Kinder Morgan, Inc. — Q3 2017 Form 10-Q
Business context and period. Kinder Morgan is a North American energy infrastructure operator with approximately 84,000 miles of pipelines and 155 terminals. This unaudited filing covers the quarter and nine months ended September 30, 2017; comparisons are with the same 2016 periods unless stated otherwise. Amounts are in U.S. dollars and millions, except per-share data.
Financial performance and position
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $3,281 | $3,330 | $10,073 | $9,669 |
| Operating income | $830 | $882 | $2,732 | $2,638 |
| Net income (loss) | $387 | $(183) | $1,215 | $506 |
| Net income (loss) available to common stockholders | $334 | $(227) | $1,072 | $382 |
| Basic and diluted EPS | $0.15 | $(0.10) | $0.48 | $0.17 |
| Cash from operating activities | Not stated for quarter | Not stated for quarter | $3,307 | $3,503 |
| Distributable cash flow (non-GAAP) | $1,055 | $1,081 | $3,292 | $3,364 |
| DCF per common share (non-GAAP) | $0.47 | $0.48 | $1.47 | $1.50 |
Q3 operating margin was approximately 25.3%, versus 26.5% in Q3 2016. Revenue declined 1.5% in Q3 and grew 4.2% year to date. Reported Q3 Segment EBDA was $1,747, up from $1,393; however, Segment EBDA before certain items was lower in several businesses, and DCF declined. These non-GAAP measures are not substitutes for GAAP results.
- Segment performance: Q3 Segment EBDA increased notably in Natural Gas Pipelines ($884 versus $542), partly reflecting unusually high prior-year impairments and divestiture losses. Adjusted segment EBDA declined in Natural Gas Pipelines (3%), CO2 (5%), and Kinder Morgan Canada (where year-to-date adjusted EBDA was down 3%); Terminals and Products Pipelines were modestly higher.
- Cash and investment: Nine-month operating cash flow was $3,307, down $196. Capital expenditures were $2,231; net cash used in investing was $2,486. Cash ended at $539, down $145 from year-end 2016.
- Debt and liquidity: Total debt principal was $37,225 at September 30, compared with $38,901 at December 31, 2016; debt carrying value, including fair-value adjustments, was $38,272. The company had $4,830 available under its $5.0 billion revolving facility. Working capital was negative $3,561, versus negative $2,695 at year-end. The filing says the company was in compliance with required credit covenants.
- Dividends: Common dividends declared were $0.125 per share for Q3 and $0.375 for the first nine months. Preferred dividends were $117 for the nine-month period.
Material changes and unusual items
- In May 2017, Kinder Morgan Canada (KML) completed an IPO representing an approximately 30% interest in the Canadian business. KMI retained control and continues to consolidate KML. Net IPO proceeds of $1,245 were used to reduce debt; public ownership is recorded as noncontrolling interest.
- Adjusted for identified “certain items,” Q3 Segment EBDA before certain items was $1,793 versus $1,822 in 2016, using the individual segment figures disclosed in the filing. Q3 GAAP net income improved substantially, but the comparison is affected by the prior-year $350 equity-investment impairment, other 2016 divestiture losses, and materially higher 2016 tax expense related to the SNG transaction. The 2017 quarter also benefited from lower tax expense and tax adjustments, including an enhanced oil recovery credit.
- In August, KMI issued $1.0 billion of fixed-rate 3.15% notes and $250 million of floating-rate notes due 2023, principally refinancing a term loan and Hiland notes. Significant notes totaling $2,784 were due within 12 months at quarter-end.
- KMI sold a 40% interest in the Deeprock Development joint venture, recording a $23 gain. It also recorded a $30 non-cash impairment for the Colden storage facility. Nine-month 2016 results included substantial project write-offs and impairments.
- Construction on the C$7.4 billion Trans Mountain Expansion Project began in September 2017; completion was expected in December 2019. KML raised additional preferred equity in August, with proceeds used in part to repay project-related borrowing.
Outlook, risks, and contingencies
- Management expected 2017 common dividends of $0.50 per share and announced an expectation of $0.80 in 2018, $1.00 in 2019, and $1.25 in 2020. These are expectations, not guaranteed payments; the board retains discretion. A $2 billion share-repurchase program was approved, expected to begin in 2018.
- Management expected to fund KMI growth projects primarily through retained cash flow and said it did not expect to need equity-market funding for other growth projects for the foreseeable future. Trans Mountain funding may use KML borrowings, preferred or common equity, notes, or retained cash flow.
- Trans Mountain faces multiple legal challenges and regulatory uncertainty. An adverse outcome could require further review, change or revoke approvals, or stop the project, potentially materially affecting its feasibility and economic benefits.
- Pipeline-rate proceedings remain significant: shippers in SFPP matters seek approximately $40 million in annual rate reductions and $220 million in refunds. The company disputes the claims. Other disclosed exposures include LNG contract arbitration, environmental remediation, pipeline incidents, and commercial and legacy litigation.
- At September 30, legal reserves were $330 and environmental reserves were $290. The company said it could not reasonably estimate its potential share of Portland Harbor cleanup costs or certain Passaic River and natural-resource damages. Management stated it did not expect resolution of disclosed matters to have a material adverse effect, but outcomes remain uncertain.
- Commodity prices, interest rates, and foreign exchange are managed partly with derivatives. Approximately 27% of debt, excluding fair-value adjustments, was variable-rate or converted to variable-rate exposure through swaps.
Most important facts for investors to verify
- Whether operating cash flow and DCF support the announced dividend increases after sustaining capital, debt service, and preferred dividends.
- Refinancing plans and cost for near-term maturities, and whether leverage and covenant headroom remain adequate.
- Trans Mountain’s legal and regulatory status, construction progress, total cost, financing plan, and exposure of KMI to project obligations.
- Underlying segment trends excluding impairments, divestitures, tax effects, and other “certain items,” particularly in Natural Gas Pipelines and CO2.
- Potential SFPP rate refunds and reductions, environmental liabilities, and outcomes of the Gulf LNG arbitration and other material proceedings.