CVR ENERGY INC CVI
November 14, 2010 - 6:44pm EST by
quads1025
2010 2011
Price: 10.98 EPS N/A N/A
Shares Out. (in M): 87 P/E N/A N/A
Market Cap (in $M): 950 P/FCF N/A N/A
Net Debt (in $M): 350 EBIT 0 0
TEV ($): 1,300 TEV/EBIT N/A N/A

Sign up for free guest access to view investment idea with a 45 days delay.

Description

SUMMARY

CVR Energy, Inc. ("CVR") is an attractive, near-term event-driven investment opportunity.  The Company is taking its nitrogen business public as an MLP which should serve as a significant "value unlocking" transaction.  Sum-of-the-parts analysis suggests the stock is worth $16, >45% above its 11/12/10 close of $10.98.

Please note that this stock was written up on VIC on 11/19/2007 by gatsby892.  Please see that write-up for additional information.

COMPANY DESCRIPTION

CVR is a petroleum refiner and marketer of high value transportation fuels. The Company also produces nitrogen fertilizers in the form of ammonia and UAN (a solution of urea and ammonium nitrate in water). The Company has two operating businesses:
  • Petrolem (94% of 2009 Net Revneus) - operates 115,000 bpd nameplate capacity full coking medium-sour crude oil refinery in Coffeyville, KS with a Nelson complexity rating of 12.9.  In 2009 the refinery's product yield included gasoline (52%), diesel fuel (39%), and petroleum coke and other refined products (9%).   The refinery's production capacity represents ~15% of the region's output.  The refinery is 100 miles from Cushing, OK, a major crude oil trading and storage hub.
  • Nitrogen (6% of 2009 Net Revenues) - operates the only nitrogen fertilizer plant in North America that utilizes a petroleum coke gasification process to generate hydrogen feedstock that is further converted to ammonia for the production of other nitrogen fertilizers. The petroleum coke gasification process is licensed from General Electric Company (GE) pursuant to a "perpetual rights" agreement full paid up as of June 1, 2007. The business consists of a 1,225 ton-per-day ammonia unit and a 2,025 ton-per-day UAN unit.

INVESTMENT THESIS

  • Public Offering of Nitrogen Business as a Master Limited Partnership (MLP) - On November 2, 2010 CVR announced in an 8K filing that it intends to file a registration statement on Form S-1 to take the Company's nitrogen fertilizer business public as an MLP. This will serve as a significant "value unlocking" transaction. The main aspects of the transaction are as follows:
  • Transaction Rationale - The public listing of CVR's nitrogen business as an MLP will service as a significant "value unlocking" transaction. It will (i) create a publicly traded vehicle for the nitrogen business, enabling the market to more accurately reflect its value, (ii) eliminate corporate taxes through the MLP structure, increasing the nitrogen business' cash flow, and (iii) simplify the Company's corporate structure and eliminate any conglomerate discount by satisfying the needs of distinct investor bases looking for exposure to the refining business or the nitrogen business but not both combined. In addition, the transaction makes strong strategic sense given the relationship between the refining business and the nitrogen business. The nitrogen business uses petroleum coke, a byproduct of the refining process, as a feedstock to produce fertilizer; the nitrogen business is only there to extract more value out of the refining business. As such, the scale of the nitrogen business is effectively determined by the size of CVR's refining business. Accordingly, the nitrogen business is not a "growth" business for CVR - the Company has no plans to expand it and has already invested the necessary capital such that additional expenditures are predominantly maintenance-oriented. With no growth prospects and need for capital, converting the business into a tax-advantaged MLP structure where excess cash is delivered to unit holders makes sound financial sense.
  • Timing - In the 8K filing it was noted that CVR intends to file Form S-1 for the registration of the MLP securities in the "near term". While exact timing for the registration and subsequent process to listing has not yet been released, it is reasonable to believe that the listing will take place prior to the end of 2010. Of note, CVR went public on October 22, 2007. Management intended to spin off the nitrogen business as an MLP within 6-9 months of the Company's IPO. However, due to market conditions in 2008, the Company announced the postponement of the MLP offering in June 2008. With fertilizer stocks currently trading well and the overall market's demand for "yield bearing" securities being very high, now represents an ideal time for the Company to spin the nitrogen business off.
  • Financial Impact -The main financial impact the transaction will have on CVR is the elimination of corporate tax payments on the earnings of the nitrogen business. In addition, the proceeds of the MLP public listing will be used to reduce CVR's relatively "high coupon" outstanding debt (9.00% Notes and 10.875% Notes), per the provisions in CVR's bond indentures. This will be another value driver to equity holders as they will benefit with the elimination of this debt and the interest payments associated with it.

