Pat McKeough responds to many requests from members of his Inner Circle for specific stock investing advice as well as questions on investment strategy and the economy. Every week, his comments and recommendations on the most intriguing questions of the past week go out to all Inner Circle members. And each week we offer you a report on one of the stocks profiled in these Q&A sessions. We give you Pat’s buy-hold-sell recommendation as well as his analysis of the stock. This is part of the specific buy, hold and sell advice we offer you in our daily posts. Every week you get “A Stock to Sell” on Monday, “Best Canadian Stocks” on Tuesday, and “Our Top U.S. Stocks” on Thursday.

Recently an Inner Circle member asked us about Parkland Fuel, a company that sells gasoline and operates convenience stores through its own brands and under license to bigger companies like Imperial Oil. Parkland recently lost a major supply contract with Suncor Energy and Pat examines the company’s attempts to replace that business with new acquisitions. He also looks at the impact of lower oil prices on Parkland’s profits. 

Q: Hi Pat: Could you give us an update on Parkland Fuels? They are continuing to make acquisitions, and the stock continues to rise. Would you consider it a buy now? Regards.

 A: Parkland Fuel Corp. (symbol PKI on Toronto; www.parkland.ca) operates gas stations, convenience stores and a fuel distribution business, mostly in Western Canada and Ontario. It was called Parkland Income Fund before it converted to a dividend-paying corporation on December 31, 2010.

The company owns 144 rural gas stations and convenience stores. Brands include Fas Gas Plus, Race Trac Gas and Short Stop. Many of Parkland’s stations sell propane in addition to gasoline and diesel fuel. The company also operates Esso stations in Western Canada and Ontario under a licensing deal with Imperial Oil (symbol IMO on Toronto). It recently signed an agreement to use the Chevron brand in B.C.

Parkland continues to sell its company-owned stations to franchisees. This lets it collect rent and commissions on fuel sales without having to staff and operate the stations.

The company also sells fuel directly to businesses and 555 independent gas stations. It recently converted its Bowden oil storage tanks near Red Deer, Alberta, into a more profitable distribution terminal. The Bowden facility holds 220,000 barrels.

Parkland continues to expand by acquisition. In February 2013, it paid $84.6 million for the assets of Elbow River Marketing Limited Partnership, which distributes a variety of fuels, including propane and crude oil, through a fleet of 1,200 railcars.

The company lost a major fuel-supply contract with Suncor Energy (symbol SU on Toronto) at the end of 2013. This was a serious setback for Parkland, because the contract let the company profit from Suncor’s very strong refining margins.

Parkland is relying in part on acquisitions to replace the lost Suncor supplies. In January 2014, it expanded to the U.S. with its $110-million cash-and-stock purchase of North Dakota’s SPF Energy Inc., which supplies fuel to over 200 gas stations in North Dakota, Montana, Minnesota, South Dakota and Wyoming. The purchase should add $0.13 a share to Parkland’s annual earnings.

As well, the company recently agreed to pay $378 million in cash and stock for Pioneer Energy, a 50/50 joint venture between Suncor and Pioneer Group Inc. that owns 393 gas stations in Ontario and Manitoba. Parkland expects to complete this purchase by the end of 2014.

Dividend stocks: Parkland raises its dividend, now yields high 5%

In the quarter ended June 30, 2014, Parkland’s revenue jumped 40.0%, to $1.9 billion from $1.3 billion a year earlier. Thanks to the SPF acquisition, Parkland’s fuel volumes rose 26.6%.

However, due to the loss of the Suncor supply contract, earnings fell 66.0%, to $6.9 million from $20.3 million. Earnings per share dropped 67.9%, to $0.09 from $0.28, on more shares outstanding. Cash flow per share fell 50.0%, to $0.30 from $0.60.

Parkland’s long-term debt of $301.1 million is a moderate 18% of its market cap. It also holds cash of $12.3 million, or $0.16 a share.

The company aims to move forward from the loss of the Suncor contract and double its earnings by the end of 2015. Acquisitions and internal growth will account for a third of this increase. Parkland feels it can get another third by making its wholesale fuel-supply business more efficient. It is counting on other efficiency improvements, such as cutting administrative costs and reducing time lost to employee injuries, to supply the final third. The company says it has already identified ways to cut its annual costs by $11 million.

Parkland recently raised its monthly dividend by 1.5%, to $0.0883 a share from $0.087. The new annual rate of $1.06 yields 5%. The company’s dividend reinvestment plan gives investors two options: they can reinvest their dividends in new shares at a 5% discount to the market price, or they can receive a premium dividend equal to 102% of the regular monthly payout (or $0.0901 a share). The annual premium dividend rate of $1.081 yields 4.9%.

The company’s growth-by-acquisition strategy adds risk. It is also in a highly competitive business. It may fail in its ambitious plan to double its earnings by the end of next year.

However, Parkland mainly operates in rural regions, where it faces fewer rivals. That gives it somewhat higher profit margins. In addition, oil prices have fallen lately. Lower oil prices can improve profit margins for gas retailers, at least temporarily.

We view Parkland Fuel as a hold, but only for aggressive investors.

Monday we look at a company that’s trying to compete with Google Glass and others with a compact wearable camera.