Porter’s Five Forces Analysis of Phillips 66
|Industry||Oil & Gas Operations|
|Founded||May 1, 2012|
|CEOs||Greg C. Garland|
|Revenues||USD 111.48 billion (CY21), USD 129.71 billion (9MCY22)|
|Profit||USD 1.32 billion (CY21), USD 9.38 billion (9MCY22)|
|Competitors||Enbridge Inc., Enterprise Products Partners L.P., TC Energy Corp.|
Phillips 66 is a middle (refining) and downstream (transporting and distribution) American oil company which was formed after Phillips merger with Conco. The primary business of company is to refine oil and ethanol products in to finished products and then distribute and sell it nationwide. The company is also focused on Research and Development activities in renewable energy and have formed a joint venture partnership with another oil giant Chevron to form Chevron Phillips Chemical.
The company is ranked as 318th on Forbes Global 2000 (2022) list and 337th on World’s Best Employers till 2022. Phillips 66 also ranked 29th on Fortune 500 and 74th on Fortune Global 500 in 2022. The company has global presence apart from US in countries such as UK, Germany, Switzerland, and Austria and have multiple service station licenses. The company has around 14k employees.
From a financial standpoint, the total revenues (including sales, operating revenues, affiliate dividends, disposition gains, and other income) reported at USD 114.85 billion, up 75% YoY in CY21 while total expenses surged to USD 113.11 billion, up 61% YoY reflecting cost saving measures and improving margins. The company reported Net Income of USD 1.59 billion(EPS: USD 2.97/sh) in CY21 against a Net Loss of USD 3.71 billion(LPS: USD -9.06/sh) in CY20. In 9MCY22, the total revenues clocked in at USD 134.79 billion, up 66% YoY while total costs reported to be USD 122.70 billion, increasing 51% YoY giving a 41x to NetProfit USD 9.38 billion (EPS: USD 19.37/sh)from USD 223 million (EPS: USD 0.08/sh)in 9MCY21. The reason of such exceptional financial results is the improvement in Gross Refinery Margins (GRMs) and continued focus on debt reduction and strengthening balance sheet to reach investment grade credit ratings[A3 (Moody’s), BBB+ (S&P)].
The company has a diversified portfolio of activities ranging from energy upstream to downstream.
- Oil Mid-Stream – This segment caters to crude oil transportation, terminal travel and processing along with Natural Gas Liquids (NGL) transportation, Storage, fractionation, processing and marketing services in the US.
- Chemicals – 50% stake in Chevron Phillips Chemical Company LLC which manufactures and marketspetrochemicals and plastics on a worldwide basis.
- Refinery – Once oil is explored and produced, it is sent to the refineries to be converted as energy (MOGAS and High-Speed Diesel – HSD) as per the international Euro standards along with removal of bi-products (Furnace Oil – FO). Phillips 66 has 12 refineries across US and Europe.
- Marketing and Specialties (M&S) –Purchases for resale and markets refined petroleum products and renewable fuels, mainly in the United States andEurope. In addition, this segment includes the manufacturing and marketing of specialty products, such as base oils and lubricants.
Source: Company Presentation CY22
Porter’s Five Forces Analysis
Phillips 66 Rivalry among Existing Competitors
- Perfect Competition
The company engages in refining and selling of oil, gas and related products. The nature of the business involves many large players in North American region conducing similar kind of activities with heavy emphasis on building reserves. Furthermore, products are highly identical used for the same purpose by everyone which classifies it as a Perfect competition landscape. No participant has significant pricing power over another due to homogeneity in product line.
Enbridge is a Canadian pipeline company with global presence across US, Canada and other countries. It has the longest pipeline in North America and largest oil export pipeline network in the world. Enbridge has also built several renewal energy schemes across North America and Europe ranging from Hydro, geo, wind, thermal, and solar. The company reported Total Operating Revenues of USD 39.89 billion, up 15% YoY as the world’s activity resumed after Covid-19 pandemic while the Net Income declined to USD 4.05 billion, down 7% YoY, on account of soaring energy crude prices and delay in price passing adjustments.
- Enterprise Products
Enterprise Products is another midstream (pipeline) company which ranks as 105th on Fortune 500 in 2018. The company reported revenues of USD 40.81 billion and Net Income of USD 4.76 billion in CY21. The company links some large North American supply basins with domestic consumers and international markets.
- TC Energy Corp
TC Energy is a Canadian based major American oil company operates in Energy segment with Natural Gas and Liquid pipelines. The natural gas pipeline includes 92.6k kilometers which ships 590k crude oil bpd and roughly comprise of 20% of Western Canadian Oil export. The Energy division operates 11 power generation plants with 6,600 MW. The company reported revenues of CAD 13.39 billion and profits of CAD 2.05 billionin CY21.