FUNDAMENTAL ANALYSIS

  • Petroleum - Two key aspects of CVR's petroleum business make it attractive and suggest it should continue to perform positively:
  • Strategic Location - Located along the Kansas-Oklahoma border, CVR's Coffeyville refinery supplies America's agricultural "heartland". This is traditionally an undersupplied market (by 20% according to CVR management) for refined petroleum products, and CVR enjoys transportation cost advantages for providing the region with fuels. Further, the refinery is ~100 miles from Cushing, OK, a major crude oil trading and storage hub, affording it excellent access to a wide variety of domestic and foreign crude oil supplies.
  • Major Long-Term Capital Investment Plan Completed - Recently CVR completed its long-term plan of expanding production capacity in every area of its refinery. Accordingly, the Company considers itself in "maintenance mode" in which future capital expenditures should remain light ($45-$50 million is viewed as a maintenance level of capex, per management's comments on their 3Q10 earnings call) and cash flows should accrue to shareholders. The expansion took five years at a total investment of $527 million. Crude and feedstock throughput, which averaged ~98,300 bpd in 2005, now routinely exceeds an average of 120,000 bpd. In addition, the complexity of the refinery increased from 10.0 in 2005 to 12.9 on the Nelson complexity scale, broadening the range of crude oils the refinery is able to process. Five years ago the Company could not refine sour crude oil whereas in recent times the Company can now refine up to 25,500 bpd of heavy sour crude oil.
  • Nitrogen - The outlook for CVR's nitrogen business is quite positive given its unique technology and the expectations for fertilizer pricing going forward:
  • Unique, Cost-Advantageous Technology - CVR's petroleum coke-based fertilizer process is the only one of its kind in North America. Petroleum coke is a coal-like, low-value byproduct of petroleum refining. CVR sources ~74% of its petroleum coke needs for its fertilizer manufacturing from its own refinery. All other fertilizer producers in North America use natural gas for their feedstock. Accordingly, CVR's production costs are not only unaffected by natural gas prices, which typically compose ~90% of the production costs of ammonia manufacturing, but also among the lowest in the fertilizer industry. Of note, CVR management believes that the Company's cost advantage over US Gulf Coast ammonia producers is sustainable at natural gas prices as low as $2.50 per mcf (see pg.4 of the Company's finalized IPO prospectus dated 10/22/07). While not a strict, direct comparison, one can see CVR's manufacturing cost advantage in the EBITDA margins of its nitrogen business (40-50%) vs. those of other nitrogen fertilizer producers such as CF Industries (CF) (30-35%), Agrium Inc. (AGU)(12-18%), and Yara International ASA (YAR NO)(15-20%).
  • Fertilizer Prices - Fertilizer prices are notoriously difficult to forecast given how strongly fertilizer demand is driven by weather, something which has proven to be unpredictable. However, the near-term price environment for fertilizers is quite strong. During the Company's 3Q10 earnings conference call on November 2, 2010, CVR management commented that recent reductions in world grain inventories, largely driven by lower production in Russia, have increased world grain prices. This in turn has had a direct impact on fertilizer prices. Management is currently seeing pricing of ~$575 per ton for ammonia and $320 per ton for UAN. For basis of comparison, in 1Q10 CVR realized average prices of $282 and $167 per ton of ammonia and UAN, respectively. Goldman Sachs' fertilizer analyst, also citing historically low grain inventory levels globally, recently issued a forward price deck for ammonia $465 per ton for 2011, a 70% increase over 2009 price levels of $274 per ton (see "Commodities in Crosshairs" by Robert Koort, 11/4/2010).

KEY RISKS

  • Private Equity Ownership - As of September 30, 2010 ~64% of CVR's outstanding shares were owned by GS Capital Partners (Goldman Sachs) and Kelso Investment Associates, both private equity firms. While these two firms are sophisticated investors and their ownership should be viewed as a positive by equity holders given their incentive to create shareholder value, at some point these private equity firms will need to seek liquidity in their holdings. This may come in the form of a secondary offering, the consummation of which would likely have an adverse impact on CVR's stock price.

FINANCIALS

Below are the Company's historical financials as well as my projected assumptions.  Price assumptions for ammonia and UAN are critical to the analysis.  As stated before, management is currently seeing ammonia pricing at $575 per ton and UAN pricing of $320 per ton.  I am using ammonia prices of $450 per ton and UAN prices of $275 per ton.  The assumptions are a significant discount to what management is currently seeing and more in-line with the price decks that many sell-side analysts are using (again Goldman just released their fertilizer price deck with ammonia in 2011 at $475 per ton).

