Oil and Gas Earnings Notes (Q1 2024)

We wrote about Exxon, Chevron, and Imperial Oil earnings in a post last month. Now, let's look at our big Canadian producers (CNQ, SU, CVE), our royalty owners (DMLP and TPL; we already looked at PREKF results), and our two big refiners (MPC and VLO).

Canadian Natural Resources Limited
The current market capitalization of CNQ (at a $76 share price) is $81 billion, and the enterprise value is $88 billion. Cash from operations for the first quarter (results) was $2.12 billion and the company spent $773 million on capital expenditures. The remaining free cash flow for the quarter was $1.35 billion, which is a 6% yield on the enterprise value.

Capital expenditures were down 11.5% from the first quarter of 2023, while production of liquids was up 1.3% and total production (including natural gas) was up 1.1%. They averaged 976k bbl/d of liquids during the quarter. The realized price of oil per barrel was $52 for crude and $66 for synthetic crude, compared with $44 and $71 the prior year.

The company spent $796 million on dividends and $448 million on share repurchases for a shareholder yield of 6%. The diluted share count is down 2.9% year-over-year. Regarding capital allocation, management said on the conference call: "2024 marks an important milestone as we are delivering 100% of free cash flow to shareholders this year. And with strong crude oil strip pricing for the remainder of the year, we are targeting to generate significant free cash flow."

Suncor Energy Inc.
The current market capitalization of SU (at a $39.50 share price) is $51 billion, and with $10 billion of net debt, the enterprise value is $61 billion. Cash from operations for the first quarter (results) was $2.06 billion and the company spent $915 million on capital expenditures. The resulting free cash flow for the quarter was $1.15 billion, which is a 7.5% yield (annualized) on the enterprise value. During the quarter, Suncor returned $736 million via repurchases and dividends, for an annualized shareholder yield of 5.8%.

Capital expenditures were up 20% from the first quarter of 2023, while production was up 12.5%. They averaged 835k bbl/d of production during the quarter, which was a record, including all-time high oil sands production of 785k bbl/d from oil sands. Refining throughput of 455k bbl/d was also the highest in company history. The upstream segment earned $1.2 billion pretax and the refining and marketing segment earned $824 million, for a total of $1.2 billion of net after-tax earnings.

Cenovus Energy Inc.
The market capitalization of CVE is $37.5 billion (at a $20 share price) and their enterprise value is $43.4 billion. The upstream segment earned $1.2 billion of operating margin during the first quarter (results) (compared with $613 million the prior year) and the downstream (refining) segment earned $294 million (compared with $186 million earned the prior year).

Upstream capital expenditures were up 6.4% year-over-year, to $690 million for the first quarter. Upstream production volumes were 801k boe/d, up 2.8% year-over-year. Cash from operations for the quarter was $1.42 billion which puts free cash flow at $745 million, for an annualized yield of 6.8% on the enterprise value.

During the first quarter, the company spent $194 million on common share dividends and $122 million on share repurchases. The $316 million returned to shareholders is a shareholder yield of 3.4% on the current market capitalization. Net debt at the end of the quarter was $3.6 billion. Management has said that they will increase shareholder returns (from 50% of "excess free funds flow" to 100%) once net debt drops below $3 billion.

Dorchester Minerals, L.P.
The market capitalization of DMLP is now $1.3 billion (at $32 per unit). For the first quarter of 2024 (10-Q), the partnership earned $18 million of net income (compared with $28 million the prior year), generated $28 million of cash from operations (compared with $39 million the prior year), and distributed $40 million to unitholders. The CFO yield on the market capitalization is 8.6% (annualized). The annual shareholder meeting was on May 15 and the company has released the investor presentation. The most recent (second quarter) distribution was $0.782 cents, paid on May 9. Over the trailing four quarters, the partnership has distributed $3.31, which is a 10% yield on the current unit price.

