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by Ishtiaq Ahmed

Kinder Morgan Inc. (NYSE:KMI) is one of the largest midstream companies of the U.S. Its status as one of the leading energy transporters of the country allows it to generate impressive cash flows, which the company distributes back to its shareholders. Since the IPO, the company has been paying regular cash dividends. At present, the stock offers an attractive dividend yield of 3.92%. Over the past five quarters, the company has increased its quarterly dividends on four occasions. Kinder Morgan currently pays a quarterly dividend of $0.35. In the present day low yield environment, a lot of investors turn to dividend paying stocks. However, it is important to identify stocks which can sustain its current dividend levels or potentially increase them. In this article, I analyze KMI's cash flows based on essential metrics in order to determine the dividend safety.

Free Cash Flows:

Free Cash Flows

2011

2010

2009

Net Income

$660.00

$299.60

$773.10

Depreciation and other noncash charges

$1,091.90

$1,078.80

$1,070.20

Funds from Operations (FFO)

$1,751.90

$1,378.40

$1,843.30

change in noncash current assets

$288.00

$231.00

$119.00

change in noncash current liabilities

$326.00

$302.00

$136.00

Operating Cash flows

$2,365.90

$1,911.40

$1,588.30

Capital Expenditures

$1,200.00

$1,002.00

$1,324.00

Free Operating Cash Flow

$1,165.90

$909.40

$264.30

Source: SEC filings

The funds from operations have shown a mixed trend over the past three years. FFO fell in 2010 due to a fall in the net income of the company. However, FFO picked up again in the following year as KMI reported impressive net income figures. The cash flows from operations stood at significantly improved levels in 2011 as compared to 2009. KMI also invests considerably in the business. In each of the previous three years, capital expenditures have been above $1 billion. As a result, the free cash flows of the company demonstrate an upward trend during the past three years.

Essential Ratios:

Essential Ratios

2011

2010

2009

Funds from Operations(FFO)/Total Debt

0.33

0.21

0.25

FFO/Capital spending requirements

1.46

1.38

1.39

Free Operating Cash Flow + interest expense/ Interest expense

2.66

2.36

1.44

Debt Service coverage

1.56

1.82

0.94

The first ratio indicates that the debt of the company is adequately covered with the FFO. In fact, the funds from operations to total debt ratio has increased significantly by the end of 2011, indicating strengthening cash position of the company. The second metric indicates that one of the most important components of the firm is easily covered with the FFO of the company. My analysis shows that the firm should be able to meet its capital spending requirements through its internally generated funds.

The last two metrics in the table indicate that the firm is able to meet its interest and debt payments sufficiently. Interest coverage ratio of the company has shown stability over the past three years, indicating the firm should not have any trouble paying its interest obligations. Further, the debt service coverage ratio for KMI is also in a fairly strong position. The analysis indicates the firm is able to meet its debt servicing requirements through its cash flows.

Current Year Expectations:

My analysis up till now covers the performance of the company over the past three years. However, it will be inappropriate if we do not discuss the current year expectations of the company and how it could affect the metrics. During the current year, KMI dropped down El Paso assets to Kinder Morgan Partnership (NYSE:KMP). In August, KMI dropped down all of the Tennessee Gas Pipeline assets, and it also sold 50% stake in the El Paso Natural Gas Pipeline (NYSE:EPD) to KMP for $6.22 billion.

These dropdowns are important as they will allow KMP to increase cash flows. KMI was forced to sell assets in certain regions to avoid antitrust violations. These dropdowns will affect the balance sheet of the company positively. All of the Kinder Morgan companies, including Kinder Morgan Management (NYSE:KMR) and El Paso Pipeline Partners increased their dividends last quarter, indicating all businesses will be able to continue their payouts. I believe the cash flows of the company will further improve, and it will affect the metrics positively.

Summary:

My cash flow analysis indicates the firm is in an incredibly strong position, and it should be able to maintain its current dividends. In fact, I believe another dividend increase may be just around the corner as the El Paso acquisition starts to bear fruit. During the previous year, KMI paid cash dividends of $769.6 million and had free cash flows of $1,165.90 million. The payout for 2011 based on free cash flows comes out to be around 66%. KMI dividends are sufficiently covered through free cash flows. For the first six months of 2012, KMI paid cash dividends of $446 million and generated operating cash flows of $1.013 billion. The distributions are not only safe, but they even have room for substantial growth.

Disclaimer: EfsInvestment is a team of analysts. This article was written by Ishtiaq Ahmed, one of our writers. We did not receive compensation for this article (other than from Seeking Alpha), and we have no business relationship with any company whose stock is mentioned in this article.

Source: Kinder Morgan: Juicy Dividends Backed By Impressive Cash Flows