- Key differentiating factors
Phillips 66 has some of the most definitive refining assets in the world with around 13 refineries. The company uses advance analytics, machine learning, and artificial intelligence to elevate output and enhance performance efficiencies. Phillips 66 has also laid strong footprint in Energy Research and Innovation (ERI) to cater to low-carbon solution needs of growing environment friendly mindset. This segment consists of more than 200 labs which scientists and engineers in 30 countries speaking 24 languages working to analyze 508 patents as at December 31, 2021.
Phillips 66 Threat of New Entrants
- Intensely Regulated
The Oil and Gas business is highly regulated not just in US but across the globe. These companies also have to comply with a lot of international laws which may or may not result in penalties. Phillips 66 face a lot of risk of penalties due to environmental damages, political litigations or arbitrations. The company is currently subject to various civil, administrative, tax, environmental and corporate legal proceedings. These claims involve substantial amounts of money and other remedies, and the aggregate cost of unfavorable decisions could have a material adverse effect on financial results. Phillips 66 has allocated USD 300,000 for federal litigations and USD 1 million for environmental proceedings in 9MCY22.
- Extraordinary Investment in Fixed Capital
The Oil and gas midstream and downstream business requires immense Fixed Capital expenditures with leverage and sometimes even requires government financing to set up long pipelines which are safe and sustainable along with investment in high-tech refineries to achieve maximum output keeping the environment safe and complying with all the local and international regulations. According to Spencer (2021), the investment in oil sector was down 23% YoY in CY21 which led to soaring commodity prices and demand shortages as winters approached energy deprived Europe. Phillips spent USD 1.86 billion in capital expenditures in CY21 which is 1.41x of its CY21s Net Income.
- High Research and Development Costs
Phillips 66 has diverted a lot of resource towards Energy research by setting up Energy Research and Innovation (ERI) in US having 200 labs on 440 acre research campus to develop renewable energy projects. In 2021, the ERI focused on feedstock valuation and process optimizations to enhance refinery margins amid soaring global commodity prices. The ERI also have transition energy programs such as carbon mitigation, hydrogen, batteries and fuel cells tohelp position Phillips 66 for the energy future.
- Additional barriers to entry to Refinery and Pipeline business
Since the oil business is highly regulated due to its large impact on people’s everyday lives. According to Smith (2022), the start-up cost for an oil and gas business is insane with setting up large pipelines, distribution networks, refineries, and gas stations. These activities require billions of dollars and special licenses from not just the local government but also international agencies due to climate regulatory violations. This sector has one of the least new entrants among all businesses.
Phillips 66 Bargaining Power of Suppliers
- Supplier Dependence – E&Ps
There are two types of supplier in Phillips 66 business model. The first one is the Exploration and Production companies that produces crude/brent oil and LNGs which are then transferred to refineries. The bargaining power of suppliers in this case is high as these are large oil giants also complying with multiple local and international regulations to ensure compliance. Acting against any requirements might lead to penalties or even loss of licenses.
- Acting as own Supplier
The second kind of Supplier in Phillips 66’s business model is the gas stations which sells petroleum products to end users. Phillips 66 acts as its own supplier and use state of the art artificial intelligence and business analytics for inventory management.
- Supplier Audits
Phillips 66 ensures the highest level of integrity with immense regulation at hand and sensitive nature of business. The company conducts supply audits at various gas stations (being its own supplier). Also, Phillips achieves better inventory management because of self-supplier business model using data analytics.
- Global Demand Supply Mechanics
The overall oil and gas industry is dominated with a few major countries like US, KSA, Russia and Canada controlling large percentage of global output. The overall demand and supply is highly sensitive to interest rates as with the rise interest rates to counter soaring inflationary pressures in the wake of Russia-Ukraine conflict, demand is expected to drastically drop which decreased the future expected price for crude energy. Currently, FED is expected to hike the rate by another 25bps after 50bps hike by Bank of England and European Central Bank which led to decline in international energy prices.
Source: Statista (2021)
Phillips 66 Bargaining Power of Buyers
- Complex Pricing Mechanism
Fuel and Energy is the most easy to pass on to end users as the prices fluctuate on daily basis with international commodity prices (Crude, Brent and Arab lite). However, the prices charged by Phillips 66 and other selling companies are subject to exchange rate fluctuations, global aggregate demand (bpd), global political and economic scenario, regulatory restriction on prices, and inventory management (inventory gains and losses).
- Increased capacity utilizations amid soaring crude prices
According to Cronin (2022), Oil refineries and sellers are enjoying maximum profits in a period of excessively high commodity prices (especially energy). The gas prices also skyrocketed after the invasion of Ukraine by Russia. The national average gas prices cross USD 5 mark the first time creating a history of fierce inflation. The overall refining capacity of US (and the globe) has declined as people moved towards normality post pandemic. The Energy Information Administration (EIA) expects refineries to run at above 95% capacity utilization due to shortage of supply.
