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Analyzing Cash Flows of Master Limited Partnerships

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2014-10-24 16:00

KMP - Preliminary review of Kinder Morgan Energy Partners’ results for 4Q 2013

master limited partnership logos-KMP

Author: Ron Hiram

Published: January 19, 2014

Kinder Morgan Energy Partners LP (KMP) reported its results of operations for 4Q 2013 on January 15, 2014. This article focuses on some of the key facts and trends revealed by this report. Given the significant quarterly fluctuations in important business parameters, full year results are also reviewed, in addition to the quarterly numbers.

The Tennessee Gas Pipeline (“TGP”) and El Paso Natural Gas (“EPNG”) dropdowns from Kinder Morgan, Inc. (KMI), KMP’s general partner, and the midstream assets acquired via Copano Energy (acquisition completed May 1, 2013), contributed to revenue growth in 4Q13 over 4Q12 and in 2013 over 2012 at the Natural Gas Pipeline segment. The TGP and EPNG dropdowns are associated with KMI’s acquisition of El Paso Corporation completed on May 24, 2012. The CO2 segment also contributed to revenue growth as it benefitted from increased oil and NGL production, accompanied by higher prices.

Revenue growth is shown in Table 1 below:

Period:
4Q13
3Q13
2Q13
1Q13
4Q12
3Q12
2013
2012
Total revenues3,4713,3813,0172,6612,6802,49712,5309,035
Change vs. prior year30%35%50%44%39%18%39%15%

Table 1: Figures in $ Millions (except % change)

Table 2 below shows KMP’s earnings before depreciation and amortization (“EBDA”) grew by 17% in 2013 vs. 2012 on a per unit basis. But it also shows that the pace of per unit EBDA growth slowed considerably in the third and fourth quarters of 2013:

Period:
4Q13
3Q13
2Q13
1Q13
4Q12
3Q12
2013
2012
Natural Gas Pipelines6623401,1235575613272,9771,562
CO23952023583423341501,4351,322
Products Pipelines20363512185178490602670
Terminals243217207186144183853709
Kinder Morgan Canada5443501937156340229
Total EBDA1,5571,4371,7501,4631,2881,2066,2074,492
EBDA per unit3.543.34.243.893.53.3914.9212.8
Change/unit over prior year1%-2%41%36%31%0%17%38%

Table 2: Figures in $ Millions (except per unit amounts and % change)

“Segment earnings before DD&A and certain items” (I use the term Adjusted EBDA instead) is one of the important yardsticks used by management to measure its success in maximizing returns to the partners. It is also regarded as an important internal management tool for the purposes of for evaluating segment performance and deciding how to allocate resources to KMP’s five reportable business segments. It is derived by making adjustments to EBDA. Management refers to these adjustments as “certain items”. Table 3 below shows 7% growth in Adjusted EBDA per unit in 2013 vs. 2012. Similarly to Table 2, it also shows that the pace of growth of Adjusted EBDA per unit has slowed considerably in the third and fourth quarters of 2013:

Period:
4Q13
3Q13
2Q13
1Q13
4Q12
3Q12
2013
2012
Natural Gas Pipelines6656085664974743832,3361,374
CO23923493513403373321,4321,326
Products Pipelines203202179200176185784703
Terminals221199191187198184798752
Kinder Morgan Canada544450527156200229
Total Adjusted EBDA1,5351,4021,3371,2761,2561,1405,5504,384
Adjusted EBDA per unit3.493.223.243.393.413.213.3412.49
Change/unit over prior year2%1%15%11%18%13%7%12%

Table 3: Figures in $ Millions (except per unit amounts and % change)

Natural Gas Pipelines, the largest contributor to Adjusted EBDA, benefited from strong results generated by the Eagle Ford assets, contributions from the midstream assets in North Texas and Oklahoma (the Copano acquisition), and contributions from TPG (dropped down in August 2012) and EPNG (50% dropped down in August 2012 and 50% in March 2013). These positive factors more than offset the year-over-year negative impact of having had to divest certain KMP assets in the Rockies in order to obtain regulatory approval of the acquisition of El Paso Corporation.

