Phillips 66 Q3 2023 Earnings Call Transcript

Presentation

[Operator]

Welcome to the third quarter 2023 Phillips 66 earnings conference call. My name is Caula, and I will be your operator for today's call. [Operator instructions] Please note that this conference is being recorded. I will now turn the call over to Jeff Dietert, vice president of investor relations.

Jeff, you may begin.

[Jeff Dietert, Vice President, Investor Relations at Phillips 66]

Good morning, and welcome to Phillips 66 third quarter earnings conference call. Participants on today's call will include Mark Lashier, president and CEO; Kevin Mitchell, CFO; Tim Roberts, midstream and chemicals; Rich Harbison, refining; and Brian Mandell, marketing and commercial. Today's presentation material can be found on the investor relations section of the Phillips 66 website, along with supplemental financial and operating information. Slide 2 contains our safe harbor statement.

We will be making forward-looking statements during today's call. Actual results may differ materially from today's comments. Factors that could cause actual results to differ are included here as well as in our SEC filings. With that, I'll turn it over to Mark. Thanks, Jeff. Good morning, and thank you for joining us today. We're pleased to report another quarter of strong financial and operating results. We continue to execute on our strategic priorities to increase shareholder value. Our achievements to date have enabled us to make significant progress toward the commitments we made

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

Made to shareholders a year ago at Investor Day. We're confident in our ability to exceed these commitments and we'll provide an update today. Slide four shows the evolution of our portfolio. We're much more than a Refining Company. We are differentiated by an integrated and diversified midstream, chemicals, refining, marketing and specialties portfolio that generates free-cash flow-through the economic cycles. Our global commercial supply and trading organization leverages our assets to generate incremental value. We continue to execute our strategy to increase more stable cash flows in Midstream. We see more growth opportunities as US natural gas and natural gas liquids production is expected to outpace crude oil. The demand fundamentals are strong as NGLs and petrochemical feedstocks remain the fastest-growing segment of liquids demand.

The DCP acquisition earlier this year strengthened our competitive position by integrating our NGL wellhead to-market value chain and has over $1 billion to mid cycle adjusted EBITDA. Our current synergy run-rate is on pace to deliver more than $400 million. Midstream stable cash generation covers the company's dividend and our sustaining capital. We'll continue to capitalize on our integrated and diversified portfolio to deliver results.

Moving to slide five. At our Investor Day in November 2022, we targeted $3 billion in mid cycle EBITDA growth by 2025, this included NGL wellhead to-market, Rodeo Renewed, Business Transformation and CPChem growth projects. Given the substantial progress employees across the company had made, we are raising the bar. We now expect to grow mid cycle adjusted EBITDA by $4 billion between 2022 and 2025, reflecting $1 billion increase from our original target. This includes additional value from business transformation, Midstream synergies and commercial contributions. We're increasing the business transformation target to $1.4 billion from $1 billion. We are enhancing our commercial capabilities to extract additional value maximizing return on capital employed and increasing refining market capture.

We're committing to higher shareholder distributions. Our new target is $13 billion to $15 billion between July 2022 and year end 2024, this is an increase from our original target of $10 billion to $12 billion. We will return over 50% of our operating cash-flow to shareholders. Lastly, we plan to monetize assets that no longer meet strategic long-term objectives. Proceeds from monetizing these non-core assets are expected to be more than $3 billion. We'll deploy the proceeds to advance strategic priorities, including accelerating cash return to shareholders.

Slide six shows progress on distributions to shareholders and improving Refining performance. We returned $6.7 billion through share repurchases and dividends since July 2022, representing over 50% of operating cash-flow during the same time period. Strong cash generation and disciplined capital allocation enabled us to exceed the pace to achieve the original $10 billion to $12 billion target before year end 2024. The increased target of $13 billion to $15 billion equates to 25% to 30% of current market cap. Our Board of Directors approved a $5 billion increase to our share repurchase authorization. This is in addition to the previous authorization, which had approximately $3.1 billion remaining as of September 30th.

Since 2012, the Board has authorized $25 billion in share repurchases. These higher distributions to shareholders will be supported by $4 billion of mid cycle adjusted EBITDA growth between 2022 and 2025. We are laser-focused on improving Refining performance. Third-quarter crude utilization of 95% was the highest utilization since 2019. Our refining system ran above industry average utilization rates for the third straight quarter. We continued to advance high-return low capital projects to improve reliability end-market capture.

We're executing 10 to 15 projects a year to improved market capture by 5%. Last year, we completed several projects that at 2%, the margin capture and we expect the 2023 projects to add a further 1.3%. We've reduced costs by $0.40 per barrel and we will achieve a $0.75 per barrel run-rate by the end of 2023. Our people have fully embraced business transformation and we're raising our target to a $1 dollar per barrel run-rate by the end of 2024. Slide seven provides an overview of the business transformation program. We're increasing our business transformation target to $1.4 billion comprised of $1.1 billion of cost reductions and $300 million of sustaining capital efficiencies.

