Kimberly Allen Dang - VP and CFO
Brian Zarahn - Barclays Capital
Kinder Morgan Energy Partners, L.P (KMP) NAPTP 2013 MLP Investor Conference May 23, 2013 9:00 AM ET
Brian Zarahn - Barclays Capital
Good morning. I’m Brian Zarahn from Barclays. I’m very happy to introduce Kinder Morgan Energy Partners. As many of you know, Kinder Morgan Energy Partners is one – is a large diversified MLP. They’re part of the Kinder Morgan family, which combined is one of the largest energy companies in North America. At the KMP level, they have been very active this year, just closed their acquisition of Copano, combining that with some dropdowns and organic spending. About $10 billion expected to be invested this year, so a lot of growth opportunities this year and ahead for Kinder Morgan.
So to give us an update is CFO, Kim Dang.
Kimberly Allen Dang
Thanks, Brian. All right. At Kinder Morgan we try to give you a lot of different options for investment. So, there are four ways to invest at Kinder Morgan. The two MLPs in the green box, below the single box KMI, KMP and EPB. There are two ways to own the MLP or the limited partner units in KMP, the traditional KMP units and also the KMR shares with the only difference being between the KMP units and the KMR shares is KMP pays a cash distribution, KMR pays its distribution and additional shares. The reason for that is to alleviate some of the administrative burdens and some of the tax issues associated with MLPs and allow institutions to invest.
EPB is the limited partner security of the El Paso Partners pipeline MLP and then KMI is the general partner of both MLPs. On a combined basis, enterprise value is over a $115 billion and that makes the Kinder Morgan family the third largest energy company in North America.
Our strategy has been the same since inception. We want to focus on stable fee-based assets that are core to the energy infrastructure. We want to control costs. This is about delivering growth to our investors. It’s not our money; it’s the investors’ money. So, you’ll not see any sports stadiums with our name on it. We don’t have any sports tickets when we acquire companies. We get rid of their sports tickets. We don’t have any corporate jets. There are no special executive pension plans or SERPs and so our job is to minimize the cost and to return the money to our investors.
We leverage our asset footprint, the assets that we have led to tremendous growth opportunities and investment opportunities over the years. We’ve invested $22 billion in acquisitions and about $16 billion in expansion projects. Because we access the market on a continual basis to fund the MLPs. Maintaining a strong balance sheet is paramount. And we also try to be very transparent to our investors, publishing our budget every year and comparing our results to that on a quarterly basis.
Kinder Morgan’s footprint is unparalleled. We are the largest natural gas transporter. We are the largest independent transporter of petroleum products. We are the largest transporter of CO2 and we’re the largest independent terminal operator and we’re the only oil pipeline serving the West Coast of Canada.
We’ve generated 17 years of consistent growth at KMP. So, if you look at the total distributions that we payout to our limited partner and our general partner, we’ve grown those over the last 17 years at 38%. Now if you look at the limited partner distribution, so taking in the cost of capital of issuing additional units, we’ve grown the limited partner distribution at about 13% per year. And on the bottom chart, you can see we’ve done that without leveraging the balance sheet.
We expect to end 2013 at about 3.8 times debt to EBITDA. That includes the impact of the Copano acquisition. Our original budget was to end at 3.7 times. We are going to be a little bit higher than that largely because you don’t have a full-year of Copano, but you’ve got the entire acquisition on your balance sheet. That growth has led to a significant historical returns for our stockholders.
If you look at KMP, since the time current management took over in 1997, we generated 25% compound annual growth rate for our investors. At KMR since its IPO in 2001, 16% compound annual return and at KMI since we came back public in 2011 and 18% compound annual return. So, very nice returns, generated off the back of the growth of the – that I showed on the previous slide.
As I said – I mentioned a moment ago, we publish our budget for our investors every year. So at KMP we’ve been publishing our budget for 13 years. And 12 out of 13 years we have met or exceeded that budget. We missed it – the only year we missed it was in 2006 and we missed it by two pennies.
Looking at our 2013 guidance, 2013 our original guidance at KMI was a $1.57 a share. A few weeks ago, after we close the Copano acquisition, we updated that to incorporate Copano and primarily as a result of that, KMI is now projected to pay dividends in 2013 of a $1.60 a share, which is about 14% growth over the 2012 dividend.
