Tag: KML

Kinder Surprise – KML taken out by PPL

Kinder Morgan Canada (TSX: KML) has agreed to be taken out by Pembina Pipeline (TSX: PPL), subject to a 2/3rds shareholder vote of KML holders, which will most certainly be approved. Details on this news release.

KML shareholders will get 0.3068 shares of PPL, which based on the closing price today (not the date of announcement) is about CAD$15.06/share for KML.

My comments are the following:

1. I thought this would happen in 2020 – my guess is while doing the strategic review they received a bunch of low-ball offers (and did not take any), but after the review ended they received a credible offer which was close to the initial KML IPO price of CAD$15/share (guessing their target price).

2. With regards to the preferred shares, I will point out that PPL has two preferred share series with minimum rate resets: PPL.PR.K (575bps, resets at +500bps with a 575bps mininmum rate) and PPL.PR.M (575bps, resets at +496bps with a 575bps minimum rate). Both trade above par value and both reset in the middle of 2021.

KML.PR.A (525bps, resets at +365bps with a 525bps minimum rate) and KML.PR.C (520bps, resets at +351bps with a 520bps minimum rate) are significantly worse featured – a reset rate of about 140bps adverse and a minimum rate of 50bps adverse. Both are trading slightly up (about a dollar) to ‘synchronize’ with the above – as PPL is a better credit.

Note that PPL is under no obligation to take out the preferred shares at par. Holders of KML preferred shares can keep clipping their coupons and have a little more confidence that the size of PPL will back it up.

3. Pembina is in a great position to take over the Trans-Mountain pipeline project (KML’s Vancouver terminal and Edmonton storage project synergize greatly with the pipeline). Although they claim they are not interested in it due to the obvious political mess, you can be sure if the Canadian government is going to give it away for cheap, Pembina will be right there bidding.

As such I think PPL was a great strategic buyer for these assets.

Kinder Morgan Canada / Q2-2019

Skimming the Q2-2019 financial results of Kinder Morgan Canada (TSX: KML) –

Entity is 30% owned by the public (roughly 35 million shares outstanding) while Kinder Morgan (USA) owns roughly 81 million shares.

Because the public only owns 30% of the operating entity, even if the company reports $10 million in earnings, the public effectively receives $3 million. The $7 million is a “minority” interest (of course, this is no longer a minority!).

When looking at the first half of the year, we have the following (and I have highlighted the relevant area in a box).

The entity is pleasantly profitable – $43 million in net income for the first half.

However, the preferred shareholders (entirely held by the public) get the first slice of income. Their take is $14.4 million. This leaves $28.5 million for the entire entity. Kinder Morgan’s slice is $19.9 million. This leaves $8.6 million left for the 34.9 million shares that are publicly trading on the TSX – about 24 cents per share for the half.

Do some quick math – 48 cents a year for a stock now trading at CAD$12, which is a net return of 4%. It’s obvious this isn’t strictly about income, there is some pricing potential in the assets.

The preferred shares are at around 5.6%, and also get priority when KML finds a buyer at an acceptable price for their Canadian assets. The CAD$550 million is a drag on KML’s balance sheet, but they are virtually first-in line (as KML got rid of most of their debt after the Trans Mountain Pipeline sale).

For the most part, the income stream is stable. There will be some reductions in 2020, but otherwise they will easily cover the preferred shares.

I bought some preferred shares in early June as a cash parking vehicle. This is a very low risk, low reward type situation where you can watch paint dry for a maximum upside of par – and in the meantime, you can clip your coupons.

Examining the entrails of Kinder Morgan Canada

Kinder Morgan Canada (TSX: KML) was set up to be the publicly traded entity for Canadian assets of Kinder Morgan (NYSE: KMI). KML is 70% owned by KMI. The 30% remaining trades on the TSX and they are functionally economic participation units (i.e. Kinder Morgan has complete control).

KML’s flagship asset was the Trans-Mountain Pipeline, which was sold to the Federal government in 2018. The bulk of the proceeds was distributed to KML shareholders. Everybody knows about this story and it has been dissected to death (including myself), so I will not give it further press here.

What was lesser known is that KML had other operating assets in Canada that generated quite a large amount of cash. The operation is quite easy to analyze (which sadly means that the market has mostly picked up on a proper valuation). In Edmonton, they have a rail terminal and storage tanks (which facilitates operations of oil-by-rail). They have a small condensate pipeline going to the US border from Alberta (creating an odd situation where KML owns the Canadian side, while KMI owns the US side of the pipeline). Finally, they have a mineral concentrate terminal in North Vancouver and are also building a fuel storage facility.

