Kinder Morgan's (NYSE:KMI) Canadian subsidiary, Kinder Morgan Canada Limited (TSX:KML), announced this week that it had suspended all nonessential spending on its massive Trans Mountain Pipeline expansion project, due to legal disputes surrounding the project. In the interim, the company said it would work with key stakeholders until the end of May on potential paths forward. However, the pipeline giant made one thing clear: If it couldn't reach an agreement by that deadline, then it didn't see a scenario in which it could move forward with the project. It's an announcement that has significant ramifications for investors.
From slam dunk to suspect
Kinder Morgan initially applied to expand the Trans Mountain Pipeline in December 2013. The Canadian pipeline, which is more than 900 miles long, stretching from the oil sands region of Alberta to the Pacific coast of British Columbia, has been in service since 1953. The 300,000-barrel-a-day pipeline has operated at full capacity for years because it's the only oil pipeline to the coast and, therefore, provides access to lucrative Asian markets via tanker.
Given the pipeline's long and successful operating history, analysts initially thought this 7.4-billion-Canadian-dollar ($5.8 billion) project to increase capacity to 890,000 barrels per day would easily win approval. Instead, the company has faced an uphill battle from day one due to growing climate change fears, which fueled opposition from environmentalists and locals, including the government of British Columbia. While the National Energy Board of Canada did finally approve the expansion in late 2016, Kinder Morgan has continued facing resistance to the project. Among the issues has been an inability to secure the rights of way and permits in British Columbia needed to start construction.
A hard-fought battle on both sides
In addition to hampering the permitting process, those opposed have battled Kinder Morgan in court. However, the company recently scored a key win when the Federal Court of Appeal dismissed the case against the pipeline. However, that decision doesn't take Kinder Morgan closer to being able to start putting shovels in the ground, as the opposition appealed to Canada's Supreme Court. While it's a long shot that the court will hear the case, Kinder Morgan wants to permanently settle this dispute, which pits not only the company but the government of Alberta, supported by the federal government -- including Prime Minister Justin Trudeau -- against British Columbia.
The pipeline company has issued an ultimatum of sorts, pressing both sides to reach an agreement by the end of next month so that it can proceed with the project. The company wants two things: clarity on the path forward, including the ability to build in British Columbia, and protection for shareholders, since they're risking billions of dollars on this project and don't want to see that money go to waste. The company has already invested CA$1.1 billion ($860 million) developing the expansion to this point but doesn't want to spend one more dollar unless it has some guarantee that it will be allowed to finish the project. If that required agreement isn't reached by the end of May, it's "difficult to conceive of any scenario in which we would proceed with the project," said the company's chief executive.
What this means for shareholders
While Kinder Morgan could just be playing hardball to force action, the company seems as if it has reached the end of its patience with the process and is willing to move in another direction if it can't get the necessary guarantees to build this project. A decision to cancel this expansion would be a significant blow to the company since it's by far the largest project in its backlog, representing 48% of anticipated growth spending over the next five years. Furthermore, the expansion would supply a needle-moving CA$1.1 billion ($860 million) of annual earnings by 2021, which is more than half of the total earnings growth the company anticipates. Losing such a significant portion of that future incremental cash flow could significantly diminish the company's dividend growth prospects.
Yet canceling the project wouldn't be the end of the world for investors. While the company would need to take a loss on the amount it's invested in the project so far, it could reallocate future spending on new projects and acquisitions. Of course, it would take Kinder Morgan and its Canadian subsidiary time to fill in the sizable gap, and the replacements might not move the needle to the same extent as the Trans Mountain Expansion would. In spite of these issues, the long-term outlook for energy infrastructure in North America remains bright, even if the prospects surrounding this particular pipeline look dim.