The incremental reductions are $300 million in costs over half of which benefits Refining and $100 million of sustaining capital. We are on-track to achieve the targets this year and next. Slide eight summarizes our strategic priorities and enhancements. Last November, we announced six priorities to increase shareholder value. These were ambitious and consistent with investor feedback. Our achievements to date, provide us with the confidence that we will not only meet these targets but will exceed them. So with the support of our Board, we're increasing our commitments to shareholders. Delivering on the commitments will generate additional free-cash flow from our integrated and diversified portfolio positioning us to increase cash returns to shareholders now and in the future.

Now I'll turn the call over to Kevin to review the third-quarter financial results.

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Thank you, Mark. Adjusted earnings were $2.1 billion or $4.63 per share. The $9 million decrease in the fair-value of our investment in NOVONIX reduced earnings per share by $0.02. We generated operating cash-flow of $2.7 billion, including a working capital benefit of $285 million, in cash distributions from equity affiliates of $361 million. Capital spending for the quarter was $855 million. We returned $1.2 billion to shareholders through $752 million of share repurchases and $465 million of dividends. We ended the quarter with a net-debt to capital ratio of 33%. Annualized adjusted return on capital employed of 17%.

I'll cover the segment results on slide 10. Additional details can be referenced in the appendix to this presentation. This slide highlights the change in adjusted results by segment from the second-quarter to the third-quarter. During the period, adjusted earnings increased $304 million mostly due to improved results in Refining partially offset by lower results in Chemicals and Midstream as well as higher corporate costs. In Midstream, third-quarter adjusted pre-tax income was $569 million, down $57 million from the prior quarter. The decrease related to our NGL business and it was mainly due to the timing of cargo freight costs as well as higher utility integration and employee costs. These impacts were partially offset by higher margins from increasing commodity prices. Chemicals, adjusted pre-tax income decreased $88 million to $104 million in the third-quarter. This decrease was mainly due to lower margins. Global O&P utilization was 99%. Refining third-quarter adjusted pre-tax income was $1.7 billion up $592 million from the second-quarter. The increase was primarily due to higher realized margins and strong utilization.

Realized margins increased due to higher market crack spreads partially offset by inventory hedge impacts, lower secondary product margins and lower Gulf Coast clean product realizations. Inventory hedges and losses from secondary products mainly reflects the impact of rising crude prices during the quarter. These market factors negatively impacted capture rate which was 66% in the quarter. Marketing and Specialties adjusted third-quarter pre-tax income was $633 million, a slight decrease of $11 million from the previous quarter, reflecting continued strong margins. The Corporate and Other segments adjusted pre-tax costs were $59 million higher than the previous quarter. The increase was mainly due to higher net interest expense-related to acquiring DCP Midstream's public common units on June 15th, as well as employee-related expenses. Our adjusted effective tax-rate was 24%. The impact of non-controlling interest was improved compared to the prior quarter and reflects a lower non-controlling interest since our acquisition of DCP Midstream public common units. Slide 11 shows the change in cash during the third-quarter. We started the quarter with a $3 billion cash balance. Cash from operations was $2.4 billion, excluding working capital. During the quarter, we funded $358 million of pension plan contributions, which comes out of cash from operations. There was a working capital benefit of $285 million, Year-to-date working capital is a use of around $2 billion, primarily relates to inventory, that we expect to mostly reverse by year end. We received $280 million from asset dispositions, mainly reflecting the sale of our interest in South Texas Gateway Terminal. Total proceeds from asset dispositions of $370 million through the third-quarter of 2023.

We funded $155 million of capital spending. This includes $260 million for the acquisition of a US West Coast Marketing business. We repaid approximately $500 million of debt, mostly reflecting lower borrowings on DCP Midstream's credit facilities. Additionally, we returned $1.2 billion to shareholders through share repurchases and dividends. Our ending cash balance was $3.5 billion. This concludes my review of the financial and operating results. Next I'll cover a few outlook items.

In Chemicals. We expect the fourth-quarter global O&P utilization rate to be in the mid 90s. In Refining we expect the fourth-quarter worldwide crude utilization rate to be in the low 90s and turnaround expenses to be between $90 million and $110 million. We anticipate fourth-quarter Corporate and Other costs to come in-between $280 million and $300 million. Now we will open the line for questions, after which Mark will make closing comments.

Questions and Answers

[Operator]

Thank you. We will now begin the question-and-answer session. [Operator Instructions]. Neil Mehta from Goldman Sachs. Your line is now open. Please ask your question.

[Neil Mehta, Analyst at The Goldman Sachs Group]

Thank you. Good morning, team. This was very helpful, particularly the commentary on the strategic priorities. And so I wanted on the bullet about maintaining financial flex -- strength and flexibility, you talk about. Moving from $3 billion to $4 billion of EBITDA growth and greater than $3 billion of non-core asset dispositions. So I was wondering if you could take some time to talk about what are the key drivers of the move from $3 billion to $4 billion and then as you identify non-core asset sales what are some of the parameters that you're evaluating as we think about what assets could be part of that discussion.

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

All right. Neil, good morning. This is Mark, when you think about the additional $1 billion increments and EBITDA that really comes from the enhanced business transformation work that we're going to do as well as the additional synergies we intend to capture from the DCP rollout supplemented by the enhanced capability and and value-creation that we're going to see out-of-the commercial organization.

