Wells Fargo Downgrades Marathon Petroleum And Poses A Long-Term Question To Investors

Wells Fargo Securities downgraded shares of Marathon Petroleum Corp MPC from Outperform to Market Perform and lowered its price target from $65 to $56.

Analyst Roger Read attributed the downgrade primarily to a lower buyout ratio of the Incentive Distribution Rights, or IDRs, and to some extent, to the company's decision to retain the retail operations.

IDR – Exchange Rate & Variability

The analyst now expect the exchange ratio of MPLX LP units for Marathon Petroleum's IDRs to be closer to 12 to 15 times, down from its previous estimate of 15 to 20 times. Accordingly, the analyst estimates a range of valuation of about $7 billion to $9 billion, translating to $14 to $17 to Marathon Petroleum on a per share basis.

Given that clarity on the buyout ratio may not occur until the second quarter of 2018, post the planned drop down, the analyst said he's comfortable stepping back from Marathon Petroleum.

See also: Ranger Energy Services: An Undervalued Micro-Cap Stock With Room To Grow

Longer-Term Question

Wells Fargo noted that the company will be a refining company, with a retail segment and a nearly two-thirds ownership in MPLX LP MPLX. The firm expects the Midstream/MPLX to generate much of Marathon Petroleum's combined operating income in 2-19.

The firm now wonders whether investors may choose to own MPLX directly instead of Marathon Petroleum, given the volatility and seasonality of refining and retail operations of the latter, relative to the perceived predictability, magnitude and cash flows of the MPLX operations and ownership.

"In simple terms, why own a high-quality MLP and take on refining/retail volatility, seasonality and risks when one could just own the high-quality MLP?" the firm asked.

Retailing & Refining

On the retail business, the firm said its base case assumption include the company retaining Speedway, going by the company's recent announcement that the combination of synergies, financial flexibility and leverage capacity, quality of assets and cash flow diversification outweigh the benefits of a separation.

Wells Fargo expects Marathon Petroleum's core refining segment to generate about $2 billion per year in EBITDA in a mid-cycle environment. Meanwhile, the firm believes wider-than-expected crude oil differentials could support stronger margins and annual EBITDA generation than its base-case scenario.