Texas Pacific Land Corporation
The market capitalization of TPL (at $600 per share) is now $13.9 billion. (The company had a 3-for-1 share split during the first quarter.) The company has built up quite a cash pile during the shareholder activism dispute, so the current assets net of liabilities are $900 million and the enterprise value is $13 billion. The company owns 868,000 surface acres, which is an enterprise value of $15,000 per acre just for the surface.

In the first quarter of 2024 (10-Q), production volumes for TPL were 24,800 BOE per day, which was up 19% from the prior year. Their oil volumes at 0.99 million total barrels for the quarter were up 25% year-over-year. Oil and gas royalty revenue was up only 3.4% year-over-year because natural gas prices were down. Water sales, water royalties, and easement income were all up year-over-year, although the water service business has operating expenses, which were also up. (TPL's "land and resource management" segment had an adjusted EBITDA margin of 94% and its "water service and operations" segment had a 75% margin.)

Total expenses were $34.3 million (excluding depreciation) versus $38 million the prior year. Thankfully legal fees were only $4 million this quarter and not the $16.6 million spent in the year ago quarter. Expenses (again excluding depreciation) were 20% of total revenue, partly because TPL has established a "water services" business which is lower margin than collecting royalty revenue.

Operating income was $136 million for the quarter, and if you add back $3.8 million of depreciation, depletion, and amortization, you get a "cash flow-like number" of $140 million, which would be an annualized yield of 4.3% on the current enterprise value.  

The company published a May 2024 investor presentation as well as a presentation on produced water desalination and beneficial reuse.

Marathon Petroleum Corporation
This Marathon is the refiner, not the E&P company (MRO). They refine almost 3 million barrels per day, which is the most in the U.S., followed by Valero (VLO) and ExxonMobil (XOM), each with about 2 million barrels per day. 

At the current share price of $172, the market capitalization of MPC is $60.6 billion and the enterprise value is $82 billion. During the first quarter (release), Marathon's refining and marketing segment earned adjusted EBITDA of $1.9 billion and its midstream segment earned $1.6 billion, for total adjusted EBITDA of $3.3 billion. The refining capacity utilization was only 82% during the quarter, compared with 89% the prior year (when refining EBITDA was a much higher $3.9 billion).

Cash from operations was $1.5 billion and the company had $585 million of capex during the quarter. The company repurchased $2.2 billion of stock and paid $300 million of dividends, for total shareholder returns of $3 billion, a 20% annnualized shareholder yield. (The company's cash balance drew down by $2.3 billion as they outspent cash flow.)

Valero Energy Corporation
At the current share price of $157, the market capitalization of VLO is $51 billion and the enterprise value is $57 billion. During the first quarter (release), Valero's refining segment earned operating income of $3.5 billion and its renewable diesel and ethanols segments earned a combined$200 million.

Cash from operations was $1.85 billion and the company had $660 million of capex during the quarter. The company repurchased $1 billion of stock and paid $356 million of dividends, for total shareholder returns of $1.38 billion, an 11% annualized shareholder yield.

Valero (VLO) Comments on Demand (Q2 2023)

Our favorite proxies for refined fuels demand in the U.S. are the refining companies themselves as well as the pipeline companies (such as Magellan Midstream) that transport significant amounts of refined products. The three largest refining companies in the U.S. are Marathon Petroleum, Valero (VLO), and ExxonMobil. Trying to get a sense of demand based on proxy indicators is important because there are times (1, 2) when those companies' earnings calls gave us better insight than the government's numbers.

For the second quarter of 2023, Valero reported net income attributable to Valero stockholders of $1.9 billion, or $5.40 per share; compared with $4.7 billion, or $11.58 per share, the prior year quarter. At the current $45 billion market cap, shares are trading for 6x this quarter's annualized earnings.

Valero returned over $1.3 billion to stockholders in Q2, consisting of $367 million of dividends and $951 billion in share repurchases (a payout ratio of 53 percent of adjusted net cash provided by operating activities). Valero has said that they are targeting an annual payout ratio between 40 and 50 percent of adjusted net cash provided by operating activities. The shareholder returns in the first quarter are a 12% shareholder yield (annualized) on the current market cap. Valero has bought back 19 million shares year-to-date, which is about 5% of the total at the beginning of the year.