Regarding asset dispositions, this fundamentally is about creating focus and redeploying capital. We're not going to comment on specific assets today, but we generally have some high-performing assets that may be more valuable to others and maybe more strategic to others and we're going to explore that. And if we can capture value greater than our whole value, we'll do so. But the bottom-line is this, that we're committed to managing the portfolio to drive focus that's consistent with our strategy and simplifying our business.

[Neil Mehta, Analyst at The Goldman Sachs Group]

Okay, all right, thank you. And then on the quarter itself, the Refining capture rates probably came in a little bit lower than was expecting, was that just timing effects with crude or is there anything else that we need to keep in mind as we think about what it all means for 4Q and 2024?

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Yeah, Neil, it's Kevin. Let me just make a couple of comments on that. So we did have a few things moving around in the quarter that impacted capture to the negative. And so we saw our regional price differentials that differed from the benchmark that we use in terms of the market crack. And so those worked against us that -- during the quarter. For example, the Chicago market which became disconnected from the Group and we move product into that market. We also had an impact from the effect of inventory hedges in a rising price environment. So, that component of this all showed up in in the Central Corridor, we expect $100 million to $150 million of that to come back-in the fourth-quarter as we see the physical gain on those barrels that offsets the paper loss that we took in the third-quarter.

[Neil Mehta, Analyst at The Goldman Sachs Group]

That's really helpful. Thank you, Kevin.

[Operator]

Thank you, Neil. Roger Read from Wells Fargo Securities. Please go-ahead, the line is open.

[Roger Read, Analyst at Wells Fargo Securities]

Yes, thank you and good morning and appreciate the changes here, improvements I should say overall. The question I have to start with, you mentioned 3 billion of targeted disposition proceeds, but you've upped your overall EBITDA target. So I'm just curious, EBITDA is associated with those ops, if any, and what does that imply about the sort of extra growth and the overall performance if we raised EBITDA target?

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Yeah, Roger, it's Kevin. So just for clarity on that point. The growth that we laid out there, the incremental billion is excluding the impact of dispositions. And so clearly dispositions will reduce EBITDA. We're not giving any guidance on that at this point in time. I mean, you can come up with an assumption on, where you may think, we'll be selling assets and make them multiple, assumption from that. But we're not giving any specific guidance on the dispositions other than we expect to realize in excess of $3 billion.

[Roger Read, Analyst at Wells Fargo Securities]

Okay, I assume, based on the idea that there's always a larger pool of assets that could be sold, and that's why it's unclear right now what the net impact would be.

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

That's right. We'll do what makes the most sense for us.

[Roger Read, Analyst at Wells Fargo Securities]

Okay. And then a follow-up to Neil's question on refining margins, but maybe looking-forward rather than back. This shift here where diesel margins are well-above gasoline, I think about generally a diesel yield improvement for you versus industry-standard. Is that the right way to think about Q4 here? Or is anything else that we should be paying attention to that work against that?

[Rich Harbison, Senior Vice President, Refining at Phillips 66]

Yeah, Roger. This is Rich. And as we've indicated over the years, [Indecipherable] is shifted towards distillate production. There's nothing that's changed on that other than some of our flexibility to move back-and-forth between gasoline and distillate. So we still maintain a kit that is favorable for distillate margins in the market.

[Roger Read, Analyst at Wells Fargo Securities]

Great, thank you.

[Operator]

Thank you Roger. Manav Gupta from UBS. Your line is now open. Please go ahead.

[Manav Gupta, Analyst at UBS Group]

Good morning, guys. My question here is, and I know kind of answer -- most likely you will not answer it, but we get this question a lot of very strong result on the West Coast again. A weaker defloor in price environment. Is there a possibility you could let Rodeo run a little longer and capture higher margins and then just wait for LCFS to rebound later in 2024? So is there a way you could -- is there a possibility you could move the timing of start-up of Rodeo to better coincide with higher LCFS prices and in the meantime, make more money on the West Coast?

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

I'll start that answer and then maybe give a -- hand it over to Brian here to add a little color on the -- so at Rodeo, maybe I'll just step-back a little bit and level-set on everything that's going on at Rodeo here. So Rodeo there was two NGOs that filed suit against Contra Costa County alleging that the Rodeo renewed project Environmental impact Report insufficiently address project impacts. The ruling for this suit was received earlier this year. And actually there were several issues in our favor, but there were three issues identified as insufficient and the county certified EIR. The judge explicitly allowed construction to continue with the project while contract caustic count the works through and addresses the three inefficiencies that were identified in the EIR. The County actually posted that revised EIR update on October 24th. That initiated a 45-day public comment period. The County will respond to the comment and then likely issue a final EIR early 2024. So right now, our project construction remains on-track to complete in the first-quarter and we're committed to that timeline.

