will Improve Net Margins And Returns

Key Takeaways

• Strategic cost reduction and asset dispositions are projected to improve net margins and support debt reduction and shareholder returns.
  
• Growth in Midstream and renewable energy aligns with revenue expansion and enhanced earnings through efficiency and high-value products.
  
• Market challenges and operational shifts, including asset shutdowns and falling commodity prices, threaten Phillips 66's profitability, diversification, and shareholder returns.

Catalysts

Operates as an energy manufacturing and logistics company in the United States, the United Kingdom, Germany, and internationally.

• Phillips 66 is executing cost reduction and business transformation initiatives, achieving a $1.4 billion reduction target, expected to enhance net margins long-term due to improved efficiency.
  
• The Midstream segment's growth, including the acquisition of Pinnacle Midstream and increased adjusted EBITDA, is likely to positively impact future earnings through revenue growth and stable cash generation.
  
• Planned asset dispositions, exceeding $3 billion, will provide cash proceeds to support strategic priorities, including debt reduction and shareholder returns, potentially improving net margins and earnings per share.
  
• The Rodeo Renewable Energy Complex's increased production capacity and potential for renewable jet fuel offers a pathway for revenue growth, with anticipated positive impacts on the company's margins due to higher-value products.
  
• Portfolio optimization and focus on high-return, low-capital projects in refining are expected to contribute to improved refinery capture rates and enhanced earnings through better operational efficiency and profitability at mid-cycle pricing.

Phillips 66 Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Phillips 66's revenue will decrease by -7.4% annually over the next 3 years.
• Analysts assume that profit margins will increase from 2.3% today to 4.3% in 3 years time.
• Analysts expect earnings to reach $5.0 billion (and earnings per share of $13.25) by about January 2028, up from $3.4 billion today. However, there is a considerable amount of disagreement amongst the analysts with the most bullish expecting $7.3 billion in earnings, and the most bearish expecting $4.2 billion.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 13.3x on those 2028 earnings, down from 14.0x today. This future PE is greater than the current PE for the US Oil and Gas industry at 11.0x.
• Analysts expect the number of shares outstanding to decline by 2.7% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.86%, as per the Simply Wall St company report.

Phillips 66 Future Earnings Per Share Growth

Risks

• The decision to cease operations at the Los Angeles refinery due to market dynamics and sustainability concerns could result in a loss of refining capacity and higher costs, impacting overall net margins.
  
• Seasonal maintenance costs and lower equity earnings, such as the sale of the interest in the Rockies Express pipeline, have decreased Midstream results, potentially affecting future EBITDA and earnings.
  
• Weak refining results, primarily due to softer crack spreads and the effect of planned asset shutdowns, indicate challenges in maintaining profitability and capturing revenue.
  
• The Renewable Fuels segment shows decreased results due to lower margins, which could continue to affect the company's ability to diversify revenue streams in a growing sector.
  
• Falling commodity prices have impacted working capital, and unpredictable fluctuations can affect cash flow and operational stability, posing a risk to shareholder returns and earnings continuity.

Valuation

• The analysts have a consensus price target of $140.75 for Phillips 66 based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $161.0, and the most bearish reporting a price target of just $120.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $117.4 billion, earnings will come to $5.0 billion, and it would be trading on a PE ratio of 13.3x, assuming you use a discount rate of 7.9%.
• Given the current share price of $113.93, the analyst's price target of $140.75 is 19.1% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.