Shares of downstream company Valero Energy (VLO) have generated inflation-beating returns for long-term investors. Since October 2013, Valero Energy stock has returned about 400% to shareholders, after adjusting for dividends. Comparatively, the S&P 500 Index ($SPX) has returned 202% during this same period. 

However - despite a recent rally alongside oil prices (CLX23), driven largely by flaring geopolitical tensions in the Middle East - Valero stock is still trading 14% below its early 2023 highs, and 12% below its September peak. 

That said, the ongoing pullback has also increased VLO's forward dividend yield to a tasty 3.09% - and, despite its outsized returns over the long term, Valero stock trades at 5.14x forward earnings, which is very cheap compared to the sector median.

So, let's see if this value-priced energy stock can bounce back and reclaim record highs, particularly as crude futures continue to break out. 

Inside Valero Energy's Portfolio

Now valued at $46.16 billion by market cap, Valero Energy is the world’s largest petroleum refiner and the largest producer of low-carbon transportation fuels. It manufactures, markets, and sells transportation fuels and petrochemical products in the U.S., Canada, and other international markets.

With 15 petroleum refineries, Valero claims it's on track to reduce and displace 63% of global refinery greenhouse gas emissions by 2025. The company also owns 12 ethanol (FLX23) plants in the U.S., and is the second largest renewable diesel producer globally. 

Valero has invested $5.1 billion in its low-carbon fuels business to date, and is optimistic about additional growth opportunities in this vertical. It is a joint owner with Darling (DAR) of Diamond Green Diesel Holdings, which owns two renewable diesel plants in the U.S. Gulf Coast with a combined production capacity of 1.2 billion gallons per year. Valero completed the expansion of DGD’s first renewable diesel plant in 2021, while the second plant was completed in late 2022. 

A Reliable Dividend Stock With Room to Grow

Favorable market conditions and the completion of various capital projects allowed Valero to report record profits in 2022. In Q4 2022, it reported net income of $3.1 billion, or $8.15 per share, compared to net income of $1 billion, or $2.46 per share, in the year-ago period. Valero ended Q2 2022 with earnings of $11.5 billion, or $29.04 per share, compared to $930 million, or $2.27 per share, in 2021. 

Net income for Valero's refining business grew by 230% to $4.3 billion in Q4, as it refined 3 million barrels of crude oil per day. Its refineries operated at a capacity of 97%, which was the highest rate in the last four years. A high utilization rate allowed the company to book sizeable profits on the back of strong demand for fuels. 

More recently, in Q2 of 2023, Valero reported net income of $1.9 billion, or $5.40 per share, compared to $4.7 billion, or $11.57 per share, in the year-ago period. A challenging macro environment and lower commodity prices predictably drove net income lower for Valero and many of its peers during the first half of 2023. 

Its refining segment reported operating income of $2.4 billion in Q2, compared to $6.2 billion in the same period last year. However, its renewable diesel and ethanol business continued to grow at a rapid pace. In Q2, Valero’s renewable diesel business almost tripled its operating income to $440 million as sales volumes rose 100% to 4.4 million gallons each day. 

Moreover, the ethanol business reported operating income of $127 million, an increase of 26% year over year as production volumes surged by 582,000 gallons per day to 4.4 million. 

Valero reported an operating cash flow of $1.5 billion in Q2, while capital expenditures totaled $458 million. It paid $367 million to shareholders via dividends, indicating a payout ratio of less than 40%. The company targets an annual payout ratio of between 40% and 50%, providing it with enough room to reinvest in capital projects, increase dividends, and lower balance sheet debt. In the last 10 years, Valero has increased its dividends by 17.7% annually, which is quite exceptional for an energy stock.

Can Valero Energy Find New Highs?

Out of the 16 analysts tracking VLO stock, 11 recommend “strong buy,” one recommends “moderate buy,” three recommend “hold,” and one recommends “strong sell.” The average price target for Valero stock is $154.62, which implies expected upside of about 16% from the current trading price - though it's just shy of VLO's intraday highs of 2023. 

The Street-high target of $176, meanwhile, is 32% above current levels, and well into new-high territory for Valero Energy stock.