However I want to add, we have options. We've talked a little bit about this, but let me be a little bit more explicit on it on this one. There is flexibility to continue to crude operation in the event that circumstances beyond our control, prevent the start-up of the project. I want to say, we are committed to the start-up of the project. But if for some reason, we don't have that authority, we will continue to operate in crude operation. This is a staggered conversion process. In the past, we've called this a ramp-up plan. So that creates natural flexibility for us. It allows us to continue process crude or it allows us to start-up the Rodeo renewed project which I want to remind people, that's equivalent to removing the mission of a million cars from the roads.

So we remain pretty confident. We remain confident, I should say that we will start-up the operations of Rodeo Renewed at the end of the first quarter. And we're focused on executing that conversion plan. But we have this planned flexibility and we'll continue to process the crude oil, if necessary. Now the outlook on the market and what's your -- the other part of your question is really this outlook of LCFS and this relationship. I'm going to hand that over to Brian, who can explain that relationship a little bit more, it's more complicated than just the LCFS credit program.

[Brian Mandell, Executive Vice President, Marketing and Commercial at Phillips 66]

Hi Manav, it's Brian. So when you think about the RD margins, you have to think about not just the credits, but the price of the feedstock, the price to the RD when it comes to-market. So even though we've had lower LCFS and RINs, we've had these distillate prices that have outrun soybean prices in fact soybean prices are off. We have more low CI feedstocks that are making their way into the US. Kinder Morgan pipeline is allowing RD on their pipelines now. So that means more reach of RD into the California market for consumption.

We've had domestic demand is expected to continue to grow, we've converted all our stations. We're seeing RD demand in Oregon and Washington, and continue to mature as those programs mature. We've been seeing RD moving to states like Texas and Illinois and Colorado where they have tax abatement and tax reduction programs. I think, traders believe that the US harvest is looking good. And if you remember last year in Argentina, they had a drought and this year we expect a more normal crop level condition. And then finally, you know what, a lot of traders and folks have on their minds is SAF renewable jet and as those incentives make it -- make more sense to produce renewable jet, you'll see some of this RD that's being produced move away and become SAF.

So we're expecting about 200,000 barrels a day of RD at the end of this year, but we'll see some of that RD in the future become renewable jet.

[Manav Gupta, Analyst at UBS Group]

Thank you. That was very detailed and I think the key is the flexibility part which you expressed. My quick follow-up here is in your opening comments, you said you are more than a refiner. And yes, you have a very strong marketing and specialty business. Can we have some visibility on the near and medium-term, how that business is looking both in Europe and in the US iIf you could elaborate a little bit on the near-term outlook for that business? Thank you.

[Brian Mandell, Executive Vice President, Marketing and Commercial at Phillips 66]

Hi Manav, it's Brian again. So I'll say, we had a really strong quarter in the third-quarter. In fact it was our fourth best quarter on record. Q2 and Q3 are usually stronger seasonally than Q1 and Q4. And as you remember starting 2019, we've added a lot of retail to retail joint-ventures in the US were up to 700 retail stores now and they performed really well this quarter. We're also focused on what we've the call the last mile strategy internally, which is getting Rodeo complex RD to the market directly to the market and getting that value chain, value in Phillips 66. We've seen product volumes in our business is relatively flat, but we continue to optimize those volumes through a higher-value distribution channels. So as a reminder, we have a wholesale business, we have a branded our franchise business. And then we have a retail business. And the branded or franchise business and the retail business, those margins are significantly higher than the wholesale margins. And then finally on the lubricant space oil business, it continues to perform really well. So I'd say for Q4, we think that earnings will be in-line with our normal Q4 at mid cycle expectations.

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

Manav, I would just add-on the top is Brian and his team have been just quietly and consistently executing their last mile strategy and this opportunity to invest in fairly small amounts of capital to get very-high returns and to enhance our exposure to retail margins in a very creative way. And it's you're seeing the value show-up and you're seeing a consistent performance there that we really appreciate.

[Manav Gupta, Analyst at UBS Group]

Thank you.

[Operator]

Thank you, Manav. Doug Leggate from Bank of America. Please go-ahead, your line is open.

[Doug Leggate, Analyst at Bank of America Merrill Lynch]

Thanks, good morning, everybody. And appreciate all the updates this morning. Mark, I wonder if I could try the disposal question again. I just wanted to be clear, where you guys are in this process. Have you internally identified the assets for-sale? I just wanted to be clear on that and maybe what your expectations are of timeline, I don't think that's been touched on and I've got a quick follow-up on Refining.

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

The answer to the first question is yes. The answer to the second question is, it really is a function of the market appetite. We understand the value that these assets provide us and they provide good value. So we've got to find willing buyers that have a greater affinity for those assets than we do. And so we're not in any rush. We're not performing any fire sale, but we believe there's opportunities out there in the market today to execute that plan.

[Doug Leggate, Analyst at Bank of America Merrill Lynch]

Thank you. My follow-ups on refining and I'm going to ask a little forgiveness on this one at a time. But I think you know where our position has been on the strength of the Refining sector, the Refining cycle going-forward volatile as it may be. And we've kind of challenged you guys a few times on what you're assuming as the mid cycle sustainable EBITDA for your business. So I'm curious if you could walk us through an expeditious way as possible given what on this call. What -- how about the moving parts are behind the contribution of Refining to the new mid cycle targets. The capture is one part, but you've been running ahead -- when your facilities have been running, you've been running ahead for quite a while now. And similarly your utilization rates were not great, now better is that a big factor? I'm just wondering what the key kind of moving parts on the assumptions and what the contribution is from Refining and your new targets. Thank you.

