Delek US is parlaying cash reserves stockpiled as a result of lower expenses from buying heavily discounted Midland crude for its refineries to bulk up midstream assets as refining growth slows.
The wide discount held by West Texas Intermediate at the Permian Basin oil hub of Midland has given Delek US a healthy stockpile of cash, with WTI Midland holding an average discount to WTI in the oil hub of Cushing, Oklahoma, of $7.32/b in 2018.
However, as new Permian takeaway pipeline capacity comes online, making it easier for growing Permian crude production to move from Midland to US Gulf Coast refineries and the export market, that discount is disappearing.
But Delek US is not to be deterred. It is taking cash and investing it in midstream projects, including a 15% stake in the Wink-to-Webster pipeline, which will carry over 1 million b/d of Permian crude to the Texas Gulf Coast when it comes online in 2021.
"So overall, what we're trying to do is to take all that money that is coming for us or to us, from the good differential that we saw over the last 18 months. And we took it, we invested that in midstream assets, basically increasing the base," said Ezra Uzi Yemin, CEO of Delek US
"We're basically taking a lot of free cash flow that is coming from our refining and then put it to work ... toward midstream assets," he added.
"It's clear that refining is not growing much," he added Tuesday, addressing attendees at Barclays CEO Energy-Power Conference 2019.
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In the first half of 2019, Delek's crude slate at its four refineries ran over 190,000 b/d of Permian crudes WTI and West Texas Sour, or about 75% of their total crude slate, with volumes varying by refinery location.
Delek US' 73,000 b/d Big Spring, Texas, refinery is located right in the Permian, and runs 100% WTI and West Texas Sour. The 75,000 b/d Tyler facility is located in East Texas, running WTI and a variety of local crudes. Delek US also owns a 83,000 b/d refinery in El Dorado, Arkansas, and an 80,000 b/d refinery in Krotz Springs, Louisiana, also run varying amounts of Permian crude and local grades.
During the second quarter of 2019, WTI Midland held an average discount of $2.24/b to WTI Cushing and an average $8.80/b discount to WTI MEH, priced from Magellan East Houston's terminal, S&P Global Platts data showed.
So far, third-quarter discounts have narrowed further as Plains All American Pipeline started up its Cactus II pipeline and EPIC brought online a converted NGL line, increasing flows of Permian crude to USGC refiners.
In Q3, WTI Midland's discount to WTI Cushing has narrowed to an average of 54 cents/b and the discount to WTI MEH to $4.12.
As a result, Delek's cash flow from operations has slowed as margins have fallen.
In 2019, the company's cash flow is expected by JP Morgan analyst Phil Gresh to reach $474 million, compared with 2018's $590 million. Increased capital spending in 2019 to pay for the Wink-to Webster pipeline and other projects have cut free cash flow to $83 million for 2019, compared with $268 million in 2018.
Included in Delek's capital spending portfolio of midstream projects is the expansion of the Red River pipeline.
In May, Delek US' logistics master limited partnership bought from Plains a 33% stake in the pipeline, which carries crude from Cushing, Oklahoma, to Longview, Texas. Currently, the line operates at 150,000 b/d, but its capacity will be expanded to 235,000 b/d by the first half of 2020.
After the expansion is complete, Delek US will be able to increase its share of line throughput by 65,000 b/d to a total of 100,000 b/d, affording it the ability to replace Midland-priced WTI crude with Cushing-priced WTI if economics warrant it.
Yemin said Delek US is already seeing the impact Red River is having on crude supply, allowing to arbitrage the crude supply for its refineries, particularly its Tyler and El Dorado facilities.
Red River allows Delek US to "have exposure to other crudes coming from Cushing to the Longview area. We will see the results of Red River already in this quarter," he said.