            2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
                               
Days in Period       365 365 365 366 365 365 365 366 365 365
                               
PETROLEUM                          
                               
Barrels Sold Per Day         102,591 82,065 117,719 120,239 124,937 130,000 130,000 130,000 130,000
Avg. Price / Barrel         $ 76.92 $ 93.68 $ 110.81 $ 66.87 $ 82.91 $ 82.50 $ 82.50 $ 82.50 $ 82.50
                               
Net Sales           $ 2,880.4 $ 2,806.2 $ 4,774.3 $ 2,934.9 $ 3,780.9 $ 3,914.6 $ 3,925.4 $ 3,914.6 $ 3,914.6
                               
Cash COGS per Barrel per Day       $ 64.70 $ 76.79 $ 103.27 $ 57.29 $ 75.81 $ 75.00 $ 75.00 $ 75.00 $ 75.00
                               
Cash COGS           2,422.7 2,300.2 4,449.4 2,514.3 3,457.1 3,558.8 3,568.5 3,558.8 3,558.8
  Cash Gross Margin         457.7 506.0 324.9 420.6 323.8 355.9 356.9 355.9 355.9
  % Margin           15.9% 18.0% 6.8% 14.3% 8.6% 9.1% 9.1% 9.1% 9.1%
                               
Direct Operating Expenses         135.3 209.5 151.4 141.6 153.8 152.0 152.0 152.0 152.0
  % of Revenues         4.7% 7.5% 3.2% 4.8% 4.1% 3.9% 3.9% 3.9% 3.9%
                               
EBITDA           322.4 296.5 173.5 279.0 170.0 203.9 204.9 203.9 203.9
  % Margin           11.2% 10.6% 3.6% 9.5% 4.5% 5.2% 5.2% 5.2% 5.2%
                               
                               
NITROGEN FERTILIZER                          
                               
Ammonia (thousands of tons sold)       117.3 92.1 99.4 159.9 145.2 120.0 120.0 120.0 120.0
UAN (thousands of tons sold)       645.5 555.4 594.2 686.0 681.9 700.0 700.0 700.0 700.0
  Total Tons Sold         762.8 647.5 693.6 845.9 827.1 820.0 820.0 820.0 820.0
                               
Ammonia - Dollars per Ton         $ 338.0 $ 376.0 $ 557.0 $ 314.0 $ 340.3 $ 450.0 $ 450.0 $ 450.0 $ 450.0
UAN - Dollars per Ton         $ 162.0 $ 211.0 $ 303.0 $ 198.0 $ 203.8 $ 275.0 $ 275.0 $ 275.0 $ 275.0
                               
Net Sales           $ 162.5 $ 165.9 $ 263.0 $ 208.4 $ 202.7 $ 246.5 $ 246.5 $ 246.5 $ 246.5
                               
Cash COGS per Total Tons Produced       $ 33.95 $ 20.14 $ 46.96 $ 49.84 $ 45.82 $ 50.00 $ 50.00 $ 50.00 $ 50.00
                               
Cash COGS           25.9 13.0 32.6 42.2 37.9 41.0 41.0 41.0 41.0
  Cash Gross Margin         136.6 152.8 230.4 166.2 164.8 205.5 205.5 205.5 205.5
  % Margin           84.1% 92.1% 87.6% 79.8% 81.3% 83.4% 83.4% 83.4% 83.4%
                               
Direct Operating Expenses         63.7 66.7 86.1 84.5 80.7 80.0 80.0 80.0 80.0
  % of Revenues         39.2% 40.2% 32.7% 40.5% 39.8% 32.5% 32.5% 32.5% 32.5%
                               
EBITDA           72.9 86.2 144.3 81.8 84.0 125.5 125.5 125.5 125.5
  % Margin           44.9% 51.9% 54.9% 39.2% 41.5% 50.9% 50.9% 50.9% 50.9%
                               
                               
OTHER                            
Sales - Intersegment Eliminations       (5.3) (5.2) (21.2) (6.9) (3.7) 0.0 0.0 0.0 0.0
Cash COGS - Intersegment Eliminations       (5.2) (4.5) (20.2) (8.8) (3.4) 0.0 0.0 0.0 0.0
Direct Operating Expenses         0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0
Selling, General & Administrative       62.6 93.1 35.2 68.9 65.6 68.0 68.0 68.0 68.0
                               
CONSOLIDATED                          
                               
Net Sales           $ 3,037.6 $ 2,966.9 $ 5,016.1 $ 3,136.3 $ 3,979.9 $ 4,161.1 $ 4,171.9 $ 4,161.1 $ 4,161.1
                               