We would put the EV of Valero at about $50 billion (very little net debt) and the first half of 2023 free cash flow at $3.7 billion, which is a FCF/EV yield (annualized) of 15%. 

There was an exchange on this quarter's conference call about demand for refined fuels:

Manav Gupta
Good. The second question here is the DOE data is telling us whatever it is, and there are obviously some concerns around demand out there, but the cracks are telling us a completely different story. The cracks are telling us the demand for products is remarkably strong. So just wondered if you could highlight some of the -- what you're seeing in terms of demand in various regions?

Gary Simmons
Yes, Manav, this is Gary. We do believe that the DOE is understating gasoline demand. But even their data is showing on a 4-week average basis gasoline demand up about 3%. But if you look at our numbers, of course, Lane mentioned we had record volumes in both May and June of over 1 million barrels a day. We're seeing gasoline sales in our system up 14% year-over-year, up 22% from pre-pandemic levels.

Gasoline inventory year-over-year is down 7.5 million barrels. So it's trending at the low end of the 5-year average range. Typically, this time of year, you have an open arb to ship barrels from Europe into the United States. But with inventory low in Europe, that arb is closed, which is hindering imports, and we see strong export demand from the U.S. Gulf Coast into South America.

So the fundamentals around gasoline look very good. Diesel inventory is up 6 million barrels, but continues to trend below the 5-year average range. Diesel inventory is flat, where historically, this time of year, we start to see diesel building. Again, while the DOE reflects weaker diesel demand year-over-year, it looks like the weekly data is continually being revised up.

Last year when oil and fuel prices were spiking, the government stopped publishing data on demand for two weeks because of a "voltage irregularity," and once publication resumed after this "pause," the data has no longer seemed congruent with what other sources reported.

Valero Energy Reports First Quarter 2023 Results ($VLO)

Our favorite proxies for refined fuels demand in the U.S. are the refining companies themselves as well as the pipeline companies (e.g. Magellan Midstream) that transport significant amounts of refined products. Last year there were a couple of times (1, 2) when those companies' earnings calls gave us great insight into the recovery in fuel demand, while the government's numbers were telling a different story.

For the first quarter of 2023, Valero reported net income attributable to Valero stockholders of $3.1 billion, or $8.29 per share; compared with $900 million, or $2.21 per share, the prior year quarter. With a $42 billion market cap, shares are trading for 3.4x this quarter's annualized earnings.

Valero returned over $1.8 billion to stockholders in Q1, consisting of $379 million of dividends and $1.5 billion in share repurchases (a payout ratio of 52 percent of adjusted net cash provided by operating activities). Valero says that they continue to target an annual payout ratio between 40 and 50 percent of adjusted net cash provided by operating activities. The shareholder returns in the first quarter are a 17% shareholder yield (annualized) on the current market cap.

We would put the EV of Valero at about $44 billion (very little net debt) and this quarter's free cash flow at $3.3 billion, which is a FCF/EV yield (annualized) of 30%. The market is implying some combination of (a) big, bad recession, (b) electric vehicle "transition," and/or (c) new refining capacity coming online to crush margins. 

Of course, the market is crying "recession" about all kinds of old economy that produce tangible things (steel, coal, oil, pipelines) but not about companies like Tesla, which still trades for 10 times book value. It's the fundamental mispricing of our time and it has been going on for almost three years, during which time the old economy companies have generated cash, paid off debt, and bought back stock.

Regarding oil demand: listen to the conference call comments on Q1 2023 demand for gasoline and diesel:

Refining throughput volumes in the first quarter of 2023 averaged 2.9 million barrels per day, which was 130,000 barrels per day higher than the first quarter of 2022. Throughput capacity utilization was 93% in the first quarter of 2023 compared to 89% in the first quarter of 2022. [...]

So, so far, our 7-day average in our wholesale system, our gasoline sales are up 16% year-over-year. Our diesel volumes are up 25% year-over-year. So our wholesale team continues to do a great job.