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Yeah, Doug, let me. Try and unpack some of that. So our our mid cycle refining EBITDA as we laid out at Investor Day was $4 billion. That reflects a historic average assumption around where the market will trade and that's -- we haven't changed that assumption. What we are doing is increasing our ability to capture value across that system through lower costs and increased contribution from our commercial organization and the EBITDA uplift they provide -- that organization provides the system will predominantly show-up in Refining. It won't [Technical Issues] Refining, but it'll predominantly show-up in Refining.

We haven't tried to make a call on if we actually think that going-forward, mid cycle margin environment is stronger now than it has been historically. Clearly, we've been in above mid cycle conditions for most of this year and last year. And that's all that we view that as upside. So we're still pretty optimistic for the near-term, probably above mid cycle in the near-term with our fundamental view of mid cycle hasn't changed. But our belief in terms of what that business can do in a mid cycle environment is going up with the enhancements we're putting in-place.

[Doug Leggate, Analyst at Bank of America Merrill Lynch]

Kevin, has your utilization assumptions changed?

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Well, not really because if you think back to where we were running for the years prior to the pandemic. And then we took a hit during the pandemic, we're really assuming we get back to that kind of level of operations that we were at before. And so some of the things -- some of the Refining performance priorities that Rich has talked about in the past that were outlined at Investor Day a year-ago, we did not include those and as increases to mid cycle. We view that as we have to deliver on these to get back to that level of operations that we've historically been at.

[Doug Leggate, Analyst at Bank of America Merrill Lynch]

Terrific, thank you very much.

[Operator]

Thank you, Doug. Ryan Todd from Piper Sandler. Please go-ahead, your line is open.

[Ryan Todd, Analyst at Piper Sandler Companies]

Good, thanks. Maybe if I could -- a question on the shareholder return target. Thanks to the positive update there. I mean, at the midpoint, it implies roughly $1 billion a year buyback, a quarter through year end 2024. Which is a nice step-up from what we saw during the third-quarter are pretty close to the pace that you've had year-to-date in 2023. And what has been, certainly above mid-cycle environment. So can you maybe talk about your confidence in what drove your confidence in being able to lean into the shareholder return target in that way. Maybe what it implies in your view of the outlook from here And on the -- so we think you've been above pace on your prior mid cycle target has been, above mid cycle. Should we think about the same way or we continue to stay above mid cycle in 2024, you will drive towards the upside or beyond and that type of target?

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

Yes, Ryan, this is Mark. Glad to answer that question. To answer your last question, the answer is yes. If we are for outperforming -- our desire is to hit the high-end of that target and we've provided the flexibility in the event that there is less cash available because of market conditions. We can pull-back a little bit. Another thing I would point out is our $3 billion in asset dispositions, we have not factored that cash into the $13 billion to $15 billion. So there is another level of assurance there that we can hit that. And we really are focusing on the things that we can control. As you look at the business transformation we see those numbers, we see the reality of those numbers and we can capture that and use that value to drive those returns. And we also see line-of-sight to the additional increments of EBITDA, the $4 billion that's coming into play. And of course that, that could be impacted by market as well but when you factor all those things in the risk of underperforming is fairly muted. So we've got a high-level of confidence that we can deliver.

[Ryan Todd, Analyst at Piper Sandler Companies]

Okay, perfect. That's that's very helpful. And then maybe, just a question on the midstream. You've had a little bit of time now with a consolidated position there, DCP under your belt at this point. Synergies have moved a little bit higher from 300 to 400. Can you talk about how you view the opportunity set there, both in terms of what you're seeing in terms of your ability to drive commercial improvements there and maybe incremental growth down the line?

[Tim Roberts, Executive Vice President, Midstream at Phillips 66]

Yeah, sure, Ryan, this is Tim. So, yeah, great question. Glad you asked. It's like anything else, business transformation and I'll talk about that because business transformation, we started that process and as we got into it, we just found more. We're doing the same thing with the DCP integration. So as we brought this thing together. And by the way, we won't be complete with the integration, we'll get all the IT stuff done by the end-of-the first-quarter and I think it's important to say that because once that's done, in the end-of-the first-quarter, one, we can get some redundancies and people that will move away in supporting two different systems. The other is our commercial team and our ops team will all be reading off the same screens, single-source of data, it will all be one versus trying to look at two different systems and trying to make some decisions there. So we think the real catalyst for optimization is going to happen -- or further optimization will happen in that 1Q. Probably worth giving you an example here, on the commercial side. So we're really excited about what -- this venture and putting it together, really excited about it. And we also think the as we've gotten into it. As I mentioned, we've really felt like we're finding more-and-more as we go. An example I want to give you is one that just came out a couple of weeks ago for us where commercially, we were able to move barrels. I won't put any names in there we were able to move barrels off one pipe, put it onto another pipe and allow more volume to go on the pipe, we moved off of, and that net impacts, an additional $10 million a year for us.

