Rochester Institute of Technology Saunders College of Business Sunoco Logistics Partners, LP (SXL) November 11, 2011 Troy Lubberts Eric Furnal Prerna Malhotra Russell Sisipenzi RIT FMA Many of the phrases, tables and graphs used in this presentation have been derived from some or all of the following sources: 10-K, 10-Q, Thomson, Hoovers, Mergent Online, Yahoo Finance, and S&P online research documents. This presentation is intended to synthesize these sources so that they can be used to analyze Sunoco Logistics Partners L.P. Common Units. 2 RIT FMA Summary & Investment Conclusions – Capsule description of the company with recent developments – Major conclusions, valuation summary and investment action Business Summary – Industry and competitive analysis Risks – Possible negative industry, regulatory and company developments – Risks in forecasts Historical Performance Valuation – Description of models used, inputs and statement of conclusions 3 RIT FMA Summary & Investment Conclusions 4 RIT FMA • • • • • • Headquartered in Philadelphia, PA 1,400 employees Operates in 22 states within the Northeast, Midwest and Gulf Coast Traded on the NYSE as SXL Market capitalization = $3.22B (at the close of trading on 10/27/11) Master Limited Partnership – MLP – Combines tax benefits of Limited Partnership with liquidity of a publicly traded security – Corporate profits not taxed and investors allowed a prorated depreciation write-off • Created by Sunoco, Inc (SUN) when it transferred most of its pipeline, terminal and storage assets to the partnership 5 RIT FMA • Publicly-traded partnerships (shares units / dividends distributions) • Mandate: to pay out all earnings not needed for current operations and maintenance of capital assets (exception = acquisition opportunities) • MLPs are pass-though entities do not pay tax at partnership level • Distributions are not considered dividends, rather a return of capital • Investors pay taxes on their proportionate share of MLP’s income, offset by: – Depreciation and depletion • MLPs tend to trade at higher multiples than similar assets in a corporate structure: – Pass-through tax advantages – Premium investors tend to place on yield – Lower cost of capital which facilitates a potentially faster growth rate 6 RIT FMA • Recent Developments – Sunoco, Inc. struggles • Moody’s downgrades long-term credit rating to junk status • Announced plans to exit the refining business – Acquisition, Acquisition, Acquisition • 2011 acquisitions total $500M – Texon Crude with exposure to shales – Eagle Point Tank Farm – East Boston Products Terminal – Strong outlook for future developments • 26th consecutive distribution increase with 7% growth forecast • Currently running an 75/25 mix of ratable to market related revenue • Very bullish on terminals and blending services, crude A&M and crude pipelines 7 RIT FMA $1.40 $1.20 $1.00 $0.80 $0.60 $0.40 $0.20 $2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 8 RIT FMA 9 RIT FMA • Earnings projections – 2012 EPS estimates: • Range = 6.05 – 9.30 • Average = 7.38 • Previous year’s 2012 estimate = 7.60 – Factors influencing EPS estimates: • Ability to integrate new acquisitions into existing asset base (synergies?) • Development of new customer base • Market conditions (oil futures remaining in contango, WTI vs. Brent Spreads) – Oil futures remaining in contango – WTI vs. Brent Spreads – End user demand of energy (blended products) 10 RIT FMA • SXL appears to be an attractive investment for income conscious investors – Opportunity for capital appreciation at or below industry growth rates – More attractive for taxable investment accounts • Discounted Cash Flow (DCF) models indicate SXL is severely undervalued – Market appears to be discounting SXL’s growth because of recent developments at Sunoco, Inc. – Sunoco Logistics will rely more heavily on acquisitions for growth in coming years • Investment Recommendation = Short Term – HOLD / Long Term – BUY – Industry landscape appears extremely attractive – Risks associated with Sunoco, Inc. and SXL’s ability to integrate recent acquisitions to provide stable growth remains in question 11 RIT FMA Business Summary 12 RIT FMA 13 RIT FMA • Lynn Elsenhans • Received the 2011 Paradigm Award • Director, Greater Philadelphia Chamber of Commerce • (2007-Present) Director, Member of Audit & Finance Committee and Member of Public Policy & Environment Committee International Paper Co. 14 RIT FMA • Business Units – Refined Products Pipeline System • Transports products from refineries • Consists of 6 major pipelines – Terminal Facilities • Provides terminalling, blending and other ancillary services – Crude Oil Pipeline System • Gathers and transports crude oil (mainly in Oklahoma and Texas) – Crude Oil Acquisition & Marketing (new