- Ability to pass on Cost-push inflation
Refineries like Phillips 66 earn by processing Crude/Brent oil and converting it into usable petroleum products. The profit margin is generally called Gross Refinery Margins (GRMs) which is tied to inflation.As the daily international oil prices increase, these are passed on to the end users and while it takes more or less same cost to process a single barrel of oil, these margins shrink or increase. Oil prices were operating at nearly 5x margins as compared to last year according to King (2022).
- Global Presence
Phillips 66 has a global presence with 264 MBD production on the West Coast (Ferndale, Billings, San Francisco, and Los Angeles), 531 MBD in the Central Corridor (Wood River, Ponca City, and Borger), 529 MBD on the Gulf Cost (Sweeny and Lake Charles) and 537 MBD in Atlantic Basin/Europe (Humber and Miro).
Source: Company Presentation – Investor Day (2022)
- Perks of Vertical Integration
Most global oil players benefit from vertical integration from exploration to refining to final transportation and distribution of oil. The end user has zero control over the prices as it is mostly government regulated. Having presence in middle and downstream provides Phillips 66 control over effective inventory management and have some pricing power.
Phillips 66 Threat of Substitute Products or Services
- Low Switching Cost
Since the product is absolutely identical, there is little to no switching cost. Also, there is extremely low perception in the mind of customers when it comes to loyalty with a single brand of fuel. As fuel is a necessity good for daily consumption, people don’t bother much about from where they get their fuel needs. Also, most employers these days provide for employees fuel costs which further decrease the need for product differentiation.
- A thrust for better alternatives
There is growing focus towards environmental protection and compliance with health and safety standards. Large oil giants are responsible for deterioration of environment on a large scale and the world is shifting its focus on reduced carbon emissions and renewable energy resources. Some better and environment friendly alternatives are hydro, nuclear (to some extent), and fossil fuels.
Source: IEA (2019)
- Moving toward Electric cars
Most modern countries are moving towards electric cars to become eco-friendly. Many governments are introducing new laws to incentivize shift towards sustainable mobility. According to Cornet, the European Union presented “Fit for 55” program, which aims to reduce greenhouse gas emissions by 55% till 2030. Governments are also introducing reduced taxes on EVs and installing energy stations to achieve global compliance.
- Climate change disruptions
Climate change has been the prime focus of today’s energy investing. As the human life harms all other life on earth and destabilize the core, people have reshaped their focus towards other means of energy. A large portion of these investment are bank financed. As per Disterhoft’s (2022) market watch, banks have to stop investing in coal expansion, oil explorations and direct them towards healthier renewable energy sources.
Source: IEA (2000-2040)
- Annual Financial Statements, Reports and Presentations (CY21 and 9MCY22), Company Website [Online], Available at: Phillips 66
- Fortune, (2023), Topic: Phillips 66 [Online], Available at: Fortune
- Forbes, (2022), Phillips 66 [online], Available at: Forbes
- The Wall Street Journal, Topic: Phillips 66 [online], Available at: Wall Street Journal
- Starr Spencer, (2021), Need for investment is critical for oil, gas industry: World Petroleum Congress panelists [Online], Available at: SP Global
- Brittany Cronnin, (2022), How a massive refinery shortage is contributing to high gas prices [Online], Available at: NPR
- Javier Blas, (2023), Oil Refining Margins Are Sounding the Alarm, Again [Online], Available at: Bloomberg
- Ben King, (2022), Refineries cash in as petrol prices soar [Online], Available at: BBC
- Sönnichsen, (2022), Distribution of crude oil export value worldwide in 2021, by country [Online], Available at: Statista
- Andreas Cornet, (2021), Why the automotive future is electric [Online], Available at: Mckinsey
- Tristan Bove, (2022), Fossil fuel companies like Shell and BP are raking in massive profits, and this could be just the beginning [Online], Available at: Fortune
- Jason Disterhoft, (2022), Banks have to stop financing oil expansion. If they don’t, their net-zero commitments are greenwash [Online], Available at: MarketWatch
- Dan DeLorenzo, (2023), Russia’s War on Ukraine Changed Global Oil Trade. Here Is What It Looks Like Now [Online], Available at: The Wall Street Journal
- Reuters, (2023), Oil falls as rate hikes loom, Russian flows stay strong [Online], Available at: Energy World – Economic Times
- International Energy Agency (2023), World total final consumption by source [Online], Available at: IEA
- International Energy Agency (2023), Total energy supply outlook by fuel and scenario, 2000-2040 [Online], Available at: IEA