So we could not have done that if we were two separate entities. So, yeah, are we believers, yes. And do we think there's more there, yes. And are we encouraged once we get past the first-quarter about there being more opportunity, absolutely.

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

Yeah and I'd like to put another example out there, Ryan. That last week, a group of us visiting the Sweeny Complex and we got to stopped by the control room that operates all of our fractionators. And I asked a couple of frontline operators, how they felt integration was going and they were sad because they see the ability to improve their ability to perform, they see it in Real-time. They said we can run at harder rates because we get better information, there's greater collaboration. They can run without concern of surprises coming at them. And so the whole mindset around business transformation, synergy capture, being more competitive has evolved, all the way to frontline. These folks want to win and they want to figure out every day how to do better and how to drive more synergies and capture that deliver value. So it's real and it's out on the front lines.

[Ryan Todd, Analyst at Piper Sandler Companies]

Thank you.

[Operator]

Thank you Ryan. Paul Cheng from Scotiabank. Please go-ahead, your line is open.

[Paul Cheng, Analyst at Scotiabank]

Thank you. Good morning, guys.

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

Good morning, Paul.

[Paul Cheng, Analyst at Scotiabank]

Two questions, good morning, a couple of questions. Marketing, the business seems like continue to do better than expected in a number of quarters, you've been adding [Indecipherable] and everything. So we looked at that, you're basically what consider mid cycle have a structural improvement because of the way to how you guys -- maybe be changing the way how you [Indecipherable] to the asset. And if it is the case, what is the new good base that we can assume?

[Rich Harbison, Senior Vice President, Refining at Phillips 66]

Yeah, Paul. What I think you're asking is you're applauding the good performance you've seen in the marketing group and it continues to increase as Brian and

His team execute their strategy and you're asking is there a reset in the mid cycle, performance of the marketing business, is that the question?

[Paul Cheng, Analyst at Scotiabank]

That's correct. That's correct. Because, I mean that I think historically that you're sort of of like oh mid-cycle is 400 million a quarter. But you certainly have done much better than that in the past two years. I think that one quarter, you can say or maybe the [Indecipherable] but it seems like it's pretty consistent that you guys have been performing better. I just curious that if it's structurally that the business is stronger today as you add more retail station and everything for that this is truly, it's just the market condition is better much better-than-average.

[Brian Mandell, Executive Vice President, Marketing and Commercial at Phillips 66]

Paul, this is Brian. I would say we did raise the mid cycle a couple of years ago and we'll continue to watch it. And if we need to raise it again we will. But obviously the business is performing better and we're proud of the business performing better, we're going to continue to look for opportunities to add to the last mile strategy in some of other initiatives. So as we see that value, hitting the bottom-line, we'll indeed at some point raise mid cycle.

[Paul Cheng, Analyst at Scotiabank]

So, Brian, that you don't feel comfort about that we have seen enough of the improvement, saying that, mid cycle is that indeed that is now even better than what you had in mind the couple of years ago?

[Brian Mandell, Executive Vice President, Marketing and Commercial at Phillips 66]

I'd say, keep watching the bottom-line. You'll see the dollars there. And when we feel comfortable, we'll move to mid cycle up.

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Yeah, Brian never lacks confidence.

[Paul Cheng, Analyst at Scotiabank]

Okay, fair enough. And that maybe this one is for Rich. Rich, can you share with us that what's the Phillips 66 turnaround activity look like for next year? You said comparing to this year what is going to be higher, lower or about the same and also what's your view about the industry turnaround activity for next year? Thank you.

[Rich Harbison, Senior Vice President, Refining at Phillips 66]

Yeah, Paul. I appreciate the question. We generally give that guidance out fourth-quarter. And so standby for that outlook on the fourth-quarter.

[Operator]

Thank you, Paul. John Royall from JPMorgan. Please go-ahead, your line is open.

[John Royall, Analyst at JPMorgan Chase and Company]

Hi, good afternoon and thanks for taking my question. So my first question is on the net-debt target you had guided to hitting the top-end of your range on leverage by year end. It's pretty modest tailwind from working capital in 3Q and Kevin mentioned you're catching-up and get most of that wanting to build back in 4Q. Do you need any help from price to hit that working capital number or could price conversely be a headwind that prevents you from getting it all back? And then does the worsening environment that we've seen here in 4Q in Refining potentially impact your ability to hit that target?

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Yeah, I mean, John, the market environment will impact profitability, it'll impact cash generation. But the bulk of the working capital benefit we expect to see in the fourth-quarter will be driven by inventory impacts and that's pretty solid in terms of that impact. So while there will always be other parts moving around in this equation. I feel pretty confident that the top-end of that targeted range is will be around about there at the end-of-the year. I'm not too concerned by that.

[John Royall, Analyst at JPMorgan Chase and Company]

Okay, great, thank you and then. I was just hoping for your latest views on WCS differentials. You should get some tailwinds from the widening we've seen here in 4Q, but where do you think the differential goes from here, particularly as we get closer to the start-up of TMX, although there's some debate over the timing there, but just any thoughts on WCS as we head into next year would be helpful.