And you can see here that KMI now when you look through at the cash flow coming from all the MLPs, is over 50% natural gas pipelines. At KMP the original budget was – '13 budget was $5.28 per unit. We have also as a result of Copano updated this guidance and the revised guidance is $5.33 per unit, which is 7% growth over 2012.
And then EPB, the guidance – the budget guidance unchanged. It’s obviously not impacted by the Copano acquisition at $2.55 or 13% growth. So, very nice growth in all of the cash flow coming off of all three securities.
On the balance sheet side, we expect KMI still on a fully consolidated basis to end the year about five times debt to EBITDA. KMP as I mentioned, about 3.8 times slightly higher than our original budget, and EPB at 3.9 times.
Now what gives us confidence in our growth for the long-term for all three of these companies is the project backlog. And you can see here that we’ve got $13 billion of identified growth projects. This is not everything that we have and so you can see at the bottom we mention certain things that are not included in this backlog. But in the backlog, are projects that we have, a high degree of confidence we either have customer commitments on or we’re fairly confident that we’ll get the customer commitments to underpin those expansions.
So what’s driving this backlog of projects? There is a couple of things. On the natural gas side, the LNG exports at – we’ve got LNG export facility at Elba Island we also have an LNG – sorry, import facility at Elba Island. We’re currently working and have announced a project with Shell to do an export facility at Elba Island, which is not contingent on getting the DOE approval, because it is FTA only volumes. We are also looking at a potential project at Gulf LNG, so the LNG exports are driving growth.
Demand for natural gas in Mexico is driving growth. The growing South power demand – power generation demand in the Southeast is driving growth. Also just the incredible supply of condensate and NGL volumes coming out the shale play is driving a fair amount of growth.
The Oilsands production up in Canada is driving a huge project for us on Trans Mountain. And then on the terminal side, we’ve got growth being driven by export coal and also all the oil, the crude oil volumes and condensate volumes that are coming out of the shale, are driving tremendous opportunities for us on the terminal side to store those volumes primarily in the Houston Ship Channel and in Cushing and then also on the – up in Edmonton as a result of the Oilsands supply. So, lots of different diverse energy themes driving the $13.6 billion in expansion projects.
Looking specifically at KMP, you can see $5.7 billion of expected earnings before DD&A. Natural gas pipelines as a result of the El Paso acquisition in the dropdown that came from KMI to KMP and a result of the Copano acquisition is now over 40% of KMP.
Then, CO2 is about 25%. If you break that 25% into what is the oil production versus what is the traditional CO2 pipeline business, about 18% of our business is associated with the oil production. This is the only – really the only place at KMP where we have direct commodity exposure. And so we – we’re very focused on hedging that commodity exposure and you can see on the right hand side of the screen that 2013, we got about 80% of that hedged and our sensitivity to a dollar move in the price of oil is around $6 million in DCF.
The terminals business is about 15%. Canada is about 3% and products pipeline is about 14%. So you can see a big move if you look in prior years versus the current year, towards natural gas as a result of the acquisition.
This is our 2013 growth budget. As Brian mentioned, when you look at with acquisitions, including the Copano acquisition, about $10 billion in acquisitions and expansion. If you look at it without acquisitions, it’s the $2.8 billion. Now the comparable budget number is about $2.5 billion, so we’ve got about $300 million of incremental spending above our budget, which is primarily a result of new opportunities that we’ve identified since the time we did our budget. There is some spending that move from 2012 to 2013, but the primary thing driving that $300 million is just additional opportunities that we’ve identified since the time we put our budget together.
The other thing I would say is – I mention is that all the expansion capital associated with the acquisitions is in the $10 billion number not in the $2.8 billion. So the spending associated with Copano, and the spending associated with the drops, the 50% of EPNG and the 50% of midstream.
So over the last 16 years we’ve invested about $40 billion in capital at KMP. Obviously you can see the largest year is what we expect to do in 2013, that’s $10 billion. But we’ve invested about $18 billion in expansions, and about $22 billion in acquisitions, so a little bit more in acquisitions than expansions. And as you can see and as our pie chart previously indicated $22 billion of that has gone into natural gas pipelines and then products, terminals and CO2 all at about a little over $5 billion each, and with Kinder Morgan being – Canada being the smallest.