In March, we set a record at 998,000 barrels a day. In April, the volumes are trending right along those levels. So demand seems very, very strong in our system. And even the DTN data for the wholesale racks across the industry is very strong as well.

In terms of your question on diesel weakness, we're just not seeing it. I can tell you, in addition to the wholesale volumes, today, there's domestic arbs that are open from PADD 3 into PADD 2 as we're seeing a surge in agricultural demand that's going along with planting season. You also have a domestic arb open to ship from PADD 3 to PADD 1. We see strong waterborne premiums to go to Latin America. The transatlantic arb is open to Europe. And so for us, distillate fundamentals look pretty good. [...]

So our wholesale on the gasoline side, we're up 16% year-over-year. On distillate, we're up 25% year-over-year. March, we set a sales volume record 998,000 barrels a day. And then April, the volumes are trending about like they did in March. [...]

So we've come into driving season with 10 million barrels below where we were last year on gasoline inventory. So especially summer grade gasoline is very tight, and it is going to stress the Colonial system as we move into driving season.

Valero is making more money than ever before. Their wholesale volumes are record high. So you have to ask, how could oil demand be weak?

This Earnings Season Vindicates the Value vs Growth Hypothesis

This quarter's earnings season has been vindicating the "value vs growth" hypothesis. The "growth" companies that have long been considered bulletproof and which were valued very expensively are reporting falling earnings, while value companies that are valued less expensively are turning out to have pricing power and are reporting higher earnings.

Growth
Let's go through some examples, starting with the three gigantic growth disappointments, Facebook, Google, and Amazon. These are important because the "FAAG" stocks dominate the indices and have had a tremendous run for more than a decade with consistently rising earnings and rising multiples that crescendoed last year. (Note: the second "A" in FAAG is Apple, which is arguably a value stock, and notably the only one of the four that Buffett has ever owned.)

Wasteland Capital posted a good analysis of the Facebook quarter. Revenue was down 4% in Q3 2022 vs the year ago quarter, but costs and expenses were up 19%. The result was that EBIT fell 46%, operating margin fell from 36% to 20%, and diluted earnings per share got cut in half to $1.64. 

Facebook is now trading for 15x earnings. Does that mean we should dump our Philip Morris and buy META since the multiple is about the same? Well, what if PM is actually the better business? Because the cash flow numbers for Facebook were even worse, thanks to Zuckerberg's huge investment in the "Metaverse" boondoggle. 

Look at the cash flow statement. For the first nine months of this year, Facebook had net income plus depreciation of $25 billion versus $36 billion the prior year. Capital expenditures this year to date have been $24 billion versus $14 billion. Free cash flow has dropped to nothing. As someone on Twitter pointed out, it "just swung from 50% cash flow margins to 0%, in one year, at scale, with strong market position. Are there any examples in history similar?"

What is also interesting is that the company borrowed money, despite not having free cash flow, to buy back stock. This is like looking at an oil company annual report from 2013. Someone else asked, "What if Zuck knows already that Facebook's core, advertisement based business model is ultimately doomed and that the Metaverse is the only chance to survive?"

At Google, again see Wasteland Capital's post. Revenue in the third quarter was up 6% versus the prior year, but costs were up 18%, resulting in an operating margin decrease from 32% to 25%. Earnings per share fell from $1.40 to $1.06 so it is now trading for 22x earnings. One of the big drivers is that the number of employees grew from 150k a year ago to 187k. And again, even worse is what happened to free cash flow. For the quarter, net income plus depreciation was $18 billion versus $22 billion a year ago. Capex went from $6.8 billion to $7.3 billion.

Wasteland Capital's writeup of Amazon's results is brutal: "Bezos’ China-goods flea-market delivered a steaming pile..." Operating income for the quarter was cut in half from the prior year. North America went from a small profit to a loss. Operating cash flow decreased 27% to $39.7 billion for the trailing twelve months, compared with $54.7 billion for the trailing twelve months ended September 30, 2021. Our preferred metric "Free cash flow less equipment finance leases and principal repayments of all other finance leases and financing obligations" decreased to an outflow of $21.5 billion for the trailing twelve months, compared with an outflow of $3.9 billion for the trailing twelve months ended September 30, 2021.

