ONEOK, Inc. 10-Q Summary
Business context and reporting period
ONEOK operates predominantly fee-based midstream businesses across Natural Gas Gathering and Processing, Natural Gas Liquids, and Natural Gas Pipelines. This unaudited Form 10-Q covers the three and six months ended June 30, 2017, with comparison periods ended June 30, 2016.
On June 30, 2017, ONEOK completed its acquisition of the publicly held common units of ONEOK Partners, issuing 168.9 million ONEOK common shares for 171.5 million units. The transaction was accounted for as an equity transaction because ONEOK already controlled ONEOK Partners; no gain or loss was recognized. ONEOK Partners units ceased trading and noncontrolling interests were substantially eliminated, except for the minority interest in West Texas LPG Pipeline.
Financial performance and key metrics
| Metric | Three months ended June 30, 2017 | Three months ended June 30, 2016 | Six months ended June 30, 2017 | Six months ended June 30, 2016 |
|---|---|---|---|---|
| Total revenue | $2.726 billion | $2.134 billion | $5.475 billion | $3.909 billion |
| Operating income | $316.7 million | $315.3 million | $631.2 million | $626.7 million |
| Net income | $176.0 million | $179.9 million | $362.2 million | $354.8 million |
| Net income available to common shareholders | $71.5 million | $85.9 million | $158.8 million | $169.4 million |
| Diluted EPS | $0.33 | $0.40 | $0.74 | $0.80 |
| Adjusted EBITDA | $462.3 million | $460.2 million | $921.9 million | $906.2 million |
| Capital expenditures | $82.5 million | $136.8 million | $195.2 million | $333.3 million |
Six-month operating margin was approximately 11.5%, compared with approximately 16.0% on a revenue basis in 2016; the comparison is significantly affected by higher commodity sales and corresponding cost of sales. Six-month adjusted EBITDA margin was approximately 16.8%, compared with approximately 23.2% in 2016, also reflecting the greater commodity-sales mix.
Operating income was broadly stable, while adjusted EBITDA increased 2% for both the quarter and year to date. Segment adjusted EBITDA for the six months was $232.2 million in Natural Gas Gathering and Processing, $551.5 million in Natural Gas Liquids, and $163.6 million in Natural Gas Pipelines.
Cash provided by operating activities was $642.9 million for the six months, compared with $531.6 million in 2016. Investing cash outflow was $183.7 million, versus $298.5 million, primarily because major projects were placed in service in 2016. Financing cash outflow was $375.7 million, versus $149.6 million.
At June 30, 2017, cash and cash equivalents were $332.4 million. Total debt was approximately $9.65 billion, including $1.27 billion of commercial paper; consolidated long-term debt, including current maturities, had a book value of approximately $8.33 billion and an estimated fair value of $9.1 billion. Working capital was negative approximately $1.4 billion, primarily because of current debt maturities and short-term borrowings. The company reported approximately $1.2 billion of borrowing capacity under its $2.5 billion revolving credit facility and was in compliance with all covenants.
Common dividends were $0.615 per share for each of the first two 2017 quarters. A $0.745 per-share dividend was declared in July 2017, representing a 21% increase from the prior quarter and the comparable prior-year period.
Material changes versus the prior comparable period
- Revenue increased 28% in the second quarter and 40% for the first six months, driven mainly by higher commodity sales and increased volumes.
- Operating income increased less than 1% for the quarter and 1% year to date because higher revenue was substantially offset by higher cost of sales, operating costs, and merger-related and other unusual expenses.
- Net income attributable to ONEOK decreased 17% for the quarter and 6% year to date; diluted EPS declined to $0.33 from $0.40 for the quarter and to $0.74 from $0.80 year to date. The results reflect the increased allocation to former public ONEOK Partners unitholders before the merger and the effect of preferred-stock dividends.
- Natural Gas Gathering and Processing adjusted EBITDA increased 16% for the quarter and 10% year to date, supported by higher fees, contract restructuring, and volume growth.
- Natural Gas Liquids adjusted EBITDA decreased 1% for the quarter and increased 1% year to date. Higher exchange, transportation, and storage activity was offset by narrower product-price differentials and higher maintenance costs.
- Natural Gas Pipelines adjusted EBITDA increased 18% for the quarter and 14% year to date, primarily from higher firm transportation revenues and stronger Roadrunner investment earnings.
- Capital expenditures declined 41% year to date because of growth projects completed in 2016.
Guidance, outlook, risks and unusual items
- Management expects approximately 90% of consolidated earnings to be fee-based in 2017. Contract restructuring increased the Natural Gas Gathering and Processing average fee rate to $0.85 per MMBtu in the first half of 2017 from $0.72 in 2016.
- Management expects increased production and volumes from the STACK and SCOOP, Williston, and Permian basins. Five third-party processing plants were connected during the first half of 2017, and additional volume growth is expected in the second half.
- Planned projects include the Canadian Valley processing expansion, STACK gathering infrastructure, Mid-Continent NGL system and Sterling III expansions, and the Bakken NGL Pipeline Phase II expansion.
- Expected 2017 capital expenditures are $450 million to $550 million for growth and $130 million to $150 million for maintenance, excluding allowance for funds used during construction and capitalized interest.
- Ethane rejection averaged more than 150 MBbl/d in the first half of 2017. Management expects recovery to improve as petrochemical and export capacity increases, but levels remain sensitive to commodity-price differentials.
- In July 2017, ONEOK issued $1.2 billion of senior notes, repaid $500 million of its term loan, redeemed approximately $87 million of senior notes, and began replacing ONEOK Partners commercial paper with its own commercial paper program. It also established a $1 billion at-the-market common-stock program.
- The quarter included a $20 million noncash expense for the contribution of Series E preferred stock to the ONEOK Foundation and approximately $22.8 million of merger-related costs; year-to-date merger-related costs were approximately $29.5 million.
- Key risks include leverage and guarantee obligations following the merger, refinancing and interest-rate exposure, commodity prices and basis differentials, production and volumetric risk, ethane rejection, regulatory and environmental requirements, pipeline safety, construction execution, counterparty credit, litigation, and access to capital markets.
- Management stated that known environmental, litigation, and other contingencies were not expected to have a material adverse effect. The Sinclair litigation had been resolved in ONEOK Energy Services’ favor subject to a potential appeal; other settlements and the ONEOK Partners merger-related class actions were immaterial.
Important facts for investors to verify
- Assess the post-merger leverage profile, including approximately $9.65 billion of total debt, the 5.1-to-1 debt-to-adjusted-EBITDA covenant ratio, and the guarantees between ONEOK and ONEOK Partners.
- Reconcile reported GAAP earnings with adjusted EBITDA and isolate the effects of the $20 million Foundation contribution, merger costs, noncontrolling-interest changes, and commodity-price movements.
- Monitor execution and funding of the $580 million to $700 million 2017 capital-expenditure plan and the announced STACK, SCOOP, NGL, and pipeline projects.
- Evaluate whether expected volume growth, ethane recovery, and higher fee rates offset narrower NGL price differentials, maintenance costs, and production declines.
- Verify the effect of the July 2017 debt transactions, the expected repayment of $400 million of notes due October 2017, and the $1 billion at-the-market equity program on liquidity and per-share results.
- Review the company’s forward-looking assumptions regarding commodity prices, producer activity, regulatory approvals, environmental obligations, and counterparty credit.