So, how have we done on investing that capital? We have generated as you can see a KMP ROI so that’s an un-levered return on that investment of about 13.6%, and we think about our cost of capital being about 9%, so that’s about 460 basis points over our cost of capital, and that is one of the largest drivers of the growth in cash flow that I mentioned. We do not do projects close to our cost of capital. So, we are not going to go – our cost of capital is 9%. We’re not going to go out and do a project at 9.5% or 10%, because there are just too many potential for changes and what you expect to happen and what actually happens that can result in that project not being as good.
Now it could be much better, but we’re not going to take the risk that we have a project coming and at or below our cost of capital. So we generally think that we need to earn at least about 300 basis points above our cost of capital. And then beyond that what we do is we look at the risk of the project. And so, if we have a 20 year take or pay contract on a natural gas pipeline where we’re not taking a lot of risk on construction then we expect to get a 12% return on that.
On the other hand, at the other end of the spectrum if we’re investing in a CO2 flood where we’re actually using our CO2 injecting it into the ground and producing oil, and so we have some commodity risk and a little bit more volume risk, then we’re going to expect to earn a 20% un-levered return on that investment. And you can see that same playing through as you look at the various segments. So natural gas pipelines we earn about almost 12% return on our investment as well as products pipelines versus if you look at CO2 in 2012 about 29%.
So looking at EPB; EPB is 100% focused on natural gas. It's got about $1.2 billion of segment earnings before DD&A. It's got very, very stable cash flow about 90% of its revenues come from take or pay or capacity reservation charges, and it's got reasonable links on those contracts. You can see on the interstate pipes it's got about 7 years and on the LNG facilities about 19 years. But despite being very stable because of what's happening in the midstream energy space, EPB has nice opportunities for growth, primarily driven by the LNG exports that I mentioned previously, and then the growing power generation demand in the south east.
Turning to KMI; KMI is a C-Corp and pays a dividend. KMI still have some assets sitting at -- we target -- we want KMI to basically be a pure-play GP. As a result of the El Paso acquisition, KMI now owns some assets. Our strategy is over time to drop those assets down to either KMP or EPB and to get KMI back to a pure-play GP where basically all that it owns is its interest GP and LP interest in the two MLPs.
So what's remaining at, we’ve executed on a large number of dropdowns last year and this year. What's remaining at KMI to be dropped down is a 50% interest in Gulf LNG which we expect to be dropped down later this year to EPB. And so when we get to 2014 there will be two assets remaining at KMI for dropdown, and that’s our 50% interest in Florida Gas Transmission and our 50% interest in Ruby.
I think a very important point about KMI is the substantial management ownership. As you know; Rich and other management -- but primarily Rich own about 29% of the stock. He gets a $1 a year in salary. He gets no bonus, no options, no restricted stock. So he gets paid just like an investor gets paid. If the dividend goes up, that’s great. If the stock price goes up, that’s great. If the dividend doesn’t go up or the stock price goes down, that’s not good for him. So his interests are pari passu with the investors.
Now, turning to the risk at our companies; I think everybody should get to this point, they’ll say well this all sounds great, all right. So, what could go wrong? So we’re going to tell you here are the things that could potentially go wrong although we work very hard to try to make sure that these things don’t come to provision. But on the regulatory side we own 60,000 miles of regulated pipe. And so from time-to-time the FERC initiates Section 5 rate cases. You could always have unexpected policy changes at the FERC.
On the crude oil side, on the CO2 side, I mentioned that we produce crude oil volumes. Those volumes fluctuate more than our volumes for example on our products pipeline. But you have to put that in perspective, because when you say well you got some volume risk, I mean when we talk about the potential for fluctuation on volumes as SACROC or Yates, I mean because these are CO2 floods and all you’re trying to do is extend out the tail on the oil field. So what we’re talking about is you could have a 5% or 10% fluctuation in volumes. We’re not talking about volumes could fluctuate 50% or 60% from what you’re expecting.
Crude oil prices, I mentioned we hedged that exposure and our 2013 sensitivity is about $6 million per dollar change. We have some economically sensitive businesses in our terminals group. For example we have some terminals that handle steel, and so when you’re in bad economics times those volumes can decrease. You’ve got environmental and terrorism risk. Now we carry insurance to protect against these, but obviously that, if you have a lot of stills that can be a reputational impact.
Now we spent a lot of time trying to manage and make sure that we are running safe and efficient operations, and so one thing that we do for our investors is we publish our safety statistics on our website. And our goal and generally we are successful at this is to be better than our industry average in all the industries that we’re in, and also we track what our three year average is and we’re constantly trying to improve against our own three year average.