Investors in growth stocks were double counting - the companies were over-earning and these earnings were being capitalized at high multiples. Now that they are past peak cycle, the earnings are falling and they are being re-rated, and the shares are plunging. The NASDAQ is down 31% year-to-date. (Interestingly, the equal weight S&P 500 is down 14% YTD and SPY is down 19%.)

So those are the big three "growth" examples. We have to put that in quotes now because their earnings are declining. They still have a combined $2.6 trillion market capitalization (down from $5 trillion at the peak!) and collectively they do not generate much cash (thanks to Amazon's cash burn and Facebook's "Metaverse" bet). 

Someday, the ex-growth companies expenses will be slashed, their earnings will bottom, and by then they will undoubtedly trade at cheap multiples. But that may take a long time since Facebook and Google are dual share class corporate governance disasters. And the knock-on effects of those SG&A cuts will ripple far and wide - any prospective investment should be evaluated for such exposure. (It would be interesting to compare what percentage of tech employees use nicotine versus energy sector employees.)

Value
Now that we have surveyed some of the growth wreckage, let us turn to the value results. As we mentioned, these companies are turning out to have pricing power and are reporting higher earnings thanks to various combinations of price increases and higher sales volumes.

Back in August the Biden administration claimed that this summer's refined fuel demand was lower than it had been in July 2020. (When fuel prices spiked in June, the EIA did not publish their data for two weeks because of a "voltage irregularity," then claimed that demand had fallen to below pandemic levels.) We knew that the data was wrong because midstream companies and refiners, like Magellan and Valero, were contradicting it in their Q2 results. Oil was below $100 per barrel for almost all of the third quarter, so it is interesting to see what third quarter reports are saying about demand. From the Valero conference call for Q3:

Q: "When you talk about demand surpassing 2019 levels for gasoline and diesel, is that primarily driven by strengthening your export channels? Is domestic demand in your areas of service equally strong?"

A: "Really, it's the domestic markets and our wholesale volumes have trended considerably higher. We set a wholesale volume record in August. We beat that in September, and we're on pace to beat it again in October. So wholesale volumes continue to trend higher. If you look at the pump market through our wholesale channels of trade, gasoline is trending about 8% above where we were pre-pandemic levels. Diesel volumes are trending about 32% above where we were pre-pandemic levels. So seeing really strong domestic demand through our wholesale channels of trade."

Q: "you talked about bulletproofing your balance sheet in the prior quarter, and you mentioned evaluating further reductions in your prepared remarks. How much lower would you like to get on your leverage"

A: "on the cash side, we're at a $4 billion cash balance, we talked about how, going forward, we like to hold more cash at $3 billion to $4 billion probably on the base level. But if you're looking at potentially higher flat price levels or economic downturn, you maybe want to hold a little bit more. So we bias to the upper end of that. So we're close to a good spot on both of those. On a long-term debt to cap -- net debt to cap, we have a 20% to 30% range that we target. We're at 24.5% now at the end of the third quarter, down from 40% at the highest point toward COVID. So we've been working in the right direction. I'd like to be even lower, you'd like to be at the 20% range [of debt to capital] to give you more financial flexibility going forward"

Q: "a part of that meeting [with the White House] was meant to see if there was any possibility if somebody could start a refinery up and we discuss -- the industry discuss the difficulty in doing that and that was really the main coming ones."

A: "there was consideration for the ability to restart refining capacity that had been shut down. And I think the general sentiment was that, that wasn't going to happen. Of course, we're not in that boat. But I mean, people had very good reasons for making the decisions that they made, and they weren't in a position to unwind those decisions. So, the solution is going to probably have to come from some waving of regulation or just reduction in demand, which we just haven't seen to-date."

Q: "You brought it up as there is obviously a risk of a slowing economic cycle out there. What level would you think about a typical recession impact in terms of fuel demand, recognizing gasoline is already well below what we would call, kind of, a normal environment. [...] I'm just wondering how you think about the typical magnitude impact of a recession on fuel demand."

