Citi Has Concerns With Sunoco's Leverage, Coverage

Citi has started coverage of Sunoco LP (NYSE: SUN) with a Neutral rating and a $30 price target, saying the double digit yield is offset by above average leverage and thin coverage.

The brokerage said the leverage of Sunoco, a distributor of motor fuel products, currently stands at 5.2x on an adjusted basis, meaningfully above its long-term target of 4.0x–4.5x.

For the second quarter, Sunoco reported distribution coverage of 0.95x despite generating "wholesale margins above its normalized range and retail margins in the middle of its normalized range."

Despite the company passes the changes in crude prices to customers, RIN exposure remains a key question. Management has argued that Sunoco's RIN benefits are passed through to the customer.

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"We generally agree with management; however, we think the potential does exist for margin pressure next year if RIN prices drop to an average of $0.55 next year," analyst Faisel Khan wrote in a note.

"Our outlook is based on steady retail and convenience store merchandise margins and mean-reverting fuel margins of $0.06–$0.08/gal for wholesale and $0.23–$0.25/gal for retail," Khan noted.

Khan pointed that units of Sunoco have lagged the Alerian Index by 34 percent year-to-date on moderate distribution growth, higher leverage and coverage concerns.

Units of Sunoco closed Thursday's regular trading at $29.93.

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