Marathon Petroleum Corp quarterly report, Q2 FY2012

Marathon Petroleum Corporation — Q2 2012 Form 10-Q

Reporting period: Three and six months ended June 30, 2012. Amounts are in U.S. dollars; financial statement amounts are in millions unless stated otherwise. MPC operates Refining & Marketing, Speedway retail, and Pipeline Transportation businesses. The 2011 comparison is not fully like-for-like: it includes pre-spinoff results of Marathon Oil’s refining, marketing and transportation business, with allocated corporate costs; the transition-services agreement ended June 30, 2012.

Financial performance

Metric	Q2 2012	Q2 2011	First six months 2012	First six months 2011
Sales and other operating revenues	$20,240	$20,732	$40,504	$38,551
Income from operations	$1,307	$1,325	$2,263	$2,144
Income before tax	$1,290	$1,333	$2,224	$2,155
Net income	$814	$802	$1,410	$1,331
Diluted EPS	$2.38	$2.24	$4.07	$3.72

Q2 net income increased $12 million although operating income declined $18 million; lower tax expense helped. Six-month net income rose $79 million.
Refining & Marketing gross margin was $11.13/barrel in Q2 and $9.76/barrel for the half, versus $10.78 and $8.78, respectively. Management attributed improvement chiefly to stronger Chicago and U.S. Gulf Coast crack spreads; first-half results also benefited from wider WTI–LLS differentials and more WTI-priced crude. Unfavorable crude acquisition costs, lower sour-crude volumes, maintenance costs and other factors offset some benefits.
Segment operating income, Q2 / first six months: Refining & Marketing $1,325 million / $2,268 million; Speedway $107 million / $157 million; Pipeline Transportation $50 million / $92 million. Speedway improved on merchandise and fuel margins; Pipeline Transportation declined with lower affiliate shipment volumes.
Q2 and first-half diluted EPS benefited in part from a lower share count following repurchases. MPC paid dividends of $0.25/share in Q2 and $0.50/share for the half.

Cash flow, liquidity and debt

First-half operating cash flow was $616 million, down from $952 million. Working capital was a $1.86 billion use of cash, mainly reflecting lower payables and higher inventories.
First-half investing cash use was $798 million, versus $1.94 billion of cash provided in 2011; the prior-year period included net redemptions of related-party preferred securities. Capital expenditures were $714 million; capital expenditures and investments totaled $721 million.
First-half financing cash use was $1.00 billion, including $850 million of share repurchases and $172 million of dividends. Cash fell to $1.895 billion from $3.079 billion at December 31, 2011.
At June 30, cash plus available revolving credit and receivables-securitization capacity totaled $4.895 billion; neither facility had borrowings or letters of credit outstanding. Total debt was $3.335 billion and debt-to-total-capital was 24%, compared with 26% at year-end.
Management reported compliance with credit covenants; net debt/Consolidated EBITDA was 0.6x and EBITDA/interest was 79.1x. Moody’s rated senior unsecured debt Baa2 and S&P BBB, both with stable outlooks.

Changes, outlook and material items

Q2 sales declined $492 million year over year, while first-half sales rose $1.953 billion, primarily reflecting changes in refined-product prices and volumes. Reported related-party purchases fell sharply because post-spinoff purchases from Marathon Oil were no longer classified as related-party transactions.
SG&A increased $88 million in Q2 and $134 million for the half. Drivers included $83 million of Q2 pension settlement expense, higher employee costs, and increased standalone-company IT and contract-service costs.
A pension-plan amendment reduced pension liabilities by approximately $537 million, principally recorded in other comprehensive income; the benefit will be recognized in income through 2024. MPC expected about $125 million of funded-pension contributions during the remainder of 2012, and forecast additional Q3 settlement expense of about $25 million, partly offset by about $19 million from plan amendments.
The 2012 capital and investment budget was $1.42 billion, excluding capitalized interest; approximately 25% was allocated to the Detroit refinery upgrade and expansion. At June 30, the project was about 96% complete, on budget and on schedule for construction completion in Q3, followed by a 70-day turnaround; expanded operations were anticipated by year-end.
The board authorized up to $2.0 billion of repurchases over two years. The $850 million accelerated repurchase concluded July 25, 2012, with 20.36 million shares repurchased at an average $41.75/share; $1.15 billion of authorization remained at June 30. A 35-cent dividend was approved for payment in September.
After quarter-end, the Minnesota-assets buyer’s IPO triggered a settlement: MPC received $132 million in cash and a new preferred security with a $45 million liquidation preference, and was released from margin-support obligations; the buyer was released from earnout obligations. MPC expected approximately $183 million pretax income in Q3, including substantially all of the previously deferred $89 million gain.
MPC filed to pursue an IPO of MPLX limited-partner units; offering size and price were undetermined, completion was uncertain, and MPC expected to consolidate MPLX if the offering proceeded. Speedway also acquired 10 stores after quarter-end, in addition to 87 stores acquired in May.

Risks and contingencies

Refining earnings are sensitive to crack spreads, crude differentials and acquisition costs, refinery throughput, operating costs and maintenance; Speedway results are exposed to fuel demand, retail margins and competition; pipeline results depend on volumes and tariffs.
A temporary work stoppage remained a risk at the Catlettsburg refinery amid unresolved labor negotiations and union charges.
The Kentucky attorney general litigation alleges $89 million of customer overcharges, plus penalties, relating to emergency pricing in 2005, with additional claims relating to 2011. MPC was vigorously defending the case; an unfavorable outcome could be material.
Environmental remediation liabilities were $119 million, with $48 million of related recoverable-cost receivables. The filing says ultimate remediation costs cannot presently be estimated. The filing also describes guarantees for investee debt and other obligations; maximum potential payments include $172 million for LOOP/LOCAP debt, $49 million for Centennial debt and $25 million for TAME bonds.
Commodity derivatives were not designated as accounting hedges. The filing provides sensitivity estimates, but notes that physical commodity exposures may offset derivative effects. The Detroit project, proposed MPLX offering, repurchases, and labor outcomes were subject to execution, market and other risks.

Most important facts for investors to verify

How much of refining profitability is sustainable if crack spreads and the WTI–LLS differential narrow or crude acquisition costs worsen?
Whether working-capital outflows reverse and operating cash flow supports the capital budget, dividends, repurchases and planned pension contributions.
Detroit project completion, turnaround timing, cost performance and expected contribution once operational.
Resolution and potential exposure from the Kentucky pricing litigation, Catlettsburg labor dispute, environmental matters and guarantees.
Whether the expected $183 million Minnesota settlement gain and proposed MPLX transaction occur as described; these were post-quarter events or plans, not completed Q2 operating results.
Comparability of 2011 results with MPC’s post-spinoff standalone business, including corporate-cost allocations and the end of transition services.