Last week Kinder Morgan Inc (KMI) has gave substantially more clarity in its multi-year turnaround. In addition to completing its spinoff of Kinder Morgan Canada (KML), management also said that it would increase its dividend by 60% in 2018, and another 25% in 2019 and 2020 respectively, now that Kinder Morgan’s leverage level is at what management deems to be an appropriate level.
Shares have jumped on recent news of large dividend hikes next year and thereafter.
Without Kinder Morgan Canada, Kinder Morgan Inc becomes a substantially more focused play, mostly on midstream dry gas in the Lower 48. It is somewhat less levered, with a somewhat more manageable backlog. Importantly, it’s good to finally know where the dividend will be going forward. This article takes a closer look at Kinder Morgan’s quarterly performance, and whether it’s worth taking another look at this one now that this turnaround has reached a new phase.
Second quarter highlights
In the second quarter, Kinder Morgan began construction of the $2 billion Elba Liquefaction Plant near Savannah, Georgia. This project has a 20-year contract with Shell. Elba won’t come online until mid-2018 and will reach full capacity in mid-2019. Kinder Morgan started its second phase of the Tall Cotton Field project, which is the industry’s first greenfield Residual Oil Zone CO2 project. Tall Cotton will soon produce over 2,000 barrels of oil per day. Kinder Morgan also continued it’s $540 million Utopia Pipeline Project, which will move ethane from Ohio to Windsor, Canada.
Dry gas volumes increased a solid 3% year-on-year, driven by throughput on the Texas Intrastate Natural Gas Pipeline and the El Paso Natural Gas Pipeline. Natural gas is a good place to be, with North American demand set to grow steadily for at least a decade, thanks to a confluence of factors, especially low prices and ample supply. The CO2 and oil segments were hit, however, by lower commodity prices. Crude oil production across the fields was down 4%, although CO2 volume rose 8 percent on higher third-party demand. Overall, distributable cash flow ticked down just slightly, from $1.05 billion in the same quarter last year to $1.02 billion this time.
More important than this quarter’s results is the position Kinder Morgan finds itself in at the moment. After the KML spinoff management expects the company’s leverage ratio to be 5.2 times. Kinder Morgan’s long-term leverage target is 5.0 times, but this is close enough for management to begin substantially increasing the dividend. Based on today’s price, Kinder Morgan will yield 6% by 2020.
Right now Kinder Morgan’s Moody’s rating is baa3, which is the bottom end of ‘investment grade.’ Moody’s sees the aforementioned dividend hikes as “credit negative, but according to plan.” Therefore, I don’t believe Kinder Morgan is in danger of a downgrade here. However, I would have liked to see a credit upgrade or two. I guess that won’t be happening.
Pros and cons
I’d like to way the ‘pros’ and ‘cons’ of Kinder Morgan Inc right now. The pros are that the bulk of Kinder Morgan’s net income, now and into the future, is going to be from dry gas. The spinoff of the Canada business makes Kinder Morgan a much more focused entity. That’s also good.
The cons are more readily apparent to me. Kinder Morgan’s backlog is still a huge $12 billion. Also, debt at 5.2 times EBITDA is still rather high. I continue to prefer a debt level somewhere in the mid 4’s, and there are plenty of midstream partnerships already there. And don’t forget that Kinder Morgan still has some direct exposure to crude oil prices. Eleven percent of its business is involved in either crude production or CO2 production. You’ll also have to wait two years to get a dividend yield of 6% at today’s share price.
With all that in mind, it’s hard to really recommend Kinder Morgan. I know I harp on Enterprise Products Partners (EPD) quite often, but when something is broken, don’t fix it. Enterprise yields 6.15% right now, has no direct exposure to crude oil, and is substantially less levered than Kinder Morgan even if the latter company hits its target. If you’re in midstream names for income, and most of us are, I think it’s best to keep looking elsewhere.
If you’re interested in Kinder Morgan Inc, feel free to follow me here on Seeking Alpha. I have been following this company for several years now, and will continue to provide update articles when doing so is both material and relevant. In addition, I’ve also launched a marketplace service which allows me to write more comprehensively about trends and stocks that income investors can pick up for the long run.
Disclosure: I am/we are long EPD.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.