[Brian Mandell, Executive Vice President, Marketing and Commercial at Phillips 66]

Hey, John, it's Brian. So like you said that WCS dips are very wide, minus $25. Now that's a benefit to us, we're the largest importer of Canadian crude. Nearly 500,000 barrels a day. The reason the barrel -- the reason it's wide is because you have more production than you have pipeline egress. And you also have the diluent blended into starting in September into the crude which adds swells volume. We would expect to receive a depth remains seasonally wide with more barrels than egress as traders also sell barrels to meet their year end inventories.

TMX has announced the start-up in April, we'll take them at their word. Currently, we don't think the pipeline will run at full capacity. But if you take a look at the forward curves currently, Q2, Q3 average is about minus $15 and that's about where we think it might it end-up.

[John Royall, Analyst at JPMorgan Chase and Company]

Thank you.

[Operator]

Thank you, John. Jason Gabelman from Cowen and Company. Please go-ahead, your line is open.

[Jason Gabelman, Analyst at Cowen and Company]

Hey guys, thanks for taking my questions. The first one's on Refining capture and we've seen co-product headwinds continuing now for a second quarter, last quarter was was a pretty high headwind. And then this quarter was even higher. And the oil price moving up obviously impacts the co-product headwind. But I was wondering what else is going on in that bucket if you could give us some visibility into that. And if you take any of that is structural in nature.

[Rich Harbison, Senior Vice President, Refining at Phillips 66]

Jason, this is Rich, you're asking about the co-product bucket? Yeah, the secondary products.

[Jason Gabelman, Analyst at Cowen and Company]

Secondary products, yeah. Yeah, so the primary -- in Refining that primary mover there is petroleum coke. Right, that's the product that generally drives that secondary product margin for us and it and generally lags behind crude pricing, right. And it's tied to the coal markets that can pressure it up for pressure down based on supply-and-demand requirements there. The other subtle component that plays into secondary products force is NGL pricing. And that's it's bigger in some markets than others for us, but it certainly does play into it. And that's been depressed for some period now and that's our outlook continues to not be real strong on NGL pricing on the forward curves.

The balance of the secondary products which are fuel oil intermediates and some other products that probably aren't worth-mentioning. Those have been relatively flat, really over the period. So we don't see - so we see those those coke and NGLs as the primary movers right now for us in that area. Got it, thanks. And my follow-up is on the $3 billion divestment target and not really where that's going to come from but use of proceeds. You mentioned in the earnings press release that those proceeds will be deployed to strategic priorities including returns to shareholders. But I was wondering if there is a desire to use some of that cash to continue to grow and just kind of in broad strokes, what type of growth you would prioritize.

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Yeah, thanks, Jason. The cash that we might receive from those asset dispositions will be will be allocated consistent with our premise capital allocation process that always includes our growth elements. There are things that we can accelerate in our growth agenda. We can look at that, but certainly also would be a factor is opportunities around our balance sheet. And then, opportunities to hit the high-end of our cash return to shareholders' target. So, it's all-in play just like any dollar of cash that we would that we would turn it over to Treasury.

[Jason Gabelman, Analyst at Cowen and Company]

Got it, thanks for that color.

[Operator]

Thank you, Jason. Matthew Blair from Tudor, Pickering, Holt. Your line is now open. Please go-ahead.

[Matthew Blair, Analyst at Tudor, Pickering, Holt and Company]

Hey, good morning. Thanks for taking my questions, first one is on the chem side. Can you talk about some of the dynamics in the [Technical Issues] cleaned up. A little bit here, but what's your margin outlook for both the US and international heading into Q4? I think [Technical Issues].

[Operator]

Hi, Matthew, unfortunately your line is breaking up, so we will have to move to the next question. If you'd like to rejoin the queue and potentially try dialing back-in.

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Yeah, we heard the first part, so Tim is going to take a shot at the first part around PE margins and inventories.

[Tim Roberts, Executive Vice President, Midstream at Phillips 66]

Yeah, let me do that. Sorry Matt with the break up there. I got the front-end of it. And so I can take a wild guess on the back-end, but that probably wouldn't go well.

So from [Indecipherable] standpoint, look, it feels like a little bit of a broken record. We still have a supply-demand imbalance. Clearly, China, Asia is not where we'd like it to be. Over-time, we expect that to come back around, but you're going to have to see correction and the new capacity that's coming on-board, coupled with demand picking-up. So we do think that's going to be hard to see at least through 2024, but to your point. I mean, when you have things like we've seen a little bit of improvement on polyethylene, seen a couple of price increases which has been good. I don't know if they're sustainable, but nonetheless, they've come through, which has helped. And we have seen where inventories coming off slowly, but coming off. So from that standpoint, there is a little bit of I would say constructive, but we know that balance has got to get fixed. Now the one thing that I think is really important we stress here is that the CPChem kit and their assets, 96% of their assets are utilizing advantage feedstocks. So while there may be a lot of pain in the chemical space, those that are leveraging advantaged feedstocks are doing okay.

