Pump Up Your Income Stream with Gas Station Play

Combining this options strategy with this company’s high dividend yield could deliver 20% gains even if the stock stays still.

The crash in the price of oil has hit energy stocks hard with the SPDR Energy Select (SPDR) dropping some 25% and some individual names losing as much as 50% in just the past three months. Some investors are trying to bottom pick while that may play out over the long term it is high risk in the short term. At best it might just be dead money for next few months.

But there is one area of the energy industry that is reaping huge benefits; the gas stations. Large energy companies have traditionally spun off their weaker businesses to boost profit margins. While oil was above $100 per barrel it was the processing and gas stations, known as the “downstream” that got jettisoned.

Last year, several refineries went even further, spinning off the retail arms into individual stocks. Now as oil prices fall, those gasoline sellers are outperforming their parent firms.

Going Downstream for Income Stream.

CrossAmerica Partners (CAPL) is one the largest independent retailers of motor fuels and convenience stores in North America.  It was formed in 2012 as drop down from parent CST Brands (CST) which itself was formed from a spinoff of Valero (VLO) Cross America nearly doubled its size by merging with Lehigh Partners in August of 2014. It now delivers fuel to over 1,100 locations, including major brands such as ExxonMobil, Chevron,,Valero and Gulf stations and 7-11 stores. It owns more than 625 sites in sixteen states.

The company collects leasing fees for the properties and a percentage of sales. It also has contracts, typically 10 years, to supply fuel to the sites. This combination should provide stable cash making and leaves it relatively insulated to commodity price.

In fact the drop in gas prices is expected to lead to an increase in profits as driving volume is likely to increase and people have more and have extra dollars to spend at the attached convenience locations. It also has some exposure to real estate which has turned from a negative to a positive.

The steady and predictable earnings produced from these leases and contracts made it a perfect candidate to be structured as a Master Limited Partnership (MLP).   MLP’s are designed to be tax efficient by passing most of their earnings along to unit holders in the form of distributions. This usually results in a very attractive yield. CrossAmerica currently pays out $2.10 per share for a 5.5% annual yield.

MLP’s in general took a hit last summer when it appeared interest rates would move higher. But with yields around world now looking to stay low for the foreseeable future MLPs (and REITS) are coming back into favor.

As you can see shares jumped following the Lehigh merger and have been trending steadily higher as gas prices have plummeted. It is now forming a nice bullish flag suggesting there is further upside.

CAPL 010915

More Growth Ahead

The MLP structure, which is usually formed from spin off or drop down type actions described above, also benefits from the relationship with the parent company. It provides the company access to low cost capital which can fuel further growth.

In December CrossAmerica and parent CST agreed to jointly purchase 22 convenience stores in San Antonio and Austin, Texas from Landmark Industries. It was the third combined acquisition in less than three months. More deals are likely to come as the margin dynamics and remains an attractive asset in a consolidating industry.

The increase the density of its properties would improve margins, and an expand footprint creates leverage and diversification of scale.   This suggests that not only is its dividend secure but that it might actually increase. This is quite the opposite of some of the majors such as Seadrill (SDRL) which was recently forced to cut its distribution.

In a yield starved world investors will scramble for income producing securities. This could drive up the up the share price. Meaning the stock is set to deliver both capital gains and a steady income stream.

Covered Call to Boost Income

Remember you need to own the shares to collect the distribution. So while owning calls might provide leverage or stock price gains you forgo the yield. I want to employ a covered call strategy to further boost the income, and provide some downside protection. This is done by purchasing the shares and simultaneously selling call options to collect premium.

With shares trading around $39 one can sell the April $40 call for $2 a contract.

If the stock stays still the call will expire worthless and you collect that $2 of premium. One could then proceed to sell slightly out of the money calls on a quarterly basis.

If the stock were to merely stay still one would collect approximately $8 in option premium and $2.10 of distributions. This is $10.10 or a 25% annual return even if the stock does nothing.

Of course the shares are likely to move both up and down during the course of the year. But it is not difficult to adjust the strike price of the calls being sold to keep that income flowing.

Photo: Free the Image via photopin cc

— Steve Smith

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About the Author: Steve Smith