And then interest rates, then this primarily relates to KMP which is we float on a reasonable portion of our debt right now at KMP, it's around 35% and that’s about $61 million if you had a 100 basis point increase for a full-year at KMP which really means you’d have about 200 basis point move over the year to average a 100 basis points.
So in summary, we have an unparallel asset footprint, and that asset footprint drives huge growth opportunities for us. As a result of the El Paso acquisition we’ve also got an inventory of dropdowns available for the MLPs. And those two things in combination drive very attractive growth at the MLPs, and so you can see here, we expect and target to grow KMP and EPB at about 5% to 6% per year, and KMI at about 9% to 10% per year.
And that is all I have, and so I think we have five minutes remaining, and I’m happy to take your question if anybody has one.
Talk a little bit about acquisition and (indiscernible).
Kimberly Allen Dang
We don’t have to sign our paychecks but …
Kimberly Allen Dang
Sure. So, you can see going back to our return slide. On our terminals we earn about -- on average on that business we earn about, I think it's about 13% return on our terminals business. And so that’s consistent with what we target on a project like that in that range maybe slightly above, and it goes back to our – just our philosophy which is, if you’re getting long-term contracts you got to look at what's the length of the contract, what's the credit net worthiness of the shipper, right. And how much risk are you taking to build and that goes to how complicated it is to build, how large is it, and how over what period does it extend, because the larger time it extends the harder it is to be able to control those costs because you’re subject to more market forces. And so that takes you, when you look at those things you say okay, how much should that move me off my 12% return. And so typically on a terminals business you’re going to target mid-teens type returns.
Hi. Thank you very much. I have two questions. The first is, with all of the building of pipelines that’s going on throughout the country, obviously there’s a lot of new projects coming on in the E&P side as well. What risk do you see in terms of displacement or cannibalization of your competitors existing pipelines from the new pipelines that are being built?
Kimberly Allen Dang
Well, I mean over time a supply basin shift, you have some pipe that gets underutilized and I think the great news though is it's always good to have assets in the ground. And so, what we’ve been successful at doing over time is taking those pipelines that are underutilized as supply basin shift and converting them to another use. And just a couple of examples; Cochin pipeline which was built to transport propane out of Canada down into Chicago and then back up into Eastern Canada, have seen some decline in volumes over time as the natural gas production in Canada or the export of the natural gas production declined. Well, we are converting that pipeline to take diluent back up into Canada and we’ve got long-term contracts to do it, and that actually is going to come online in mid 2014. And so what's happening there is you’ve got the diluent volumes are coming out of the Houston Ship Channel as a result of the production in the Eagle Ford. They’re moving up another pipeline into Cochin, and then Cochin is taking it back up into Canada. Another example is, we had an underutilized leg on our natural gas pipeline in Texas and we were able to take that pipeline and convert it to a condensate pipeline and so we only had to build a segment of a new pipeline which allowed our project to be very competitive in the market in terms of the rates we could offer. But also it resulted in us earnings very attractive returns. And so, I think that as much as is a threat a supply basin shift is also a big opportunity.
Great. How do you decide dropdown opportunities between KMP and EPB?
Kimberly Allen Dang
Yeah, so there’s two assets remaining and I guess, you’re asking me where I think those two assets are going to go, because that’s the only two we have an inventory, at KMI. And so I think we look at where does KMI get the most accretion. We look at who has the better strategic fit on that asset, and who potentially has some additional synergies as a result of that. And then it's really a function of the independent boards. We make a recommendation to the independent boards, and then they negotiate the sales price between the two, the non-management members of those boards.
At what point if ever does it make sense to combine EPB and KMP?
Kimberly Allen Dang
Sure. So, what we said at the time of the El Paso acquisition was we liked having the two MLPs out there, because it allowed us to accelerate dropdown because you had two potential avenues to dropdown. And so, as a result of that we were able to, what we originally thought we are going to do in three years, I think we’re now going to end up wrapping up in 2014, so it's going to be about a little over two years by the time we get all the assets dropped down. And so beyond that I think it’s a question of when this – when if ever does it make economic sense to combine those two and then again it’s a function of the independent boards deciding that make sense and then the limited partners voting on that. And so, if the economics work, I think it would be great to combine them. But if the economics don’t work, and it’s not good for everybody, then there is – we have no issue running the two separate MLPs. There is not a huge administrative burden in doing that. I think we’re out of time. Thanks everyone.
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