Kinder Morgan (NYSE:KMI) dropped a bombshell with its recent earnings report. Thankfully none of those announcements puts the dividend in danger, yet the latest conference call does hold information vitally important to the future of Kinder's dividend. So, let's take a look at five quotes from Kinder's latest earnings call to see just what its latest acquisition and the collapsing price of crude means for its previous 10% dividend growth projection.
Hiland Partners acquisition represents major diversification
We are acquiring Hiland Partners, which is a large privately owned midstream company with crude transportation and gathering assets and gas gathering and processing assets, primarily in the Tier 1 sweet spot acreage of the Bakken formation. It's overwhelmingly fee-based and it gives us the platform for further growth in the Bakken where we currently have no assets. -- Richard Kinder, founder and CEO
The $3 billion acquisition of Hiland Partners represents a great opportunity for Kinder Morgan to take advantage of the worst oil collapse since the financial crisis and snap up high-quality assets in one of America's fastest-growing and most promising shale formations.
Management thinks it can replicate the success it's had in Texas's Eagle Ford shale, where its network of contracted crude and condensate pipeline capacity has grown by 500% in recent years.
Acquisition financing won't harm credit rating
The consideration for the purchase is $3 billion, including approximately $1 billion of assumed debt. We have a bridge loan commitment to finance the remainder. And longer term we will finance that remainder with equity and debt to maintain our appropriate level of debt to EBITDA ratio previously communicated to both the rating agencies and to our equity investors. -- Richard Kinder
Given how large Kinder Morgan's recent merger with its MLPs was, any further acquisitions need to be carefully planned to make sure they don't add too much debt and harm Kinder's investment-grade credit rating. That's because the company's increased scale post-merger is expected to greatly lower its borrowing costs -- from 4.2% to as low as 2.9% -- and thus its overall cost of capital. In fact, Kinder's overall cost of capital is expected to fall by almost 50% from 8% to just 4.2%. Minimizing cost of capital is vitally important to maximizing dividend growth in the immensely capital intensive midstream oil and gas industry.
Oil price crash is taking a toll
We were negatively affected to a certain extend in the quarter by lower commodity prices primarily in our CO2 segment, but we were still able to produce strong results and in my judgment that shows that our toll road like assets perform well, even when prices for underlying commodities are extremely volatile. -- Richard Kinder
This isn't surprising, as 20% of Kinder's EBITDA, in 2014 was derived from oil or oil related CO2 projects. In addition, management had previously determined that oil prices would need to average $55 per barrel in 2015 to in order for the company to be able to increase its dividend to $2 per share for that year, as previously planned.
The most direct impact of collapsing oil prices was a $300 million contraction in Kinder's project backlog, which now stands at $17.6 billion. While Kinder was able to add $1.24 billion in new projects, $785 million in projects, mostly CO2 related, were delayed and removed because they no longer met the company's target of a 20% rate of return.
At some point, oil prices are likely to recover, and these projects might come back into the backlog, but for now, the shrinking backlog is making it harder for Kinder to reach its 10% dividend growth target.
Management is still confident in its dividend growth targets, but less so than before
We are still comfortable with the first two projections and we are still comfortable that we will have substantial excess coverage. But I have to admit it's hard to ascertain exactly what that will be, that amount will be, given the recent volatility in commodity prices. -- Richard Kinder
The projections Richard Kinder is talking about are the $2 per share 2015 dividend and 10% dividend growth through 2020. Previously, the company had guided for $2 billion in excess distributable cash flow, or DCF, over the next five years, but crashing crude is calling that amount into question.
Kinder's dividend is safe and still on track to grow... for now
We projected $2 declared dividend for '15 and that's up 15% from $1.74 in '14 and we said we'd have over $500 million of coverage. As we refined our budget, the actual coverage number in our budgets is much greater. It's $654 million to be precise at those prices that I just mentioned.
Now in this world of lower commodity prices, we look closely at the impact on our excess cash and found it to be about $10 million per $1 change in crude price. And that's about $7 million in our CO2 segment that you heard us mention time and time again pretty consistent from year-to-year and about $3 million throughout all of our other business segments in the company. -- Richard Kinder
The prices of oil and gas when Kinder calculated its $654 million in excess DCF coverage were $70 per barrel and $3.8 per thousand cubic feet of gas.
As of Jan. 30, the prices of oil and gas are $45.36 per barrel and $2.66 per thousand cubic feet.
Thus, by Kinder's estimations, the current price of oil should reduce its excess dividend coverage by $380 million, but still leave a comfortable $274 million in excess DCF for the year. However, the longer oil prices remain low, the greater the chances Kinder may not be able to achieve its previous dividend growth guidance.
Bottom line: Kinder's dividend is safe and on track to grow as predicted, but falling oil prices pose a growing risk
In my opinion, Kinder Morgan's enormous portfolio of nation-spanning, long-term contracted natural gas pipelines represents one of America's best dividend growth opportunities in the energy sector. The acquisition of Hiland Partners should only help Kinder continue to diversify and expand its fossil fuel transportation empire and improve long-term dividend growth. That being said, low oil prices, if they persist beyond 2015, might pose a growing threat to the previous dividend growth guidance.
Adam Galas unfortunately has no position in any stocks mentioned but looks forward to the glorious day when he can afford to own shares of 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.