A: "I guess as the guys have, kind of, gone back and looked at recessionary period in the past, they see their product demand has hit about two times GDP. So whatever GDP assumption you're going to have, you would take twice that on the impact of fuel demand. And as you mentioned, more of that is going to be diesel, less on gasoline. I think there are some unique situations as we head into next year. One, jet demand hasn't fully recovered. And so you'll have a good increase in jet demand as we would anticipate, and then Chinese oil demand has been down 20%. At some point in time, they will come out of the pandemic, and you would expect to see Chinese demand recover. So the combination of both those things is that we would expect, even with the typical recessionary period, you may see year-over-year global oil demand growth."

Valero reported earnings of $2.8 billion, or $7.19 per share, for Q3 2022, compared to $463 million, or $1.13 per share, for Q3 2021. That's less than 5x earnings on an annualized basis. Valero's net income plus depreciation for the year-to-date has been $10.5 billion. Capital expenditures have been $2 billion. With that remaining free cash flow, they spent $2.4 billion repaying debt, $1.2 billion on dividends, and $2.8 billion on share repurchases. Remember, this is only a $50 billion market capitalization company.

A few observations about the conference call excerpts. Oil and product demand is very strong even at current high fuel prices. Management is still depressed even though they are raking in money - they want to keep paying down debt. And no one sees a way to increase capacity in the industry.

We also see evidence of strong demand at Magellan Midstream, which reported results this morning. Their refined product shipments were flat Q3 2022 vs Q3 2021, but the transportation revenue per barrel shipped was up 8.7%. (And refined product shipments are up 4% year-to-date versus the first nine months of 2021, with the revenue per barrel up 3%.)

On a market cap of $11 billion and an enterprise value of $16 billion, Magellan's guidance is for $1.1 billion of distributable cash flow. So far this year, they have distributed $685 million and made $473 million of unit repurchases. (During the third quarter, they bought back 2.7 million units at an average price of about $50 per unit.) Units outstanding are down 3.5% year-to-date and the dividend yield this year has run about 8%. 

Amazingly, the MMP dividend yield was only 4% at the beginning of 2014 when the ten year bond was yielding 3%. The Magellan equity risk premium over its own 2050 note is now 160 bps, which has come down significantly. Of course, we must remember that inflation will make a big difference to the real returns of the debt holders versus the equity holders.

Altria also reported results this morning. The most important thing was that operating income in the smokeable segment (i.e. cigarettes) was up despite a bad volume decrease:

Net revenues decreased 1.6%, primarily driven by lower shipment volume and higher promotional investments, partially offset by higher pricing. Revenues net of excise taxes increased 0.4%. Reported OCI increased 1.4%, primarily driven by higher pricing, partially offset by lower shipment volume, higher promotional investments, higher costs and 2021 NPM Adjustment Items.

Smokeable income for the quarter went from $2.75 billion to $2.79 billion. Oral tobacco went from $405 to $425 million. Total operating income from $2.95 billion to $3.1 billion (5% increase). We've noticed that Altria has been heavily promoting their on! oral nicotine product, and indeed the volumes were up 68% year-over-year. 

Recall from earlier in this post how much money Facebook, Amazon, and Google are spending on capital expenditures - hundreds of billions of dollars over time. As Devin LaSarre points out regarding Altria, its capital expenditures are only a couple hundred million dollars: "unreal how much money this company makes with so little reinvested."

As we know, Altria owns 10% of AB Inbev (BUD), which also reported today. If you click through, you'll notice the pricing power (we have seen this across various branded consumer staples) - volumes up 3.7% but revenue up 12%.

Results from Suncor Energy are not in yet, but they made an interesting announcement:

Suncor Energy today announced that it has agreed to purchase an additional 21.3% working interest in the Fort Hills Project and associated sales and logistics agreements from Teck Resources Limited, for consideration of $1 billion. Upon closing, Suncor's aggregate share in the project will increase to 75.4%. The acquisition will be funded by cash from asset sale processes currently underway and the company remains on track with its previously articulated capital allocation framework.

