Over the past few weeks I have been watching the recent developments of the Energy industry. This has provided an excellent opportunity to search for stocks in this sector for investment purposes. One company I think is very interesting to analyze is Kinder Morgan (NYSE:KMI). While there are many different factors to look at and consider when investing, in the article below I will look at the debt side of the company. I will analyze Kinder Morgan's total debt, total liabilities, debt ratios and what analysts and other top investors believe about this company. From this analysis we should get an idea if the company is highly leveraged and how much to expect in return for investing in this company over the long term.
It is essential to remark that gaining knowledge about Kinder Morgan's debt and liabilities is a key component in understanding the risk of investing in this company. In 2008 and 2009 we were able to see some of the repercussions that highly leveraged companies with large amounts of debt succumbed to. By studying the debt part of Kinder Morgan, the investor can understand if the Kinder Morgan is able to keep its capital and use it for growth in the future.
Total Debt to Total Assets Ratio
This is a metric used to measure a company's financial risk by determining how much of the company's assets have been financed by debt. It is calculated by adding short-term and long-term debt and then dividing by the company's total assets.
A debt ratio of greater than 1 indicates that a company has more total debt than assets; meanwhile, a debt ratio of less than 1 indicates that a company has more assets than total debt. Used along with other measures of financial health, the total debt to total assets ratio can help investors determine a company's level of risk.
Kinder Morgan's total debt to total assets ratio has decreased over the past three years. As the total debt to total assets ratio has decreased from 0.55 to 0.46, this indicates that since 2010, the company has added more total asset value than total debt. This shows that management is committed to reducing debt.
As the number is currently well below 1, this indicates that Kinder Morgan has more assets than total debt. Because this number is extremely low (0.46), this metric indicates very low financial risk to the company.
Debt ratio = Total Liabilities / Total Assets
The debt ratio shows the proportion of a company's assets that is financed through debt. If the ratio is less than 0.5, most of the company's assets are financed through equity. If the ratio is greater than 0.5, most of the company's assets are financed through debt. Companies with high debt/asset ratios are said to be "highly leveraged." A company with a high-debt ratio or that is "highly leveraged" could be in danger if creditors start to demand repayment of debt.
In looking at Kinder Morgan's total liabilities to total assets ratio over the past three years, we can see that this ratio has also decreased. The ratio has decreased from 0.9 in 2010 to 0.8 in 2012 TTM. I like the fact that the company decreased its debt and improved the Liabilities/Assets ratio.
As the 2012 TTM numbers are above the 0.50 mark, this indicates that Kinder Morgan has financed most of the company's assets through debt. As the number has increased, so is the risk to the company.
Debt-to-Equity Ratio = Total Liabilities / Shareholders' Equity
The debt-to-equity ratio is another leverage ratio that compares a company's total liabilities with its total shareholders' equity. This is a measurement of how much suppliers, lenders, creditors and obligators have committed to the company versus what the shareholders have committed.
A high debt-to-equity ratio generally means that a company has been aggressive in financing its growth with debt. This can result in the company reporting volatile earnings. In general, a high debt-to-equity ratio indicates that a company may not be able to generate enough cash to satisfy its debt obligations, and therefore is considered a riskier investment.
Compared with 2010, Kinder Morgan's debt-to-equity ratio has decreased. The ratio has decreased from 7.35 in 2010 to 4.15 in 2012. I consider this a good signal: the company has a much cleaner or less riskier balance sheet. I look for companies with reduced debt-to-equity ratios.
As the ratio is currently well above 1, this indicates that shareholders have invested more than suppliers, lenders, creditors and obligators. 4.15 indicates a high amount of risk for the company. As the ratio is above 1 and considered high, so is the risk for the company.
Capitalization Ratio = LT Debt / LT Debt + Shareholders' Equity
(LT Debt = Long-Term Debt)
The capitalization ratio tells the investors the extent to which the company is using its equity to support operations and growth. This ratio helps in the assessment of risk. Companies with a high capitalization ratio are considered to be risky because they are at a risk of insolvency if they fail to repay their debt on time. Companies with a high capitalization ratio may also find it difficult to get more loans in the future.
Over the past three years, Kinder Morgan's capitalization ratio has decreased from 0.81 to 0.69. This implies that the company has more equity compared with its long-term debt. As this is the case, the company has had more equity to support its operations and add growth through its equity. As the ratio is decreasing and currently in 0.69, financially this implies a slight decrease of risk to the company. As the ratio is only 0.69 this implies extremely low financial risk.
Cash Flow to Total Debt Ratio = Operating Cash Flow / Total Debt
This coverage ratio compares a company's operating cash flow with its total debt. This ratio provides an indication of a company's ability to cover total debt with its yearly cash flow from operations. The higher the percentage ratio, the better the company's ability to carry its total debt. The larger the ratio, the better a company can weather rough economic conditions.
Over the past three years, the cash flow to total debt ratio has increased. The ratio has increased from 0.81 in 2010 to 0.12 in 2012 TTM. This is a good signal. It means that Kinder Morgan improved its cash flow metrics in the past 3 years.
Institutional Investors bet on Kinder Morgan
In the recent quarter, both Steve Mandel and John Burbank among other prominent investors bought at an average price of $34.
Currently, many analysts have a good outlook for Kinder Morgan. Analysts project an average EPS of $1.23 for FY 2013 and an EPS of $1.42 for FY 2014. Analysts at Bloomberg are estimating Kinder Morgan's revenue to be at $12.31b million for FY 2013 and $13.47b million for FY 2014. In January, Deutsche Bank gave Kinder Morgan a rating of "Buy" with a target price of $48. A $48 price target signifies significant upside potential from this point.
Disclosure: I am long KMI. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.