With an end-of-the-month deadline looming, Kinder Morgan (NYSE:KMI) and the Government of Canada struck a deal to keep the controversial Trans Mountain Pipeline expansion project alive after the pipeline giant agreed to sell the existing line and the planned expansion to Canada for 4.5 billion Canadian dollars ($3.5 billion). The deal will enable Kinder Morgan to walk away from the controversial project while recouping some value for investors. Meanwhile, Canada gets more time to find a buyer for this crucial infrastructure project.
Details on the deal
Kinder Morgan, through its Canadian subsidiary Kinder Morgan Canada Limited (TSX:KML), has agreed to sell 100% of the existing Trans Mountain Pipeline, as well as the associated expansion, to the Canadian government for cash in a deal that should close later this year. In the interim, the Government of Canada has agreed to fund the resumption of planning and construction work on the project via a credit facility. Kinder Morgan will also work with the Government of Canada to find a third-party buyer through July 22 of this year.
Given the timing of the deal's closing, Kinder Morgan doesn't expect it to impact its 2018 outlook. In fact, the company anticipates that it will meet or exceed its target for distributable cash flow per share this year even with the loss of the earnings from this system. Meanwhile, the company expects that its 70% share of the after-tax proceeds will be about $2 billion, which will give its balance sheet a much-needed shot in the arm. Further, the company said it still expects to pay dividends of $0.80 per share in 2018 -- up 60% from last year -- and increase the payout by 25% in both 2019 and 2020.
Where does Kinder Morgan grow from here?
Kinder Morgan had expected to invest $5.7 billion over the next few years to increase the capacity of Trans Mountain from 300,000 barrels per day to 890,000 barrels per day. However, it faced numerous delays that have already pushed back the anticipated in-service date by over a year. That also delayed the timing of the roughly $600 million in incremental annual earnings the company thought that it would receive from its share of the expanded pipeline. With the company no longer building this project, it leaves a big hole that Kinder Morgan now needs to fill.
However, one thing CEO Steve Kean made clear in the press release announcing the pipeline's sale is that he's confident that the company can backfill this loss quickly. The CEO stated, "[W]ith respect to future growth, we are confident that KMI will continue to find investment opportunities across its unparalleled network of midstream assets." He noted that in the last year alone, the company has secured $2.1 billion of new projects and has several others in development. If the company can keep up that pace and lock up about $2 billion of new projects per year, those expansions could generate more than $300 million of annual earnings, and that's assuming a slightly lower return than the projects it currently has under way. In other words, the company could quickly replace what it will lose by selling Trans Mountain.
The best outcome from a tough situation
Kinder Morgan had hoped that it would be able to build the Trans Mountain expansion project so that it could benefit from the stable cash flows it would produce. However, with intense opposition, there was too great a risk that the company would get mired in legal battles that could tie up the capital it has invested in the project for years. Because of that, the outright sale of the entire system is a good outcome for investors -- it removes this risk while providing the company with some cash to bolster its balance sheet. And with plenty of other expansion opportunities in front of it, the company should be able to offset the loss of Trans Mountain in short order and grow shareholder value with less risk, making it an even better buy right now.