Kinder Morgan, Inc. (KMI) & Brookfield Infrastructure Partners (BIP) just bought [Source] the remaining 53% of Natural Gas Pipeline Company of America LLC (NGPL) for about $242 million equity but both companies also took on NGPL’s $3 billion in debt, about $1.5 billion each.
NGPL has about 9,200 miles of pipelines, 1 million horsepower of compression and 288 billion cubic feet of working gas storage. It is the largest transporter of natural gas into the Chicago market and is one of the largest interstate pipeline systems in the country. KMI’s partner in the investment, Brookfield Infrastructure Partners is a value investor and has a history of buying favorably mis-priced opportunities. NGPL is “underutilized” but with KMI’s larger stake and continued control of operations; who better to utilize spare natural gas pipeline and storage capacity?
Zacks’ Summary in Part: [Source]
“The deal values NGPL, one of the largest interstate pipeline systems in the U.S. with 200 miles of natural gas pipe and 288 billion cubic feet of working gas storage primarily near Chicago, at $3.4 billion including debt. As part of this agreement, Brookfield Infrastructure will pay $106 million to boost its ownership from 27% to 50% and Kinder Morgan will pay $136 million to raise its stake from 20% to 50% to Myria Holdings. Kinder Morgan currently runs the day-to-day operations of NGPL and will continue to do so.
This deal giving Brookfield Infrastructure and Kinder Morgan the entire rights to NGPL will boost their ability to provide natural gas transportation and storage services to customers. The transaction is expected to close by this year.
NGPL is connected to the major natural gas resource plays including Utica, Eagle Ford and Marcellus Basin. As a result of the shale boom in the U.S. and the increasing awareness about natural gas as a clean burning energy source, higher production volumes have necessitated pipelines to transport natural gas from these plays to the [natural gas users]. By increasing its ownership stake in NGPL, Brookfield Infrastructure has unlocked opportunities for revenue growth.”
Since KMI’s consolidation (where they bought up their subsidiaries with equity and debt) the company’s debt has been unusually high. Kinder Morgan discussed the consolidation transaction with credit rating agencies before hand to assure their investment grade rating would not be negatively impacted. Nonetheless, KMI is walking a fine line between capturing opportunities in the energy market downturn and retaining their investment grade credit rating until the debt is reduced.
KMI’s stock price dropped this week when Moody’s Investors Service lowered its outlook to negative [Source] “The negative outlook reflects Kinder Morgan’s increased business risk profile and additional pressure on its already high leverage that will result from its agreement to increase ownership in NGPL, a distressed company.” Crude oil falling below $40 per barrel added to the negative sentiment although KMI is relatively insulated from energy prices.
The other two major credit rating agencies seem more pragmatic about it [Source]: Fitch Ratings expects the announced acquisition of NGPL to be neutral to Kinder Morgan Inc. (‘BBB-‘/stable outlook). Standard & Poor’s Ratings Services said the rating and outlook on Kinder Morgan are unaffected after the company announced the agreement to increase its ownership interest in NGPL, “KMI’s investment in NGPL does not change our view of the company’s expected credit measures.” That’s probably because the transaction is immediately accretive to the KMI’s cash flow.
The company is unlikely to allow financial metrics to deteriorate to the point [Source] where credit rating firms are compelled to downgrade KMI below investment grade. Management is not working in a vacuum, before the consolidation transaction for example, they had conversations with the rating agencies and I’m sure this continues.
KMI Out of Favor:
Owning or buying a stock that is in favor with a price that is trending up is fun and comforting because we know a lot of others agree with us. Value investing is not about making the popular choice with many endorsing our decisions. It is about making the correct choice even if that choice is contrary to the crowd. That of course is why the price is low and the lower the price goes the more contrary we are.
But, being contrarian is not the objective, because the crowd is frequently correct. The objective is finding those times when the crowd (Mr. Market) may not be correct and we think we know why. Then allocating our capital from less efficient uses to more efficient uses for potentially higher returns before the crowd sees the opportunity. We do that by analyzing companies and equally important thinking about the investment objectively. The analysis and independent thinking should give us the confidence to act on our convictions. If the analysis doesn’t, or we can’t understand why the crowd may be wrong, we shouldn’t invest.
If you look hard enough you will find both bulls and bears on every investment, just as there are always buyers and sellers for every trade, so how do you know which is right? Our homework (due diligence) should give us the courage of our convictions. We can agree KMI has more debt than it should that was part of the risk/reward tradeoff for the opportunity (the consolidation). KMI needs to reduce the debt, even if it requires the sale of non-core asset, but that takes time.
KMI’s stock price is low due to the debt level and like all other companies in the sector due to the energy sector downturn. The low equity price and high debt level does hinder (but not stop) the financing of new projects. So, this in turn raises concerns about the projected dividend growth for income oriented investors. What if they can’t grow the dividend? What’s wrong with a 10% yield while we wait for the sector to recover even if it doesn’t grow?
KMI has a wide competitive moat and multi year contractually supported cash flows. It continues to be an opportunity for the long term focused patient investor [Source]. When the share price fell this week, my first thought was “thank you Mr. Market.” NGPL is a deal for KMI and BIP; and KMI at $20+ per share is a fantastic deal. All investments have risk but unless we stop using natural gas and liquid petroleum products they appear manageable for KMI.
Increased holdings in my personal account yesterday at about $20.50/share and bought an additional allotment for the Value by George account today at $19.33/share.
Long KMI & BIP
You are encouraged to do your own independent research (due diligence) on any idea discussed here because it could be wrong. This is not an invitation to buy or sell any particular security and at best it is an educated guess as to what a security or the markets may do. This is not intended as investment advice; it is just an opinion. Consult a reputable professional to get personal advice that meets your specialized needs of which that the author has no knowledge. This communication does not provide complete information regarding its subject matter, and no investor should take any investment action based on this information.