Company Profile

Gibson Energy Inc (TSX: GEI) is a Calgary, Canada-based Oil & Gas Refining and Marketing company. Its areas of operations include blending, processing, storage, marketing and distribution of crude oil, condensate, natural gas liquid, water, oilfield waste and refined products. The company transports energy products by utilizing its integrated network of terminals, pipelines, and storage tanks located throughout western Canada.

Investment Rationale

• A Quality Income Play with Consistent Dividend Payment History: Despite a challenging oil market led by a supply glut and lower demand on account of COVID-19 pandemic, the group has still announced a dividend of CAD 0.34 for Q3FY20. The dividend per share was flat on a sequential-quarter basis, but on a YoY basis, it was 3% higher. At the last traded price of CAD 22.18 (as on June 18^th, 2020), shares of GEI is offering a lucrative dividend yield of 6.28%, which is significantly higher given the falling yield across the board. The dividend yield of the company is approximately 1.84 times of TSX 300 Composite Index's dividend yield of 3.76% and about 13.5 times of the Canada 10 Year Benchmark Bond Yield of 0.51%. The group is targeting a pay-out ratio in the range of 70% to 80%. This reflects the balance sheet strength of the company and a solid liquidity position it has.

• Ample Liquidity: At the end of Q1FY20, the group continue to maintain ample liquidity through a CAD 750 Million Revolving Credit Facility that was effectively undrawn net of cash at the end of the first quarter. The current liquidity position is likely to fulfil the near-term requirement.

• A likely improvement in Oil demand would benefit GEI: In the latest report released by International Energy Agency (IEA) as on June 16, 2020, Oil demand for 2020 is forecasted at 91.7 million barrels per day, which is 5 million bpd higher than the previous estimate reported in May 2020. Further, the company's majority of revenue comes from the United States and gradually opening of the economy over there is expected to contribute to the oil demand, which would benefit GEI as well. However, the return of oil demand to pre-Coronavirus level would still take some time.

• Free Cash Flow Yield of 4.7%, A Safety Cushion: The higher free cash flow generation ability of the company reflects the strong financial health of the business and its ability to manage the business regardless of economic cycles. Free cash flow is basically a surplus cash a company can generate after meeting its capital expenditure, and free cash flow yield is free cash flow per share divide by the per-share market value of the company. GEI free cash flow yield stood at 7%, which is significantly higher amid times when the average free cash flow yield of its peers is negative. *Note (Peers include Cenovus Energy Inc, FCF Yield (-17%), Inter Pipeline Ltd FCF Yield (-0.4%), Pembina Pipeline Corp, FCF Yield (+4.8%), TC Energy Corp, FCF Yield (+0.66%), Suncor Energy Inc FCF (-5.5%), respectively, according to data compiled from Refinitiv, Thomson Reuters). 

• Positive Spread Between ROCE and WACC: GEI Return on Capital Employed (ROCE) stood at 7.7%, and Weighted Average Cost of Capital (WACC) stood at 6.9%, which reflects a positive spread between ROCE and WACC, whereas the majority of company's peers are having a negative spread between ROCE and WACC.

• Manageable Debt in the Balance Sheet: The company has a robust balance sheet with Debt to Capitalization ratio stood at 48% at the end of Q1FY20, and interest coverage ratio stood significantly higher at 7x, which reflects the financial health of the GEI to cover its debt obligations. 

• Risks factors to be considered: Despite lockdown restriction are easing across North America, recovery in oil demand is relatively slower than expected; also a fall in air travel due to coronavirus has impacted the demand for Jet fuels. Further, if the next outbreak of COVID-19 takes place, it would weigh on the oil demand significantly.

Q1FY20 Financial Highlights

The group’s revenue declined ~17% to CAD 1,458 million from CAD 1,748 million in pcp owing to a unprecedent fall in oil demand across the globe. Despite a decline in revenue, adjusted EBITDA increased ~7% to CAD 128.7 million. Net profit declined ~15% to CAD 50 million compared to CAD 58.6 million in Q1FY19.

During the period under consideration, the group’s segment profit from the infrastructure segment stood at CAD 98.1 million increased by CAD 23.5 million against CAD 74.6 million reported a year ago.

Market segment profit declined by CAD 25.2 million to CAD 36 million in the Q1FY20, due to lower margins earned from the Refined Product and the Crude Marketing businesses as the comparative quarter benefitted from the opportunities created by volatility in crude differentials and a stronger market for Refined Products.

Segment profit from continuing operations of CAD 134.1 million was relatively constant in the first quarter of FY20 as compared to CAD 135.8 million in the same quarter of the previous financial year, on account of reduction in Marketing segment profit, and partially offset by stronger performance from the Infrastructure segment.

