Refiners Gear Up for Earnings Bonanza

Another refiner exposed to crude differentials is Frontier Oil(FTO Quote). The Houston firm is expected to post record second-quarter earnings of $1.07 a share, up from 80 cents a share the same time last year. Earnings estimates for the full year are twice as high as in 2004, at $2.36 a share. At $28.58, the stock sports a 13 earnings multiple.

Still, Frontier Oil isn't the subject of much analyst enthusiasm. Deutsche Bank's Saunders recently downgraded Frontier to hold from buy, saying the shares are overvalued. Saunders said in a note that Frontier trades as if it were a takeover candidate -- but that no buyer is in sight. Maple Leaf Partner's Selser said that given its size -- 150,000 barrels a day -- "I don't think they are an attractive buy." (Deutsche Bank owns shares of the company and has an investment-banking relationship with it.)

On the other side of the phenomenal refining story are companies such as Tesoro(TSO Quote) and Sunoco(SUN Quote), which continue to profit from rising gasoline and distillates prices, or crack spreads, but aren't geared for heavy crude processing.

Sunoco made a conscious decision not to invest in heavy crude processing, betting that -- sooner or later -- heavy oil prices are going to increase and differentials will shrink back. The Philadelphia-based company, which operates five refineries in the U.S. with 890,000 barrels per day of crude oil processing capacity, is expected to post second-quarter earnings of $3.12 a share, essentially flat compared with last year's results.

Crack spread margins in the East Coast, Sunoco's territory, averaged $8.20 in the second quarter, down form about $13 in last year's second quarter, but up from the first quarter of 2005.

As for Tesoro, its shares surged 53% since the beginning of the year, though Wall Street is predicting lower second-quarter earnings of $2.44 a share, down form $3.11 in the year-ago period.

"Tesoro had record second-quarter earnings in 2004 due to exceptionally high refining margins in California," Gheit says. "It would be very hard to repeat that success."

Still, if Tesoro meets expectations for this quarter, it will earn half of what it made in all of 2004. To Sauders, Tesoro shares look relatively cheap at 10 times earnings.