They had previously announced that they sold their wind and solar assets to a Canadian utility, and that covers much of the cost of this working interest purchase. The one remaining partner in Fort Hills is a French energy company that thinks oil will be obsolete by 2050. It is a great sign that our management is picking up barrels, and hopefully they will buy out the stupid, politically correct French super-major oil company.

Recall what we wrote in our "New Milestones in the Value vs Growth Trade" post.

Further signs that the value vs growth trade is continuing will be redemptions from growth funds (that beget further selling), reversal of the ESG mandates and divestments of value stocks by institutions, insider selling and share issuances to fund losses at growth companies despite the lower prices, and a ripple effect up the growth quality and maturity ladders as the unprofitable growth companies buy less advertising and other services from even the profitable, mature FANGs ("cascading revenue declines"). 

It looks like the Facebook and Google are starting to suffer from the cascading revenue declines. But they must only just be starting, because Amazon Web Services is still holding up. Even Cathie Wood's "ARKK" ETF is still attracting inflows. 

A couple of ways to look at the big cap growth bubble is to chart the performance of the market capitalization weighted S&P 500 (SPY) ETF versus the equal weight S&P 500 (RSP) ETF, or chart the Vanguard IT versus Vanguard Energy.

We are still in the opening innings of the reversal in value versus growth, but today was a big drawdown for growth investors. Do you even hear any of them questioning themselves? From what I can see, they are blaming macro factors and not considering the strategic factor bet.

Valero and Magellan Midstream on refined product demand

The Biden administration is claiming that refined product demand in late July was lower than in July 2020... here's what Valero (2nd largest refiner in the U.S.) has to say about it:

Manav Gupta -- Credit Suisse -- Analyst
Guys, I would actually ask only one question, and that is basically, can you help us understand the demand dynamics out there, there were some worries on demand destruction than there were some worries on recessionary demand. The conversations we are having indicates that's not the case, but you have the most diversified footprint. So help us understand gasoline or diesel, what are you seeing in terms of demand out there? And I'll leave it there. Thank you.

Gary Simmons -- Executive Vice President and Chief Commercial Officer
Manav, this is Gary. I can tell you through our wholesale channel, there's really no indication of any demand destruction. In June, we actually set sales records. We sold 911,000 barrels a day in the month of June, which surpassed our previous record in August of '18 where we did 904,000 barrels a day.

We read a lot about demand destruction, mobility data showing in that range of 3% to 5% demand destruction. Again, we're not seeing it in our system. We did see a bit of a lull in the first couple of weeks of July, but our seven-day averages now are back to kind of that June level, with gasoline at pre-pandemic levels and diesel continuing to trend above pre-pandemic levels.

And Magellan Midstream (54 refined product terminals in 15 states):

In terms of high commodity prices and the gives and puts on demand, as we've mentioned many times in the past, gasoline and generally transportation demand is fairly inelastic. I think we were maybe testing that a little bit in early July with the prices we saw upon them. But we haven't, I don't think, broken that inelasticity. I still think it's very inelastic. So even with higher commodity prices, as long as they stay within sort of an expected range, not too extreme, we don't see a lot of commodity risk up -- whether prices are up or down really driving that volume one way or the other unless you get to an extreme, which again, we may have tested in July, but we've come off of those extremes.

We'll see who's right.

Note that when fuel prices spiked in June, the EIA did not publish their data for two weeks because of a "voltage irregularity," and once publication resumed after this "pause," the data has no longer seemed congruent with what other sources are reporting.

What I Would Buy Instead of Tesla

When I started this thought experiment, Tesla had a market capitalization of $460 billion. It traded around 300 million shares (around $140 billion in value!) at that valuation level. But it has declined and is now a ~$400 billion market cap. So with ~$400 billion in hand, here is the shopping list of what I would rather buy. We can see how this alternative portfolio does over time.