reporting segment) • Purchases and sells crude oil • Has become a larger share of the revenue mix as crude oil futures markets have remained in contango 15 RIT FMA Revenue Terminal Facilities Crude Oil Pipelines Operating Profit Acquisition & Marketing Refined Products 16 RIT FMA • Industry Analysis – Porter’s 5 Forces • Threat of Entry (Low) • Power of Suppliers (Moderate) • Power of Buyers (High) • Threat of Substitutes (Low) • Rivalry among Existing Competitors (Relatively High) – Implications • The Oil & Gas Pipeline Industry remains attractive for incumbents – Organic growth opportunities (crude oil acquisition and marketing) – Acquisition opportunities (terminal facilities, refined products & crude oil pipelines) • Operating margins remain tight because of strong industry competition 17 RIT FMA 18 RIT FMA Growth Estimates SXL Industry Sector S&P 500 Current Qtr 25.30% 46.00% -48.40% 27.50% Next Qtr 72.20% 22.00% 1.30% 19.60% This Year 38.40% 52.70% 27.20% 12.20% Next Year -2.90% 14.40% -16.40% 13.20% Past 5 Years 19.18% N/A N/A N/A Next 5 Years 7.03% 16.35% 15.86% 10.91% P/E 13.08 10.51 8.25 15.99 1.86 2.12 0.55 1.29 PEG Ratio 19 RIT FMA • Operational – Ability to integrate new acquisitions – Loss of Sunoco Inc. as a customer (or significant reduction in current level of throughput) • Regulatory – Increasing environmental regulation surrounding extracting, fracking, and emissions – Rates subject to regulatory approval – Increasing safety regulations • Market Related - Changes in demand for, or supply of, crude oil and petroleum products - Improvements in energy efficiency resulting in reduced demand for petroleum products - Geopolitical events that disrupt the market equilibrium for energy - Rising interest rates - Makes low-risk assets more attractive - Increases cost of capital in a capital intensive industry 20 RIT FMA Historical Performance 21 RIT FMA Earnings Per Share (EPS) 10 8 6 4 2 0 2006 2007 2008 2009 2010 22 RIT FMA Return on Equity (ROE) 40 35 30 BPL 25 EPD 20 SXL PAA 15 10 2006 2007 2008 2009 2010 23 RIT FMA Net Income $1,200 Millions $1,000 $800 SXL $600 BPL $400 EPD PAA $200 $0 2006 2007 2008 2009 2010 24 RIT FMA Net Profit Margin 30 25 20 BPL 15 EPD 10 SXL PAA 5 0 2006 2007 2008 2009 2010 25 RIT FMA Net Income vs. Operating Cash Flow 400 Millions ($) 350 300 250 Net Income 200 150 Operating CF 100 50 2006 2007 2008 2009 2010 26 RIT FMA Efficiency Ratios 80 12 70 10 60 8 Days 50 6 40 Days Sales Outstanding 4 30 20 2 10 0 0 -2 2006 2007 2008 2009 2010 Cash Conversion Cycle TTM 27 RIT FMA Figures (in millions of $) 12-2006 12-2007 12-2008 12-2009 12-2010 Cash at Beginning of the Year 21.65 9.41 2.00 2.00 2.00 Operating Activities 141.48 207.50 228.59 176.18 341.00 Investing Activities -241.22 -119.35 -331.24 -225.83 -426.00 Financing Activities 87.51 -95.56 102.66 49.65 85.00 9.41 2.00 2.00 2.00 2.00 -119.80 -105.90 -145.80 -175.60 -174.00 Cash at End of the Year Capital Expenditures Main source of cash: Main use of cash: Operating Activities Investing Activities Operating Activities – Capital Expenditures = positive for most years 28 RIT FMA • Liquidity – ability to meet short-term obligations – Current Ratio: – Quick Ratio: – Cash Ratio: 1.051 0.899 0.001 • Solvency – ability to meet long-term obligations – Debt-to-Assets: 0.678 – Debt-to-Equity: 2.730 29 RIT FMA • Description of models used – Dividend (Distribution) Discount Model (DDM) • One-period DDM – Severely undervalues company due to gloomy 1-year forecasted growth rate • Two-stage DDM – Produces inflated intrinsic value by assuming minimal impact from Sunoco Inc. – Discounted Free Cash Flow Model • Free cash flow to the firm (FCFF) and free cash flow to equity (FCFE) – Produces most realistic valuation based on all available information – Does not factor “normalized” cash flows for years 2 – 6 30 RIT FMA • Recapitulation of inputs – – – – – – Cost of Equity Cost of Debt WACC Distribution growth rates FCFF Firm Growth Rates • Year 1 • Years 2-5 • Perpetual (6+) 31 RIT FMA • Intrinsic Value – Dividend (Distribution) Discount Model • One-period DDM – $53.49 per common unit • Two-stage DDM – $158.05 per common unit – Discounted Free Cash Flow Model • FCFF/FCFE – $108.28 per common unit 32 RIT FMA Technical Analysis 33 RIT FMA 34 RIT FMA 35 RIT FMA 36 RIT FMA 37 RIT FMA • Conclusions – Positive Attributes • Industry landscape appears extremely attractive • Strong growth via acquisition • Steady growth rate of distributions • Strong technicals – Negative Attributes • Risks associated with deterioration of Sunoco’s refining business • Concerns regarding company’s ability to integrate acquisitions into existing business • Concerns regarding forward/backward integration of marketplace • Investment Recommendation = Short Term – HOLD / Long Term – BUY 38