Investing.com -- Moody’s Ratings has revised the ratings outlook for Phillips 66 (NYSE: PSX ) and Phillips 66 Company from stable to negative, while maintaining their A3 issuer rating and A3 backed senior unsecured ratings. The Prime-2 rating given to Phillips 66’s backed commercial paper program was also affirmed.

The modification in Phillips 66’s outlook to negative is a reflection of high leverage and uncertainty surrounding the speed of debt reduction, according to James Wilkins, Moody’s Ratings Vice President. The company’s emphasis on shareholder remuneration has delayed debt reduction and contributed to weak credit metrics for the rating, which are worsened by the decline in industry margins.

The negative outlook mirrors the company’s weak credit metrics for the A3 rating, the absence of debt reduction in 2024 due to elevated share repurchases and a weak refining industry environment. In 2024, the company’s balance sheet debt increased by $0.7 billion, at a time when the company was expected to focus on reducing debt, which was high after the $4 billion acquisition of the publicly held common units of DCP Midstream, LP. From 2022 to 2024, Phillips 66 spent $9.0 billion on share repurchases to meet its shareholder return targets, including $3.5 billion of share repurchases in 2024 when refining margins fell below mid-cycle levels.

As of the end of 2024, leverage was high for the rating due to the increase in debt and declining earnings. In 2025, the company is expected to balance its capital allocation to reduce debt using proceeds from divestitures and free cash flow, despite investor pressure to improve shareholder returns. In the second half of 2024, Phillips 66 generated positive free cash flow despite the weak crack spread environment, and it is expected to continue to generate positive free cash flow in 2025.

In the first quarter of 2025, DCP Midstream, LP received $853 million from the sale of its 25% stake in Gulf Coast Express Pipeline LLC and Phillips 66 sold its non-operated equity interest in Coop Mineraloel AG for $1.24 billion, which will be used to repay debt. The sale of Phillips 66’s JET retail operations in Germany and Austria is pending.

Phillips 66 has a large scale and diversity in its refining business, as well as significant, diverse cash flow provided by its midstream, marketing and specialties, chemicals, and renewable fuels businesses. The company’s investments are focused on its midstream and chemicals businesses, with modest spending on refining margin improvement projects.

Phillips 66’s P-2 commercial paper rating reflects its excellent liquidity supported by cash balances and an undrawn $5 billion revolving credit facility maturing in February 2029. The company is expected to generate positive free cash flow through mid-2026. As of the end of 2024, Phillips 66 and DCP Midstream Operating, LP had approximately $1.8 billion of debt maturing in 2025, which is expected to be repaid.

The rating could be downgraded if retained cash flow to debt remains below 20% or the company follows financial policies inconsistent with the A3 ratings. It is currently unlikely that the rating will be upgraded in the near-term. However, an upgrade could be considered if retained cash flow to debt is sustained above 40% in a refining industry down cycle and Phillips 66 generates strong free cash flow.

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