Kinder Morgan (NYSE:KMI) is expected to report third-quarter results on October 15. This will be an interesting report as the company is in the process of acquiring its publicly traded MLPs Kinder Morgan Energy Partners L.P (NYSE:KMP) and El Paso Pipeline Partners LP (NYSE:EPB) as well as LLC Kinder Morgan Management (NYSE:KMR). It's the MLPs that are what really fuel the results of Kinder Morgan as it collects distributions and incentive income from them each quarter. However, their existence makes Kinder Morgan's report a bit confusing. To help make that report less confusing here are the three areas investors really need to watch when Kinder Morgan reports its third quarter results.
Review: Progress so far this year
The Kinder Morgan family of companies started 2014 on a very strong note. Overall, the companies reported solid results in both the first and second quarter. The highlight so far this year has been the natural gas pipelines business at Kinder Morgan Energy Partners. In the first quarter that segment's earnings were up 46% over the prior year while segment earnings in the second quarter demonstrated strong year-over-year growth of 13%. When combined with the strong financial results of Kinder Morgan Energy Partners' other segments, along with solid results from El Paso Pipeline Partners, it has resulted in Kinder Morgan having a very solid start to its year. If those strong results are going to continue, the three areas below will be key.
First area to watch: The segment results of Kinder Morgan Energy Partners
Kinder Morgan Energy Partners currently fuels about 75% of Kinder Morgan's income, so its results are critical to the company. The biggest driver of its business is its natural gas pipeline segment. As we see in the following chart, that segment's earnings are almost double its next largest segment.
What we want to see here is another increase in segment earnings in the natural gas pipeline business. We're especially interested in seeing segment earnings increase over the second quarter of last year:
In addition to paying close attention to growth in the natural gas pipeline business, we want to see solid segment earnings growth across all five of the company's segments.
Second area to watch: The impact of lower oil prices
One of the reasons the segment earnings at Kinder Morgan Energy Partners grows in such a stable manner is because the bulk of the company's income is secured by long-term contracts. However, the company's carbon dioxide segment produces oil, and not all of that oil production is hedged. In fact, Kinder Morgan's budget assumes that it will realize $95.15 per barrel of oil on its unhedged oil production. Given that oil prices plunged last quarter, this will likely have an impact on quarterly results.
Kinder Morgan projects that for every dollar that oil falls below $95.15 it will see a negative impact to its distributable cash flow by about $7 million. That's not earth-shattering until we consider that oil prices in the U.S. are now $10 below that budgeted price. So, what we want to see is if falling oil prices did impact the company's profits in the quarter and what effect the continued fall in oil prices will have on the company's outlook for the rest of the year. We'll want to see if the company sees falling oil prices being a major headwind to its carbon dioxide business or if it sees this as just a temporary bump in the road.
Third area to watch: The organic growth pipeline
Earnings growth across all of Kinder Morgan's companies comes from either acquisitions or by building new projects. Last quarter the company placed $700 million worth of projects into service that should help to boost its results this quarter. However, more importantly the company increased its backlog of future projects as it added $1.2 billion in new projects. As of the end of the second quarter the contract backlog at Kinder Morgan Energy Partners alone stood at $15.4 billion and $17 billion companywide.
We want to see Kinder Morgan's backlog continue to grow as the company announces new projects and increases its backlog. As the following slide notes, Kinder Morgan currently has a number of projects that are not included in its backlog.
What we want to see this quarter is that some of these projects have now been officially added to its backlog or at least are more certain to be built. Because these projects are key to the company's long-term growth, we want to see them move from the concept stage to contracted, as well as new project concepts being added.
This very well could be Kinder Morgan's last earnings report where its results will be clouded by its complexity. That being said, by taking a closer look at the performance of Kinder Morgan Energy Partners and the company's project pipeline, we should have a pretty good gauge of how the combined company will perform once it consolidates all of its affiliates under one umbrella.
Matt DiLallo has the following options: long January 2016 $32.5 calls on Kinder Morgan. The Motley Fool recommends Kinder Morgan. The Motley Fool owns shares of Kinder Morgan. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.