Adjusted EBITDA from continuing operations increased by CAD 10.2 million to CAD 128.7 million in the Q1FY20, against CAD118.5 million reported in the Q1FY19, The comparative increase in Adjusted EBITDA relative to segment profit was primarily due to a corporate foreign exchange gain of CAD 7.6 million in the current period compared to a corporate foreign exchange loss of CAD 3.1 million in the prior quarter.

For the there month ended to March 31st, 2020, the company’s Distributable cash flow stood at CAD 86 million improved by CAD 3.2 million.

Q1FY20 Financial Highlights, Source: Company Filings

Dividend

During the quarter, the company declared a dividend of CAD 0.34. Total dividends declared for the three months ended March 31, 2020, were CAD 49.7 million, respectively. The dividend is payable on July 17, 2020, to shareholders of record at the close of business on June 29, 2020.

Project Developments – Q1FY20

Tankage growth projects: The Company continued to progress with the fourth phase of development at the Top of the Hill. The company has three tanks representing 1.5 million barrels of storage currently under construction which is likely to be placed into service by the end of 2020. Once the fourth phase of development at the Top of the Hill is placed into service, the company will have approximately 13.5 million barrels of storage capacity at its Hardisty Terminal.

DRU project: The company received all the regulatory approval from the Government of Alberta to proceed with the construction of a DRU near Hardisty, Alberta, Canada. Additionally, the group has finalized all required commercial agreements with ConocoPhillips Canada to fully underpin and sanction the construction of the initial phase of the DRU at 50,000 barrels per day of inlet bitumen blend capacity and enable rail shipments of DRUbit to the U.S. Gulf Coast. Construction of the DRU began in April 2020, and the DRU is expected to be placed into service in the middle of 2021.

Stock Performance

At the time of writing (as on June 18, 2020, after the market close), GEI shares traded 2.5% higher at CAD 22.18. In a year-over period, its shares have registered a 52W high of CAD 28.34 (as on February 21, 2020) and a 52W Low of CAD 10.96 (as on March 19, 2020). At the last traded prices, shares of GEI traded approximately 125% above its 52W low price level and approximately 28% below its 52W high price level, which reflect that shares of are more tilted towards the 52W high price level, a positive price trend.

1-year price return (as on June 18, 2020, after the market close). Source: Thomson Reuters

Top-10 Shareholders

The top 10 shareholders have been highlighted in the table, which together forms around 20.07% of the total shareholding. M & G Investment Management Ltd. and The Vanguard Group, Inc. holds the maximum interests in the company at 19.11% and 2.94%, respectively.

Source: Refinitiv, Thomson Reuters

Valuation Methodology (Illustrative): EV/EBITDA based valuation

Note: All forecasted figures have been taken from Refinitiv (Thomson Reuters).

Stock Recommendation

The group posted a modest result for the first quarter ended on March 31st, 2020 amid the challenging environment owing to COVID-19 Pandemic. Despite the challenging environment, the group increased its dividend per share marginally on an annual basis, which reflects the balance sheet strength of the company and solid liquidity position. The group has a decent track record of dividend payment. At the last traded price, the stock is offering a lucrative dividend yield of 6.3%. Further, the group continue to maintain ample liquidity through a CAD 750 million revolving credit facility that was effectively undrawn net of cash at the end of the first quarter. The company is targeting to invest CAD 200 to CAD 300 million on infrastructure per year. The company generates ~80% of its EBITDA through take or pay or stable fee-based contract, which provides stability.

We expect demand for crude oil to recover gradually as the government across the globe had started to open the economy in a phased manner. Easing in lockdown restrictions resulted in the resumption of industrial and economic activities, which is driving the demand for crude oil and its derivative. Increasing oil demand is likely to impact the GEI’s financial performance positively.

From the technical analysis standpoint, at the last traded price, shares of GEI traded above the short term crucial support level of 50-day, 30-day and 20-day moving average prices, a positive trend, and also price is moving towards the long-term moving average price of 200-day SMA, another positive trend. Also, 14-day and 9-day Relative Strength Index hovering in a neutral price zone.

Therefore, based on the above rationale and considering the risks associated with the investment, we have given a “Buy” recommendation at the closing price of CAD 22.18 (as on June 18, 2020) with a lower double-digit upside potential, based on the NTM Peer's Mean EV/EBITDA multiple of 11.83x on the FY20E EBITDA. We have considered Pembina Pipeline Corp (TSX: PPL), Keyera Corp (TSX: KEY) and Cenovus Energy Inc (TSX: CVE) etc., as a peer group for comparison purpose.

Disclaimer

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