Kinder Morgan (KMI -0.29%) already has one of the safest dividends in the energy sector. The natural gas infrastructure giant generates gobs of steady cash flow. It only pays out about half that money to investors via a dividend that currently yields almost 7%. It uses the other half to expand its operations and strengthen its already solid balance sheet.
However, that rock-solid financial position isn't stopping the company from taking advantage of opportunities to get even stronger. It recently capitalized on the robust conditions in the liquified natural gas (LNG) market to bolster its finances, putting it in an even better future position.
Cashing in on LNG
Kinder Morgan recently closed the sale of a 25.5% equity interest in its Elba Liquefaction Company for $565 million. Elba is a natural gas liquefaction and export facility in Georgia that can produce 2.5 million tons annually. It sells that LNG to Shell under a long-term contract. The deal values the facility at $2.3 billion, an increase from the company's $2 billion construction cost. That's roughly 13 times the facility's estimated earnings before interest, taxes, depreciation, and amortization (EBITDA) for 2022. It's an attractive value considering that Kinder Morgan trades at 11.5 times its enterprise value to EBITDA.
Kinder Morgan will remain the operator and retain a 25.5% interest in the facility, while another partner will hold the other 49% stake. The company finished the facility in 2020 and has been exploring a potential expansion due to the surging demand for natural gas in Europe following Russia's invasion of Ukraine. The new equity partner would now help fund a portion of any future expansion of the facility.
Enhancing the dividend
The sale of an equity interest in Elba highlights the value of Kinder Morgan's natural gas infrastructure assets. It will also enable the company to recycle capital, a strategy that utilizes the proceeds from selling mature assets to invest in value-enhancing opportunities.
The company plans to use the proceeds to reduce short-term debt and create additional capacity for attractive investments. Those investments include potential repurchases of its undervalued stock, acquisitions, and new organic growth projects. Any one of those uses could create value for shareholders and improve the dividend's long-term sustainability.
For example, repaying some debt will reduce interest costs, freeing up future cash flows for the dividend. It would also give it more financial flexibility to capitalize on potential opportunities.
Meanwhile, repurchases would help reduce the number of shares outstanding and the dividend payout ratio. Repurchases are particularly attractive these days. At the current share price of around $16, Kinder Morgan trades at about 7.3 times its projected 2022 distributable cash flow of $2.17 per share. That's a 13.5% free cash flow yield, which is significantly above the S&P 500's 5% free cash flow yield. Through July, the company had repurchased about 16 million shares at an average price of $17.09 per share. With its stock getting even cheaper, using some of those proceeds to repurchase shares makes sense. Those repurchases will reduce its outstanding shares and dividend payout ratio.
Finally, redeploying the sales proceeds into other attractive investment opportunities would help grow its cash flow. For example, Kinder Morgan is currently investing $2.1 billion in several expansion projects, including new natural gas pipelines and renewable natural gas facilities. It's building these projects at a mere 3.2 times EBITDA. If it can sell assets at 13 times EBITDA and then reinvest the proceeds at around three times, it can generate significant incremental earnings on that capital. That would enhance its ability to pay dividends in the future.
An even more sustainable income stream
Kinder Morgan is selling half of its remaining stake in Elba to cash in on increasing demand for LNG. The deal will strengthen its balance sheet in the near term while giving it incremental capital to make attractive investments. These moves will put its already rock-solid high-yield dividend on an even more sustainable long-term foundation. That makes it a great low-risk stock for those seeking an attractive passive income stream.