Suriyapong Thongsawang
Introduction
It's once again time to discuss one of the most important topics in global macro: liquid natural gas, commonly known as LNG. Global demand for LNG and (related) natural gas will rapidly rise thanks to its ability to deliver reliable and less polluting energy to both developed and developing nations. Moreover, due to geopolitical issues like the war in Ukraine, Europe has become a go-to-market, underlining the need to speed up developments in LNG infrastructure and production.
In this article, I will walk you through my thoughts as we discuss LNG demand, supply, infrastructure, and two actionable ideas that, I believe, offer great long-term potential.
These plays are Excelerate Energy (NYSE:EE) and the dividend star Kinder Morgan (NYSE:KMI).
Now, let's dive into the details!
The Natural Gas & LNG Bull Case
Natural gas and LNG have become hot topics in 2021, as a result of the war in Ukraine, which we will discuss in greater detail in this article.
However, even before the war, the long-term bull case for natural gas was strong. In February of 2021, well before Russia set foot in Ukraine, McKinsey & Company wrote the following:
Gas will be the strongest-growing fossil fuel and will increase by 0.9 percent from 2020 to 2035. It is the only fossil fuel expected to grow beyond 2030, peaking in 2037. [...]
Meanwhile, LNG is set for stronger growth, as domestic supply in key gas markets will not keep up with demand growth. Demand is expected to grow 3.4 percent per annum to 2035, with some 100 million metric tons of additional capacity required to meet both demand growth and decline from existing projects. LNG demand growth will slow markedly but will still grow by 0.5 percent from 2035 to 2050, with more than 200 million metric tons of new capacity required by 2050.
Most capacity will (have to) come from the United States as it is the largest producer of natural gas, producing almost more than Russia and Iran combined.
Visual Capitalist
Moreover, by 2024, roughly 18% of global domestic consumption is expected to come from LNG. The largest LNG producers are the United States, Qatar, and Australia. By 2050, almost a quarter of global gas consumption will be LNG as domestic production is expected to fall.
McKinsey & Company
Bear in mind that these are pre-war estimates. If the war has achieved anything (in terms of energy flows), it's that LNG is even more important than ever. After all, Russia has now (almost) completely shut down gas flows to Europe as a way to pressure Europe economically.
EIA
In early 2021, Europe received roughly 400 million cubic meters of natural gas per day. That number gradually fell prior to the invasion. Now, it's close to zero after Nord Stream 1 has been blown up.
Bloomberg
I am bringing up the European situation because this is turning into a long-term thing. Even if the war ends - and I doubt it will anytime soon - gas flows will not resume immediately as Europe has made it clear that Russian gas is not part of Europe's energy future. We can obviously debate Europe's energy policies, but for the purpose of this article, it doesn't matter too much.
What matters is that the new situation has made both the short-term and long-term bull cases for LNG even stronger.
Long-term, it creates even more demand for LNG as global natural gas flows have been disrupted. Short-term, we're dealing with a very tricky situation where Europe is facing deindustrialization due to exploding natural gas and electricity prices.
While prices have come down a bit, Dutch TTF futures - the proxy for European natural gas - are still trading at 5x pre-crisis levels.
TradingView (TTF Natural Gas)
Even worse, the market is now finding out that these problems may not be so short-term after all. While the winter of 2022 is going to be hard, 2023 is going to be worse. Or at least, there is a major risk that it will be worse.
Why? Because Europe still benefited from Russian gas when it was filling storage for this year's winter. Now, it will deplete its inventories and have to start all over again without Russian supply. Again, unless a miracle happens.
Earlier this month, the International Energy Agency came out with a key report. The report was titled "Never Too Early to Prepare for Next Winter".
That title is way too mild for a report that basically makes the case that Europe faces widening natural gas shortages next year.
As reported by Bloomberg:
Next year’s supply gap could be as much as 30 billion cubic meters of gas if Russian pipeline flows halt and demand from China rebounds, the IEA said in a report Thursday. The agency repeated its call for measures to bring down gas demand in order to ease the energy crisis.
The outlook echoes industry concerns that next winter will be more challenging than this one because of the longer period with less gas from Russia, once Europe’s biggest supplier. So far, record imports of liquefied natural gas, lower demand and unusually mild autumn weather has kept inventories brimming and reduced the risks of shortages this winter.
But what helped Europe this year won’t be guaranteed in 2023, as Russian deliveries are likely to be much lower and competition from China for available LNG will increase.