We'd love to be doing a lot better, but they're doing okay. Our assets with CPChem are running hard as well as probably other competition using Lightspeed in the US Gulf Coast and in the Middle-East. But those that are using naphtha in higher-cost regions are probably challenged at this point. Our teams are running hard, running well taking advantage and are well-positioned to actually benefit from this low-margin environment because of the feedstock we're in. So with that, we still think, though, there some more left to do with regard to getting the supply-demand balance where it needs to be, but if we can continue to see some green shoots, like the GDP that we saw earlier this week. Maybe you put a couple of those together, we can start moving that forward.

[Operator]

Joe Laetsch from Morgan Stanley. Please go-ahead, your line is open.

[Joe Laetsch, Analyst at Morgan Stanley]

Hey team. Thanks for taking my questions. So I wanted to just start on the demand-side. So recognizing the theory demand, there has been very volatile. Could you just share what you're seeing in your system across gasoline, diesel and jet? And then if possible just your outlook for the remainder of the year, realizing that it's really volatile right now. Thank you.

[Brian Mandell, Executive Vice President, Marketing and Commercial at Phillips 66]

Hey, Joe, this is Brian. Let me take a stab at that. In the US, inventories remain low for distillate 17% under Five-Year averages. Gasoline has come back up now close to Five-Year averages. So, maybe starting on the distillate side cracks are now in the mid to-high $20 range. When adjusted in, US Gulf Coast, New York and in Europe. Be reminded European refiners need distillate cracks at higher levels because of the higher net gas price to incentivize production. We're seeing a distillate demand globally at about 2% higher than last year. In the US, we're starting -- see demand a little bit off, although we've been watching the manufacturing sector and we think it's probably bottom truck tonnage index has begun to rebound as an example. So on our outlook for diesel, we'd say it's supported from here with the low inventories and potential shortages in Europe, kind of, as a reminder, this is your first year without Russian distillate supplies. So we'll have to watch that as well. And on the gas, gas, you know. Gas has been coming along for ride as refiners have produced continue to produce diesel with the strong diesel margins. We've also had butane blending start which has increased the volume of gasoline and the summer is kind of been devoid of any hurricane issues we have seen especially on the Gulf Coast, we started to see plans cutting FCC units. So we think that will be a help clearing up Gasoline. On the demand-side we're seeing global gasoline, 2% over Year-over-Year, and particularly strong, Asia and Middle-East, Europe about flat, US demand seems to be about flat too. Latin-America has been really strong about 5% over last year. So on the on our outlook for gasoline, we say demand are relatively flat through the end-of-the year as the markets work to clean-up some of the gasoline supply.

[Joe Laetsch, Analyst at Morgan Stanley]

Got it, thanks. Appreciate your response on that. I just wanted to ask on the dividend, so we've -- it is good to see the increase in the payout target. We've touched on the buyback a bit. Could you just remind us how you're thinking on dividend growth from here?

[Brian Mandell, Executive Vice President, Marketing and Commercial at Phillips 66]

Yeah, our position there is consistent. The secure growing dividends, we've grown the dividend every year since then. And that's not going to change.

[Joe Laetsch, Analyst at Morgan Stanley]

Great, thanks. Appreciate it.

[Brian Mandell, Executive Vice President, Marketing and Commercial at Phillips 66]

You bet.

[Operator]

Thank you, Joe. This concludes the question-and-answer session. I will now turn the call over to Mark Lashier for closing comments.

[Mark Lashier, President and Chief Operating Officer at Phillips 66]

Thank you. And thanks to all of you for your questions. Our integrated and diversified portfolio continues to perform extremely well and it creates unique competitive advantage. Our strong performance and confidence and execution drives us to increase several of our the original commitments in our pursuit to achieve superior returns for our shareholders. We will return $13 billion to $15 billion to shareholders by year end 2024. We'll reduce Refining operating costs by $1 per barrel. We'll capture over $400 million in Midstream synergies and will deliver $1.4 billion of cash savings by year end 2024. We'll monetize over $3 billion of non-core assets and we will enhance our commercial capabilities, generating additional earnings. Our plans are ambitious. We're raising the bar and continuing to reward shareholders now and well into the future.

[Kevin Mitchell, Executive Vice President & Chief Financial Officer at Phillips 66]

Thanks Mark. If you have any additional questions, please call over me. We appreciate your participation on the call today. Thank you

Participants

Corporate Executives

• Jeff Dietert, Vice President, Investor Relations
• Mark Lashier, President and Chief Operating Officer
• Kevin Mitchell, Executive Vice President & Chief Financial Officer
• Rich Harbison, Senior Vice President, Refining
• Brian Mandell, Executive Vice President, Marketing and Commercial
• Tim Roberts, Executive Vice President, Midstream

Analysts

• Neil Mehta, The Goldman Sachs Group, Inc.
• Roger Read, Wells Fargo Securities
• Manav Gupta, UBS Group AG
• Doug Leggate, Bank of America Merrill Lynch
• Ryan Todd, Piper Sandler Companies
• Paul Cheng, Scotiabank
• John Royall, JPMorgan Chase and Company
• Jason Gabelman, Cowen and Company
• Matthew Blair, Tudor, Pickering, Holt and Company
• Joe Laetsch, Morgan Stanley