The CO2 segment produced Adjusted EBDA of $1,432 million in 2013, up 8% from 2012 and exceeding its published annual budget of 5% growth.

The Products Pipelines segment produced Adjusted EBDA of $784 million in 2013, up 12% from 2012 and slightly below its published annual budget of 13% growth.

The Terminals segment produced Adjusted EBDA of $798 million in 2013, up 6% percent from 2012 but below its published annual budget of 12% growth, primarily due to lower bulk volumes.

Kinder Morgan Canada produced Adjusted EBDA of $200 million in 2013, down 13% from 2012 due to the sale of the Express-Platte pipeline system in 2Q13 and unfavorable book taxes.

Segment earnings are shown in Table 4 below. They are derived by deducting depreciation, depletion and amortization (“DD&A) attributable to each segment from its Adjusted EBDA. General & administrative expenses and interest expenses are then deducted from total segment earnings and the “certain items” are eliminated to derive reported net income:

Period:
4Q13
3Q13
2Q13
1Q13
4Q12
3Q12
2013
2012
Products Pipelines5074514234003873111,7811,121
Natural Gas Pipelines271227233224222222955885
CO2169168146167145153650582
Terminals160146139136146133581547
Kinder Morgan Canada413037385742146173
Total segment earnings1,1481,0229789659578614,1133,308
Segment earnings per unit2.612.352.372.572.62.429.899.42
Less: G&A-127-137-134-123-108-115-521-432
Less: Interest, net-225-221-217-187-180-172-850-632
Net income before Òcertain itemsÓ7966646276556695742,7422,244
ÒCertain itemsÓ2233383137-22-166575-843
Net income as reported8186971,0107926474083,3171,401

Table 4: Figures in $ Millions (except per unit amounts and % change)

The principal components of the $575 million gain from “certain items” appearing in Table 4 for 2013 are:

  • $558 million gain upon re-measurement of KMP’s original 50% interest in the Eagle Ford joint venture to fair market value as a result of the Copano acquisition;
  • $167 million pre-tax gain stemming from the March 14, 2013 sale by KMP of its one-third equity ownership interest in the Express pipeline system, as well as the sale of its subordinated debenture investment in Express to Spectra Energy Corp.; and
  • $177 million loss due to an addition to legal reserves attributable to an adverse Court of Appeal decision denying an income tax allowance on the Product Pipeline segment’s intrastate operations in California.

Distributable cash flow (“DCF”) per unit per unit in 4Q13 is up 7% from the prior year period, and up 6% in 2013 vs.2012, as shown in Table 5 below:

Period:
4Q13
3Q13
2Q13
1Q13
4Q12
3Q12
2013
2012
DCF6355545055504954552,2441,778
DCF per unit1.441.271.221.461.351.285.395.07
Change vs. prior year7%0%14%7%6%7%6%8%

Table 5: Figures in $ Millions (except per unit amounts and % change)

Kinder Morgan entities calculate DCF (and consequently DCF coverage) differently than some of the other MLPs I cover with respect to the general partner’s share of DCF (see article dated June 2, 2013). Specifically, KMP reports a DCF number that covers only that portion attributable to limited partners. I prefer to look at total coverage ratio, one that includes all sustainable cash generated by the partnership vs. the distributions made to all the partners (general and limited).

Another notable caveat to KMP’s reported DCF coverage ratio is discussed in a prior article dated August 5, 2013 in which I explain why I believe the KMP’s capital structure, specifically the large position (~28%) held by Kinder Morgan Management, LLC (KMR) in the form of i-units that receive distributions in-kind distributions, causes the coverage ratio to be overstated.

After KMP files its annual quarter report on Form 10-K I will provide a closer look at coverage ratios, as well as an assessment of the impact of KMR’s i-units and of the sustainability of DCF for 4Q13 and 2013.

Table 6 below reflects KMP’s method of determining DCF. This method is detailed in an article titled Distributable Cash Flow (DCF) that also provides a comparison to definitions used by other MLPs. I find KMP’s method of deriving DCF (referred to as “DCF before certain items”) complex. It also differs considerably from the method used by other MLPs I cover.

