My research on Kinder Morgan (NYSE:KMI) and Enbridge (NYSE:ENB) has lead me to write this article about the similarities and differences I have found of both companies. It appears to me that Enbridge's business model is somewhere in between Kinder Morgan's present and Kinder Morgan's pre-dividend cut business model. But as I will discuss later, Enbridge has taken a more prudent approach to be able to continually access equity markets for funding, where Kinder Morgan failed.
This article will be written in several sections namely:
-Valuation based purely on materialized assets
-Valuation based on "good" Equity markets. I will define a good Equity market later in this article
-Why if all factors stay the same, Enbridge will outperform Kinder Morgan in the long term
Fundamental Assessment of Valuation
Please note all guidance and metrics are taken from the Enbridge 2015 Annual Report, the Enbridge Quarter 3 Report, the Kinder Morgan 2015 Annual Report, or the Kinder Morgan Quarter 3 Report, whichever has the more up to date information. Metrics for Enbridge will be in CAD and all metrics for Kinder Morgan will be in USD. DCF and ACFFO will be used interchangeably, as they are intended to mean the same thing. In my opinion, the ratios of valuation are what is important.
Kinder Morgan had total Debt of roughly 39.5 Billion vs Enbridge's Debt of 42 Billion.
Kinder Morgan has a Market Cap of 50.6 Billion as of Jan 13, 2017 compared to Enbridge's Market Cap of $53.35 Billion.
Kinder Morgan has a budgeted Distributable Cash flow of $4.7 Billion for 2016 (management now expects Actual DCF to come 3% below, I will take that as $4.55 Billion) compared to Enbridge's estimated Available Cash Flow From Operations of between $3.5 Billion and $4.2 Billion (assuming 930 Million shares outstanding and the guidance range offered of $3.80 to $4.50 per share, I will estimate it as $4 Billion).
|Available Distributable Cash Flow||4.55||4|
|Distributable Cash Flow / Market Cap||0.09 or 9%||0.075 or 7.5%|
Looking purely at the metrics provided, Enbridge's Equity appears to be more richly valued than Kinder Morgan's. With that said, I believe that if both companies were valued purely on their present assets and liabilities, assuming 1) closed off from any more funding of equity 2) ignoring the potential of growth backlog which has not yet materialized, Kinder Morgan may have slightly better value.
However, the real-world case is quite different. At current stock prices, Enbridge's richer valuation of Distributable Cash Flow / Market Cap of 7.5% means that any growth project funded with equity that produces a higher return than 7.5% will already be accretive to current shareholders, versus Kinder Morgan's which would need projects that yield over 9% to be accretive. With Enbridge's 26 Billion in Commercially Secured Growth Backlog, this difference will be astronomical. Assuming Enbridge continues to be able to issue equity at a Distributable Cash Flow / Market Cap of 7.5%, and a growth Backlog of something higher than this, they will be able to leverage on the returns in between to benefit all long-term shareholders with growing dividends. The one requirement is simple: they need to be able to issue equity at an acceptable rate as it is right now.
I believe they will be able to do this, because they have prudently given themselves a measure of safety aiming to payout only around 50% of ACFFO. Kinder Morgan's failure was their greed. They focused so hard on acquiring an astronomical equity valuation far higher than the "real" value of their company to the extent that they were scaling themselves to pay out near 100% of DCF. When the storm came, the house on the sand blew over, and the dividend was cut. I've seen the term "liars" and "thieves" being used to describe them, I believe it is simply greed. As a result of the whole ordeal, their equity is valued accordingly from a position lacking trust from the community, with a Distributable Cash Flow / Market Cap of 9%, making it much less economical for them to issue equity. Enbridge on the other hand, is taking a slower, steadier approach to growth. With a pay out of 50% they are able to be considerate of the many private investors who put their trust in them that the yield they offer is safe. With the trust of the people, they are able to use their abilities and market knowledge to constantly find growth at a higher rate and generate value for all shareholders through equity issuance.
Long Term Outlook
I believe that Kinder Morgan will perform acceptably in the future. They generate just over a billion dollars in Distributable Cash Flow each quarter, pay a dividend that is easily covered and use the rest of the money for growth. They are taking the right steps a company without access to reasonable equity pricing should take by self-funding projects and finding partners.
I believe that Enbridge will most likely outperform in the future. They will constantly honor their dividends, maintain their equity price, and build a large asset base using equity issued. If this all works out, it will be naturally accretive to shareholders because of the spread of returns on their projects and the equity valuation, as well as that they can earn more as a general partner of new assets. The one problem Enbridge may face is if their equity declines substantially, then they will have funding problems for their Growth Backlog. In the absence of a backlog which can be materialized by equity funding, as shown in the initial scenario, Enbridge might underperform. The chance of this scenario would be very low for anything short of a full market crash, a disaster on the mainline, or some form of exposed dishonesty. Not to mention, they also have a huge line of credit of over 10 Billion dollars to draw upon.
Disclosure: I am/we are 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.
Additional disclosure: May close a position in KMI and open one in ENB in the next 72 hours.