Cash COGS           2,443.4 2,308.7 4,461.8 2,547.7 3,491.6 3,599.8 3,609.5 3,599.8 3,599.8
  Cash Gross Margin         594.2 658.1 554.3 588.6 488.3 561.4 562.4 561.4 561.4
  % Margin           19.6% 22.2% 11.1% 18.8% 12.3% 13.5% 13.5% 13.5% 13.5%
                               
Direct Operating Expenses         199.0 276.1 237.5 226.0 234.5 232.0 232.0 232.0 232.0
  % of Revenues         6.6% 9.3% 4.7% 7.2% 5.9% 5.6% 5.6% 5.6% 5.6%
                               
Selling, General & Administrative       62.6 93.1 35.2 68.9 65.6 68.0 68.0 68.0 68.0
  % of Revenues         2.1% 3.1% 0.7% 2.2% 1.6% 1.6% 1.6% 1.6% 1.6%
                               
EBITDA           332.6 288.9 281.6 293.7 188.1 261.4 262.4 261.4 261.4
  % Margin           10.9% 9.7% 5.6% 9.4% 4.7% 6.3% 6.3% 6.3% 6.3%

VALUATION / SUM-OF-THE-PARTS ANALYSIS

Given the split up of the Company into its separate parts, a sum-of-the-parts analysis appears most appropriate to determine the stock's valuation.

      2011E        
      EBITDA   Mult.   Value
Petroleum     $ 203.9   5.5 x   $ 1,121.3
Nitrogen Fertilizer     125.5   8.0 x   1,004.0
Other Operating Expenses   (68.0)   5.5 x   (374.0)
Total     $ 261.4   6.7 x   $ 1,751.3
               
          Cash   162.4
          Debt, MI, and Pref.   (516.7)
               
          Equity   $ 1,397.0
               
          FD Shares   86.6
               
          Value Per Share   $ 16.13

Refining

I am assuming that the refining business trades "in line" with the refinery group at the average multiple of 5.5x 2011E EBITDA.  I've included the EV/2011E EBITDA multiples for the refiners below (all based on sell-side consensus estimates for 2011E EBITDA).

 

Refiner Multiples:

Valero (VLO) - 4.5x

Sunoco (SUN) - 6.2x

Tesoro (TSO) - 4.3x

Frontier (FTO) - 4.7x

Holly (HOC) - 7.1x

Western Refining (WNR) - 4.9x

Delek (DK) - 6.4x

Alon (ALJ) - 6.1x

AVERAGE:  5.5x

 

Nitrogen

I am also assuming that the nitrogen business trades at 8.0x 2011E EBITDA, a slight premium to the nitrogen producer group average of 7.4x 2011E EBTIDA.  I believe this multiple is warranted given two factors: (i) MLP's always trade at premium valuations given their tax-advantaged structure and (ii) CVR's nitrogen business has a superior cost structure.  Most MLP's themselves trade at 10-12x forward EBITDA, but I am only assuming an 8.0x multiple as the fertilizer business is not as "steady eddy" as other, typical MLP businesses, like pipelines.  I've included the EV/2011E EBITA multiples for the more "pure play" nitrogen producers below (all based on sell-side consensus estimates for 2011E EBITDA).

 

As a "cross check" to the nitrogen business valuation, I've also looked at in on a "yield" basis given that most MLP's trade on yield.  Assuming my EBITDA projections are correct at ~$125 million for 2011 and going forward and that capex for the business is probably around $25 million a year, the nitrogen business generates about $100 million in free cash flow.  Assuming that the business trades at a 10% yield, a conservative assumption, the business is worth $1 billion, in-line with my 8.0x EV/EBITDA multiple.

 

Nitrogen Producer Multiples:

Yara International (YAR NO) - 8.4x

Agrium (AGU) - 8.0x

CF Industries (CF) - 6.5x

Acron (AKRN RX) - 6.6x

AVERAGE:  7.4x

 

Catalyst

 
  • Filing of S-1 for the nitrogen business (most likely by the end of 2010) and subsequent public offering
  • Q4 Earnings - Estimated to be released 3/1/11.
  • Debt Repayment - the proceeds of the MLP public listing will be used to reduce CVR's relatively "high coupon" outstanding debt (9.00% Notes and 10.875% Notes), per the provisions in CVR's bond indentures. This will be another value driver for CVR equity holders as it both shifts the Company's capital structure in favor of the equity and reduces annual interest expense.
  • New Analyst Coverage - the public listing of the nitrogen MLP should cause analysts to initiate on the new company, bringing attention to its stock and potentially driving it upward.
    show   sort by    
      Back to top