• Toyota Motor Corporation (TM) for $185 billion. Sell the worst automaker and be long the best. Earnings were $17 billion last year. Peak was $23 billion in 2018. Average from 2010-2019 was $13 billion annual. (They made money every year of the decade.) With a market capitalization of ~$185B that's 14x if we look at the ten year average like we do with the S&P as a whole. (Or, only 11x last year's earnings.) Pretty amazing that their net income is close to Tesla's entire revenue (maybe 2/3 of it), but Tesla's market capitalization is 2x higher. TM dividend yield is 3%.
  
• The two U.S. based tobacco companies, Altria (MO) and Phillip Morris (PM) for $72 billion and $117 billion. PM earned $8 billion last year and MO earned $2.3 billion (excluding the Juul write-down). That's $189 billion which is the same market capitalization as Toyota and 47% of Tesla. The P/E of the tobacco companies is about equal to the price-to-revenue of Tesla!
• Valero Energy Corporation (VLO) for $16.3 billion. The second largest oil refiner in the U.S. with 2.2 million barrels/d of capacity. They earned an average of $3 billion per year over 2018 and 2019. The hope here is that the oil refining industry will follow the path of the tobacco industry - a product still in demand but with concerns about the future that discourage entrants to the industry and additional capacity from being added. In this case, the electric vehicle mania is leading people to believe that gasoline demand is going away.
  
• Royal Gold (RGLD) for $7.9 billion. A great business model - streaming/royalty interests on gold mines with no debt. Net income of $200 million for the past year is expensive, but it could/should grow as more mines come into production. (They have interests in 41 producing mines and 16 in development, plus more in the pipeline.) They do about 1 transaction a year but it's lumpy - they did none from 2006-2008 or from 2016-2018.
  
• Texas Pacific Land Trust (TPL) for $3.6 billion. At $460, the market capitalization is $3.6 billion and the enterprise value is about $3.3 billion. (They have a net cash position.) They get a royalty from their land in the Permian and do not do any production themselves. No debt and royalty ownership protects against the risk of ruin in the scenario where there is "deflation first" before an inflation. In 2019, they did $318 million of net income. In the 1H of 2020, they did only $85 million (which annualizes to $170mm). It's a higher quality asset than companies that are more expensive. I think it's a better inflation hedge than precious metals. The big question to me would be whether we overpaid if there's an extended period of deflation. But at least it would be far more likely to survive than something like XOM which has 3x its EBITDA in debt.
  
• AerCap Holdings N.V. (AER) for $3.3 billion. They are an aircraft lessor. This is a covid nothingburger play. It's high risk but high potential reward. It is highly leveraged: they have $35 billion of aircraft (at book value net of depreciation), $10 billion of other assets, and $35 billion of debt, for a net of $10 billion of shareholder equity. Current market cap is $3.2 billion, so very low P/B. The key question is whether the aircraft are worth their carrying values. This was trading for ~90% of book until covid hit. If air travel was going to take a multi-year hit, it would be conceivable that the airline lessees would go bankrupt, reject their leases, and the lessor would be stuck with planes that were worth much less than expected. But, for whatever reason, herd immunity seems to have kicked in far earlier than expected.The Boeing MAX problem is complicated, but if those planes are scrapped it would be bullish for the lessors because it would extend the economic life (and increase the residual value) of existing planes. They earned $246 million in Q2 2020 vs $331 million the prior year. So that is a double digit return on equity. And it makes the P/E about 3x! If lots of airlines go bankrupt, this is a zero. If things return to normal, it's worth close to triple.
  
• Dorchester Minerals LP (DMLP) for $358 million. They own producing and non-producing mineral, royalty, overriding royalty, net profits and leasehold interests. They have no debt. Net income for 1H 2020 of $10 million vs $28 million for 1H 2019. Prices were obviously down during the covid crash, and operators also curtailed production. They bought back some of their own units during April.

So instead of Tesla's $25 billion in annual revenue and no profit (in fact, a cash burn of maybe $5 billion a year), you get revenue of about $400 billion (1x revenue, how about that) and net income of maybe $30 billion a year and distributable (as opposed to reinvested) income that's greater than Tesla's revenue.