By nature, pipeline firms are supposed to be boring cash flow vehicles that act as toll roads for the crude oil and natural gas they carry through their lines. They’re not supposed to be full of surprises; you’re buying a steadily-growing dividend.
For investors in pipeline and midstream stalwart Kinder Morgan Inc (KMI), the company’s latest quarterly results were its third big surprise in about a year’s time.
To say that things have been rocky for KMI stock would be an understatement. The last few quarters — perhaps even years — have been downright abysmal, and Kinder Morgan’s latest earnings results are just another blemish in a long line of problems. The question now is whether investors should gamble on KMI stock and the pipeline juggernaut.
Big-Time Write-Downs at KMI
Kinder Morgan’s 84,000 miles of pipelines, storage, and terminaling and processing facilities are the kind of assets that have been traditionally associated with midstream firms. KMI receives a fixed fee for the use of these pipelines, which is generally shielded from commodity price risk. However, KMI isn’t totally immune, as several other pieces of its vast umbrella are directly tied to oil and natural gas prices.
The drop in energy prices has finally begun to hurt KMI’s bottom line, so much so that Kinder Morgan actually reported a huge loss.
For the quarter, KMI reported a loss of $637 million, or 29 cents per share, while analysts surveyed by FactSet had predicted that Kinder Morgan would report earnings of 16 cents. Revenue came in at just $3.64 billion for the quarter, also lower than analysts’ estimates.
The main culprits were two big write-downs on its commodity-sensitive businesses. KMI took a $1.15 billion charge on the value of its natural gas unit, as well as a $285 million write-down on its carbon dioxide segment. However, even backing out these charges, Kinder Morgan would have lost money.
Across the board, the company saw lower sales and revenue in almost all of its divisions. For example, the bankruptcy filing of both Arch Coal (ACIIQ) and Alpha Natural Resources (ANRZQ) managed to clip around $45 million off of its terminal business profits.
It Could Get Even Worse for KMI
One quarter’s worth of loses isn’t necessarily a death knell for a business. Unexpected events occur and one-time charges can, and often do, cause earnings surprises. The scary part for KMI stock and its investors is that the write-downs and losses are only beginning.
How do we know that? Kinder Morgan’s CFO, Kimberly Allen Dang, basically said just that. On the call, Dang reported to analysts a stark warning that, “if commodity and equity prices continue to fall, then we may have impairments in future quarters.” Dang used the qualifier “may,” but since the end of the fourth quarter, energy prices have tanked even further. So, expect more loses from KMI — barring a sharp rise in oil prices — when it reports in three months.
As if that wasn’t enough, KMI’s dividend could be in a tight spot. The payout was cut by 75% last month and could be cut again. KMI reported $1.233 billion in distributable cash flows (DCF) for the quarter, which was a decline from the same quarter a year ago.
While full-year DCF numbers were up, they came in a lot lower than KMI’s initial budgets. With energy prices down and the entire sector hurting, analysts expect that Kinder Morgan’s DCF could see more dips in the new year.
Lower energy prices are also hindering the development of future projects, which might otherwise grow that dividend. In the wake of lower energy prices, KMI is only focusing on the highest-return projects in its backlog.
To that end, Kinder Morgan trimmed nearly $3.1 billion in projects from its backlog, including approximately $900 million in new projects slated for this year. The company also delayed the completion of its $5.4 billion Trans Mountain Pipeline expansion all the way out to the third quarter of 2019.
These cuts were made with the expectation of oil at $38 per barrel. However, KMI expects more reductions in upcoming quarters as it continues to prune that backlog, keeping only the prime projects.
As one of the largest midstream companies, it takes big projects to move the needle at KMI, and those big projects require a fair bit of coin. The fear among analysts is that focusing on only big projects will require more CAPEX spending and eat more of the cash flows that could go to dividends. To quote one unidentified analyst on the call, “Now there’s the fear that the dividend isn’t even secure.”
Still Plenty of Issues at KMI
Is KMI stock a buy at current prices? Not as a straight income investment it isn’t.
At the end of the day, Kinder Morgan is no longer the stable pipeline player it used to be. The new, lower energy price environment has thrown the company for a loop. Losses, write-downs, and future project deterioration are major issues for KMI stock and its dividend.
Management’s decision to “live within its cash flows” could mean that KMI will choose CAPEX spending for big projects over funding a payout, if energy prices continue to decline. The company’s latest earnings show that fact is very much in play.
As of this writing, Aaron Levitt did not hold a position in any of the aforementioned securities.
