Higher Gas Prices and Refining Margins Can Add Fuel to Conoco Shares

-1.88%
Downside
127
Market
124
Trefis
COP: ConocoPhillips logo
COP
ConocoPhillips

We estimate that ConocoPhillips‘ (NYSE:COP) price per barrel of gasoline sold could reach around $110 by 2013 vs. Trefis members who forecast that this will reach around $125. In 2009, as the economic recession weighed on demand and refining margins were under significant pressure due to excess capacity, gasoline prices declined to $77 per barrel from over $110 in 2008. With improving refining margins and strong demand for transportation fuel, we expect gasoline demand to pick up and the average realized price of gasoline to improve going forward.

ConocoPhillips competes primarily with other oil producers like Exxon Mobil (NYSE:XOM), British Petroleum (NYSE:BP) and Anadarko (NYSE:APC) and Chevron (NYSE:CVX).

We currently have a Trefis price estimate of $68.44 for ConocoPhillips’ stock, below the current market price of around $75.

Refining Margins to Increase

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Refining margins generally tend to increase when crude oil prices rise as this leads to higher average prices for various refined products. In the third quarter of 2006, ConocoPhillips’s average refining margins at its U.S. Gulf Coast (USGC) refining center was $11.47 per barrel. During the same quarter of 2009, this figure dropped to $4.16 per barrel. As demand increases due to growth in the economy, we expect refining margins to also increase, putting an upward pressure on the price of gasoline and other refined products.

Higher refining margins lead to higher EBITDA margins on Conoco’s gas division. In the chart below you can see how our profit margins (EBITDA) declined from around 23% in 2008 to under 10% in 2009 during the economic slowdown. If this recovers to 2007 levels of around 16% gradually during the forecast period, this would add over 10% to our price estimate independent of other factors.

Rising Demand for Transportation Fuel

In many countries such as the U.S., gasoline demand is much greater than the other forms of refined crude oil. The U.S. demand for gasoline accounts for nearly 46% of refined crude oil the U.S. consumes followed by middle distillates at around 29%. The strong demand for gasoline is mainly due to its use as a transportation fuel in the U.S., and U.S. refineries are unable to meet domestic demand and so gasoline supplies have to be imported.

Currently in Europe gasoline demand is less than 25% of refined crude oil. If there is a shift toward gasoline-oriented vehicles, European refiners will have a tough time producing enough to meet European demand as well as maintaining the level of exports required by the US market. This should keep gasoline prices elevated.

Trefis Community Forecast

Trefis members expect ConocoPhillips’s gasoline price per barrel will increase from around $101 in 2011 to $125 in 2013 before trending to $150 by the end of the Trefis forecast period, compared to the baseline Trefis estimate of an increase from $95 in 2011 to $113 in 2013 and reaching $134 by the end of the Trefis forecast period.

The member gas estimates imply a small upside of a 1-2% to the Trefis price estimate for ConocoPhillips’s stock and highlights the low sensitivity of this division to gas prices independent of profit margin improvements. However, if we look at the profit margin improvements mentioned above in conjunction with the higher gas prices forecast of the Trefis members, the combined upside to our price estimate would be around 12-13% and would be slightly ahead of the market price.

If margins improve more than we forecast, there could be upside to the market price. Drag the trend lines above to see how these independent variables can influence the price estimate.

Our complete analysis for ConocoPhillips’s stock is here.