- Analysis of Kinder Morgan's EBITDA is a short-term distraction for most long-term investors.
- Kinder Morgan's recent decision to merge companies is cash flow dilutive in the short term, but significantly accretive in the medium and long term.
- Kinder Morgan has publicly provided very clear guidance on current and future dividend coverage backed by 14 years of promises made and promises kept.
Hedgeye recently posted The Comp Table KMI Didn't Publish with the implicit goal of drawing attention to Kinder Morgan's EV/EBITDA and Debt/EBITDA.
I'm not a fan of EBITDA because I care about earnings after interest, taxes, depreciation and amortization. Further, as Ben McClure explains very clearly:
"EBITDA first came to prominence in the mid-1980s as leveraged buyout investors examined distressed companies that needed financial restructuring. They used EBITDA to calculate quickly whether these companies could pay back the interest on these financed deals."
I get that Kinder Morgan (NYSE:KMI), (NYSE:KMP), (NYSE:KMR) and (NYSE:EPB) uses leverage. But even a quick glance at the balance sheet and its credit access provides clarity on servicing debt and rewarding shareholders. But why take my word for it. Kinder's 10-August-2014 presentation (Page 4) speaks volumes:
- 6 years of dividend safety (averaging 1.1x coverage)
- Elimination of IDRs (lower cost of capital)
- Lower "tax attributes" (more capital safety)
Importantly, the presentation makes it clear that this is cash flow dilutive in the short term; significantly accretive in the medium and long term.
It's exactly this long-term thinking and action that makes investors respect Kinder Morgan while speculators and traders will be frequently frustrated.
Although you may roll your eyes, I agree with Warren Buffett on EBITDA. Per Berkshire's 2000 Annual Report:
"References to EBITDA make us shudder -- does management think the tooth fairy pays for capital expenditures?"
And Berkshire's 2002 Annual Report:
"Trumpeting EBITDA (earnings before interest, taxes, depreciation and amortization) is a particularly pernicious practice. Doing so implies that depreciation is not truly an expense, given that it is a "non-cash" charge. That's nonsense. In truth, depreciation is a particularly unattractive expense because the cash outlay it represents is paid up front, before the asset acquired has delivered any benefits to the business. Imagine, if you will, that at the beginning of this year a company paid all of its employees for the next ten years of their service (in the way they would lay out cash for a fixed asset to be useful for ten years). In the following nine years, compensation would be a "non-cash" expense - a reduction of a prepaid compensation asset established this year. Would anyone care to argue that the recording of the expense in years two through ten would be simply a bookkeeping formality?"
EBITDA always seems like a way to throw normal, long-term investors off the trail. And again, Kinder acknowledges that in the short term this won't be perfect. But enough about EBITDA for now. I think many readers here are more interested in KMI's dividends.
Is the Dividend at Risk?
Hedgeye's secret "Comp Table" shows a 130%-200% Dividend Payout Ratio. This seems to indicate that Kinder Morgan is going to be needing a lot of extra borrowed cash to pay out dividends, or that it'll have to eat growth projects, or something else negative and unexpected.
The calculation isn't shown from what I can tell. And it's based on 2014 data during a turbulent time and before the companies all come together. Is the payout ratio based on earnings per share? Or maybe EBITDA? Or maybe cash flow? To be perfectly fair, I can't evaluate it properly.
So what does Kinder Morgan say? I'll again refer to KMI's presentation: There is visible absolute dollar coverage of over $2.0 billion. And, there's 6 years of 110% coverage. Plus, there's an expected growth rate of 10% from 2015 to 2020 on top of a $2.00 starting dividend.
But, there's more, that many folks have missed. The KMI presentation (Page 9) also indicates that it will grow its dividend per share by an average of 8% per year from 2015 through 2020 without any tax depreciation from asset step-ups. So, that's kind of a floor on dividend growth going out 5 years.
This is all up in the air since no one can prove the future will turn out this way. But the key question is about dividend safety. I think everyone reading this understands the $2.00 dividend and the 8%-10% growth. But, I'm also seeing real safety and strong coverage.
I'd also like to point out that KMI has exceeded its dividend target in each of past 3 years, KMP achieved or exceeded LP distribution target in 13 out of 14 years, and EPB has achieved LP distribution target in both years under KM management. I believe that the KMP data (see Page 20) speaks volumes about Kinder Morgan's truth-in-dividends and safety going forward.
In summary, EBITDA is largely a distraction and Kinder Morgan has pretty much explained how things will play out short term and long term. The numbers back this up. Dividends also appear to be safe at this point and many years out. And again, Kinder Morgan has been very clear on its dividend expectations five years in advance.