Investor Essentials Daily

This oil logistics company prints money even when oil prices are low

April 12, 2022

Oil continues to live up to its name as the fuel that makes the economy go.

Recent volatility in oil prices has made it challenging to know who will be a winner or loser at different prices.

Challenges with creating a fully renewable grid and the United States’ oil embargo on Russian oil haven’t made it any easier.

Delek Logistics Partners operates the transportation infrastructure needed to transport oil, and has been wildly profitable even when oil prices have been down. Yet it seems like the market is missing their story.

That’s why this showed up on our FA Alpha Screen. Its strong profitability, high growth, and attractive valuations make it a compelling company.

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With oil prices making double-digit swings several times in the past few weeks, the volatility has made it tough to know who might win or lose at different oil prices.

While it is certain consumers at the oil pumps are losers when prices skyrocket, it gets a lot hazier from there.

On the other side of the gas pump are exploration and production (“E&P”) companies. They tend to get more profitable as prices rise, but sometimes end up losing money if prices get too low.

This uncertainty has made it a challenge to know where oil prices are headed. What we can say with much more certainty though is that we still need oil, and lots of it, in this country.

Even with landmark legislation being passed to support renewable energy sources, as well as starker examples of climate change, we’re still years away from a fully renewable energy grid.

In the meantime, oil will remain essential as it is used in so many applications.

Compounding the demand for domestic oil production is the fact that the United States has imposed an embargo on Russian oil. The increased domestic oil production will only lead to increased demand for domestic transportation.

That’s why companies like Delek Logistics Partners (DKL) are happy regardless of oil prices.

Delek operates the transportation infrastructure to get oil from source to destination through any means necessary.

Its services span from collecting crude oil at the source to providing the trucks and transportation facilities for delivering it to customers.

Being the “piping” for the oil market looks like a solid play when you look at as-reported metrics, which show us that Delek had returned slightly above the cost-of-capital for the past eight years.

However, its broad range of services means that it has the ability to keep returns well above 25%, even when oil prices are low as they were for the last eight years.

It has been able to throw off cash because it has a service everyone needs, and it has less direct exposure to oil prices.

Furthermore, management realizes they can’t just sit on their laurels. They know oil wells will eventually dry up and demand will shift towards more renewable options.

That’s why, with its cash generation capabilities, the company has been able to invest heavily in new routes and pipelines. Furthermore, Delek has grown a renewable diesel business, which has also helped drive consistent growth. As a result, it has achieved Uniform ROA’s consistently above 25%, and climbing as high as 40%.

Companies with returns above 25% and strong industry tailwinds are the types of companies that typically deserve a premium.

And yet, the market seems like it’s completely missing how strong and sustainable Delek’s business is.

Its high returns, strong growth, and cheap Uniform P/E of 11.6x are why it showed up on our FA Alpha 50 screen as a compelling name.

Throughout financial market history, many of the world’s most successful investors have been candid in their belief that Generally Accepted Accounting Principles (“GAAP”) distort economic reality.

Warren Buffett, for example, once said investors should “concentrate on the world of companies, not arcane accounting mathematics.”

Investors who neglect the very real issues with as-reported accounting can find themselves caught up investing with the crowd, blindly following hot “themes” without a thorough grasp of how to understand the businesses in question.

The only true way to focus on the “world of companies,” as Buffett suggests investors do, is to present a clear picture of how a business operates, something that can only be done by adjusting financial statements to reflect the arbitrary nature of certain accounting rules that leave much to discretion.

The world’s best investors understand the need to make these adjustments, which allows them to focus not on picking out the most popular companies, but rather on looking for great names in sleepy areas that the market isn’t paying much attention to. From there, the goal is to then identify quality companies with significant growth potential at reasonable prices.

That’s exactly what we’ve set out to do with the FA Alpha, our monthly list of 50 companies that rank at the top for quality, high growth, and low valuations.

This list has outperformed the market by 300 basis points per year for over 20 years now, effectively doubling the performance of the market by focusing on the real fundamentals and valuations of companies with our proprietary Uniform Accounting framework.

See for yourself below.

If you’re interested in seeing the other 49 names on this month’s FA Alpha, click here to learn more.

Best regards,

Joel Litman & Rob Spivey

Chief Investment Strategist &
Director of Research
at Valens Research

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