The supply/demand gap is displayed in the chart below as LNG exports are just making a dent in the region's injection needs.
IEA
This shortfall means that Europe may lack almost half of the volume it needs to fill storage sites to 95% by next winter.
Moreover, these estimates are based on consumption falling by 11% this winter, compared to the five-year average and storage levels of 30% at the end of this heating season.
Looking at some estimates, things could get much worse as failure to reduce demand could end in almost empty storage levels.
IEA
With all of that said, we're dealing with a short-term bull case based on Europe's desperate situation. The longer-term bull case is built on the need to reduce pollution, which makes LNG the perfect tool to transition away from coal.
In the latter case, the bull case goes well-beyond Europe. China, for example, is currently a player flying under the radar. Due to lockdowns, the nation isn't growing as fast as it could. Estimates are that if China's LNG imports rebound, it could capture over 85% of the expected increase in global LNG supply. That's a number people need to read at least twice as it has so many implications.
One implication is that getting enough LNG supply over the next few years will be like trying to get that diner reservation at that place that's always packed - except that LNG is way more serious than that.
This also means that if Chinese demand rebounds, Europe will be struggling to fill storage levels ahead of 2023.
It's a truly horrible situation global energy markets are in. There's no sugarcoating it.
Now, there are two plays that I believe make sense on a long-term basis. While there are many more suitable investments, I decided to pick two companies that are either not the most obvious picks are investments that are flying under the radar.
I'm also avoiding FOMO (fear of missing out) stocks as I hate buying into overcrowded investments - especially when it comes to putting money to work on a long-term basis.
So, without further ado, let's get to the first one.
1. Kinder Morgan (KMI)
Kinder Morgan is a $40.8 billion market cap energy company operating in the oil & gas midstream industry. Located in Houston, Texas, the company is not a master limited partnership, which means it pays taxes the same way a "normal" corporation does.
There are many reasons to like the company. One of them is its dividend. The company pays a 6.1% dividend yield, which makes it a top 10 payer in the S&P 500.
KMI is basically a way to make money on energy flows in the United States. The company owns the largest natural gas transmission network in the United States, it is the largest independent transporter of refined products, the largest independent terminal operator, and it has the largest CO2 transport capacity. That, too, is a growth market we will discuss in a different article.
Kinder Morgan
If you're new to midstream companies, think of it as owning a road. Every time a car uses your road, it pays. In this case, it's pipelines instead of roads and energy molecules instead of cars.
Also, KMI makes money even if people don't use all of its capacity. Roughly 63% of its contracts are take-or-pay. This means the company is entitled to payment regardless of throughput. It's a reservation fee for capacity.
When it comes to LNG, KMI is a major player and one of the biggest beneficiaries on a long-term basis. The company has most of its assets in Louisiana and Texas, where the LNG boom started.
The company currently moves roughly half of the gas that is exported via LNG facilities. This puts the company in a fantastic position to grow its business on a long-term basis.
According to founder Richard Kinder:
Year-to-date, in 2022, LNG is consuming over 11 Bcf a day and that number incorporates the absence of roughly 2 Bcf a day of demand from the Freeport facility, which has been shut down since June.
According to the S&P Global LNG forecast, that number is predicted to grow to 22 Bcf a day by 2027 as new facilities come online. That’s virtually doubling the current demand, which has already grown by 400% in the last 5 years. We project that after ‘27, LNG demand will continue to grow and expected to be 28 Bcf a day by 2030.
The company now has $2.7 billion in pending projects, an increase of $600 million on a net basis since the second quarter. 80% of these projects are low-carbon investments, natural gas (LNG-related), and energy transition ventures, including renewable diesel and renewable feedstock.
Moreover, it helps that the company's biggest investments have already occurred. Prior to the pandemic, the company regularly invested close to $4.0 billion in annual capital expenditures. Now, these numbers are moderating, allowing the company to consistently generate more than $3.0 billion in free cash flow.
TIKR.com 
This implies a longer-term free cash flow yield of almost 9%, covering the company's dividend, allowing management to reduce debt, and paving the road for increasing buybacks.
So far, the 2022 dividend is up 3% compared to 2021. Moreover, management is actively taking advantage of what it believes to be a "low stock price" as it bought 21.7 million shares year-to-date. That's roughly $367 million. It's less than 1% of the number of shares outstanding. However, bear in mind that KMI is still in the early stages of its buybacks and debt reduction. Buybacks will gradually rise over time.