These assets in 2019 are anticipated by management to generate $213 million in “adjusted” EBITDA, and roughly $109 million in distributable cash flow.

This will go down due to an existing contract in Edmonton that is currently being priced on favourable terms to KML. Starting April 2020, this will decrease by approximately $50 million EBITDA. Management claims this will be somewhat offset by future pricing increases. A reasonable guess would be a $170 million EBITDA run-rate absent of the revenues expected from the diesel storage business.

Other than that, the assets are sound and are likely to be in use for the foreseeable future.

So it was logical after the Trans Mountain Pipeline sale that the company investigate options as it was fairly obvious to either sell everything, or merge back into the KMI entity again.

They concluded in May 2019 that they will remain a stand-alone entity. This took the stock down from roughly $15/share to $12/share where it trades presently. KML has 116.3 million shares outstanding, and this gives them a market valuation of CAD$1.4 billion or roughly 8x adjusted EBITDA.

The company has a tiny amount of bank debt (nearly offset by the amount of cash on hand), but they do have CAD$550 million in low-yield preferred shares outstanding (TSX: KML.PR.A and KML.PR.C). These preferred shares were issued in anticipation of the construction of the Trans-Mountain Pipeline!

It obvious from my standpoint that KMI would want to get rid of its Canadian operations entirely, but they are not in a rush to do so – probably waiting for the federal election to see if a more oil-favourable government comes into office. The question remains how much they can obtain for the assets in this more favourable environment. In the meantime, they continue to generate cash and distribute CAD$106 million/year to their shareholders (common and preferred) in dividends.

KML at this point would appear to be a relatively low risk, low return type investment.

Past Comments – Trans-Mountain Pipeline

From my July 1, 2018 post:

Trans-Mountain Pipeline

This is a political disaster for the Liberals. It will be an even bigger political disaster when they try to tender the contracts to build the pipeline. It is a recipe for over budget, behind schedule politics, especially since the protestors know that any construction will be fueled by even more political pressure than it being built by a corporate entity. I do not believe this pipeline will be built even after the federal government bailed out Kinder Morgan Canada (TSX: KML).

Just remember, the government that can’t even build a gun registry or payroll system for themselves without spending more than a billion dollars of taxpayers’ money are trying to build an energy pipeline. Best of luck!

Trans-Mountain Pipeline / Enbridge / TransCanada

Nobody is laughing out louder today than the management of Kinder Morgan (NYSE: KMI) who have sold their $5 billion pipeline (TSX: KML) to the government of Canada, when a federal court effectively ruled the trans-mountain expansion project to a halt (the reasons of which are not too relevant to the analysis in this post).

(Update, August 31, 2018: See Kinder Morgan’s “laughing to the bank” announcement here)

I’m ignoring the fact that the original Trans-Mountain pipeline still exists and still operates and pumps oil down to the old Chevron Burnaby refinery now owned by Parkland Fuels (TSX: PKI). There is enough pipeline capacity to supply the refinery, but not enough for any meaningful export quantities. This doesn’t make it a complete disaster for Canada, but they sure paid a lot more for it what it is worth.

There are two big economic winners with this court ruling, and it is not Kinder Morgan (they had their victory back in May when the Government of Canada agreed to the sale).

It is Enbridge (TSX: ENB) and TransCanada (TSX: TRP).

The only way to get meaningful amounts of oil out of Alberta and Saskatchewan (other than by much more expensive rail) is now going through the Enbridge Line 3 project or the TransCanada Keystone Pipeline.

(Here’s a map of oil and gas pipelines in Canada)

The economic losers are the Government of Canada, and every major oil producer in Alberta or Saskatchewan: they still have to go through Enbridge or TransCanada pipelines and pay a very heavy differential to prevailing energy prices for a long, long time. Inevitably this will hurt the Canadian public as the purchasing power of their currency will be less than what it could be had we actually have a fully functioning economy, but these indirect effects are typically never measured nor felt as the absence of an effect is rarely lamented in the minds of most people.

Politically, there is one big winner: The BC Government. Premier John Horgan has a huge victory to show to the environmental activist wing of his political party (the BC NDP) and this will give him more clearance to operate in the province without internal opposition (which is historically how the BC NDP loses power).

I am somewhat surprised Enbridge and TransCanada are not doing better in trading today.