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Table 6: Figures in $ Millions, except per unit amounts

Table 6 indicates the coverage ratio based on reported DCF remained very tight in 2013 (1.01 vs. 1.02 in 2012). Calculation of what I call sustainable DCF and sustainable DCF coverage will follow provision of additional data as part of KMP’s Form 10-K. Table 6 also highlights the fact that a large portion of KMP’s net income and cash flows are claimed by KMI. KMP’s ability to generate distribution growth is constrained by its obligation to distribute ~46% of every additional DCF dollar to KMI.

Table 7 below compares KMP’s current yield to some of the other MLPs I follow:

As of 01/17/14:
Price
Quarterly Distribution
Yield
Magellan Midstream Partners (MMP)$62.45$0.563.57%
Enterprise Products Partners (EPD)$63.99$0.704.38%
Plains All American Pipeline (PAA)$50.06$0.624.91%
Targa Resources Partners (NGLS)$50.95$0.735.75%
Buckeye Partners (BPL)$70.99$1.086.06%
Kinder Morgan Energy Partners (KMP)$81.31$1.366.69%
Energy Transfer Partners (ETP)$52.99$0.916.83%
Williams Partners (WPZ)$49.93$0.887.03%
Regency Energy Partners (RGP)$26.01$0.477.23%
El Paso Pipeline Partners (EPB)$33.35$0.657.80%
Suburban Propane Partners (SPH)$44.60$0.887.85%
Boardwalk Pipeline Partners (BWP)$23.99$0.538.88%

Table 7

KMP increased its 4Q13 distribution to $1.36 per unit from $1.35 in 3Q13 and from $1.29 in 4Q12. Distributions in 2013 totaled $5.33, up 7% from 2012. In 2014 KMP expects to declare cash distributions of $5.58 per unit for 2014, an increase of ~5% over 2013. The long-term debt to LTM EBITDA as of 12/31/13, as calculated by management, was a manageable 3.8x. Investors seeking more rapid distribution growth, concerned with the marked reductions in the pace of growth of KMP’s EBDA and Adjusted EBDA over the last two quarters, and/or concerned with KMP’s distribution coverage for reasons detailed in a prior report, should look at KMI which yields ~4.6% but is projecting 8% distribution growth in 2014 over 2013. Alternatively, within the Kinder Morgan family EPB may provide more upside given the recent steep decline in unit price.

2 comments to KMP – Preliminary review of Kinder Morgan Energy Partners’ results for 4Q 2013

  • steve silverman

    Can you explain exactly why ETE has been and continues to be a much better stock than either ETP and RGP? I know about the distribution coverage you have written about with the latter two. But is it simply just that owning a share in a GP (like owning the incetive payment in a normal hedge fund) is an unbelievably good idea?
    Why did MMP conbine the GP and LP pieces a few years ago if they could have kept them seperate and management could have had all their own money in the GP piece like Kelsey Warren has his money in ETE?

    • Ron Hiram Ron Hiram

      In general, the GPs yield less than their underlying MLPs but provide better growth, less dilution, better alignment of your interests with management’s, and appreciation potential if/when the GP entities are acquired by the MLPs. While most GPs have outperformed their underlying MLPs, it is not always the case (KMI for example). The opportunities for outperformance seem to me greatest in cases such as ETE where the GP has interests in many assets outside the underlying MLPs.

      I target a certain level of current yield on my portfolio and am concerned about being too concentrated in MLPs for generating this yield. In that context, I see more non-MLP alternatives (e.g., dividend paying stocks) to the lower current yields returns offered by the GPs than to the higher current yields offered by the underlying MLPs.

      In the process of folding the GPs of EPD, MMP, BPL and others into their underlying MLPs, the owners of the GPs monetized a stream of future cash flows and received substantial stakes in the underlying MLPs. If you have faith in fairness opinions, the value of the ownership in the GP they gave up equaled the value of the stake they received in the underlying MLP. The LPs benefit from lowering the cost of capital and from eliminating conflicts of interests. These are very significant advantages.

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