When it comes to financial stability, the company is gradually reducing net debt. In 2014, net debt was at $42.6 billion, roughly 6.6x EBITDA. That number will likely end up at $31 billion at the end of this year, or 4.1x EBITDA.
TIKR.com 
So, to quote management one more time:
Our balance sheet is strong. We are seeing good value, particularly in natural gas and renewables. We are finding and executing on projects with attractive returns and we are returning value to shareholders.
Personally, I'm starting to get interested in owning some KMI exposure in my dividend portfolio for all the reasons discussed in this article and the fact that it goes well with my existing holdings. I do not have large midstream or LNG exposure and I can use (read: need) some higher yield investments for tax reasons.
Now, onto number two. A company that many may not have heard of.
2. Excelerate Energy (EE)
With a market cap of $2.9 billion, Excelerate is much smaller than KMI. It's also operating in a different sector and industry. Founded in 2003, Excelerate is part of the utility sector. The company provides flexible liquefied natural gas solutions. For example, it offers floating regasification services (FSRUs), allowing customers to turn LNG into natural gas again. These structures are now more important than ever as it allows countries to receive LNG before finishing multi-billion dollar long-term infrastructure projects.
Moreover, the company offers port services and LNG procurement support. The company is expanding this into bigger downstream operations further down the supply chain.
Excelerate Energy
As of June 30, the company was operating 10 FSRUs, three E-Fit terminals (Excelerate Flexible Integrated Terminal), and completing more than 2,300 ship-to-ship transfers. These processes regasified more than 5,7000 Bcf of LNG.
Excelerate Energy
On October 25, the company revealed that it signed a five-year deal with Germany's government to charter an FSRU to help with energy security.
As reported by Seeking Alpha:
Under the deal terms, the FSRU Excelsior will go on charter in Q1 2023 and will be deployed in the Port of Wilhelmshaven; the Excelsior has an LNG storage capacity of 138K cm and send-out capacity of 5B cm/year.
"The deployment of the FSRU Excelsior to Germany demonstrates our commitment to strengthening energy security at a time when traditional energy sources have proven unreliable," President and CEO Steven Kobos said.
The company's financials remain healthy. EBITDA growth is expected to remain high with 19% growth in 2023 and 13% growth in 2024. I believe that the company will beat that in both years. Moreover, its balance sheet provides room for new investments as CapEx is expected to accelerate. Yet, even though operating cash flow is not able to pay for all of it, net debt is still expected to remain below 2.0x EBITDA.
TIKR.com 
Moreover, its current financial position is solid, as Seeking Alpha contributor James Hanshaw wrote in an article last month:
As of June 30, 2022, Excelerate had $386 million in cash and cash equivalents. On April 18, 2022, the Company entered into a $350 million senior secured revolving credit facility. As of June 30, 2022, the Company had letters of credit issued of $40 million and no outstanding borrowings under its senior secured revolving credit facility.
The company is currently trading at 7.6x EBITDA and a forward PE of 15.4x, which I believe is extremely fair. I believe the stock's current fair value is somewhere close to $34 with more upside as the LNG bull case continues to unfold. Moreover, I believe that most people underestimate the importance of the 2023 winter and what this could mean in terms of pricing(!).
With that said, here's my takeaway.
Takeaway
In this article, we discussed one of the most important topics of global macro: natural gas and LNG. Natural gas is the fossil fuel of the future. It not only helps to fuel the energy needs of developed and emerging markets, but it also offers a low-pollution alternative to coal.
Hence, the long-term bull case was strong well before the war in Ukraine turbocharged the demand for LNG and developments in that area.
All eyes are on the United States, which is the best source to provide long-term LNG supplies to Europe, China, and customers everywhere.
The problem is that demand is expected to outperform supply for many years to come, providing suppliers with pricing power and financing for new projects.
Based on that context, I discussed two companies that offer long-term investment opportunities. Kinder Morgan offers a high dividend yield and pipeline exposure as it's a major player connecting natural gas production and LNG export facilities.
Excelerate Energy offers regasification infrastructure, procurement services, and a portfolio of increasing capabilities further down the supply chain.
I rate both companies a (long-term) buy.
Needless to say, we will continue to discuss the LNG situation as I believe that a lot of demand and supply risks are still flying under the radar, offering additional opportunities for investors.
(Dis)agree? Let me know in the comments!
