Kinder Morgan, Inc. (KMI) Q4 2012 Earnings Report, Transcript and Summary

Welcome to the quarterly earnings conference call. [Operator Instructions] This conference is being recorded. If you have any objections, you may disconnect at this time. I would now like to turn the call over to Mr. Rich Kinder, Chairman and CEO of Kinder Morgan. Go ahead, sir. You may begin.

All right. Thank you, Sharon, and welcome to the Kinder Morgan Investor Call. Today, we'll be discussing results for Kinder Morgan, Inc., which I'll refer to as KMI; for Kinder Morgan Energy Partners, which I'll refer to as KMP; and for El Paso Pipeline Partners, which I'll refer to as EPB. I'll give an overview, then Kim Dang, our Chief Financial Officer, will give you a detailed financial numbers discussion, and then we'll take any and all questions that you might have. As usual, we'll be making statements within the meaning of the Securities Act of 1933 and the Securities and Exchange Act of 1934. Let me start by reminding all of you that the focus of all the Kinder Morgan companies is on producing cash in increasing amounts and distributing that cash to our shareholders or unitholders. 2012 was another very successful year at Kinder Morgan. And reflecting that success, all 3 of the companies declared increased distributions or dividends for the fourth quarter, and all equaled or exceeded their annual budget target in terms of distribution or dividends per unit or share for the full year 2012. Let me start with KMI. There, we increased our dividend to $0.37 a share, that's up 19% from the dividend in Q4 of 2011. For the full year 2012, we declared $1.40 in dividends versus $1.35, which was our original budget target for 2012, and $1.20, which was the declared distribution for 2011. That's an increase of 17% year-over-year. And in 2012, we generated over $1.4 billion at KMI in cash available to pay dividends, and that's up 62% from 2011. Now as you can see on the sheets attached to the earnings release, that resulted in $1.55 cash available for dividends per average share. But in an effort to be…

All right. Well, thanks, Rich. I'll say a little bit about the background on my decision here, and it was a very, very difficult decision. I have enjoyed the opportunity to work with bright, dedicated, committed, direct, straightforward people on a set of assets that is truly advantaged and well-positioned in many ways and on a set of diverse transactions that have been fascinating and extraordinary. And I have been able to ride alongside as these people have achieved success after success. And I owe Rich and Steve and every Kinder Morgan employee a debt that I can never repay. But it has been 13 years, every day for 13 years, Rich and Steve and Kim and many others have had to put up with me. It's time to show them some mercy. But beyond just compassion for them, this effort has taken an inordinate amount of my time and effort and focus. My kids are 16, 14 and 11. They have never known me other than to be preoccupied with Kinder Morgan. And so the time is right for me to redirect that time and energy and focus on my wife and children, whether they like it or not. But that being said, it's not that easy to get rid of me. I'm here now, happy to answer any questions that you all may have. I will be here in 2 weeks for the investor conference. I will be here on a normal basis through at least the end of March, and I'm very excited to continue on the KMI Board of Directors. But I think the most relevant thing I can tell you is I am convinced that we have the greatest set of midstream energy assets ever assembled in North America at a time when the opportunities for growth in the midstream business are abundant, and we're operating those assets with the greatest management team and employee base that has ever been assembled. And all of that makes it very easy for me to say and to truly believe that for Kinder Morgan, the best is yet to come. And with that, I'll give it to Kim.

Okay, Kim.

Okay. So now to go through the numbers for the fourth quarter, I'm going to start with KMP then I'll move to EPB and do KMI last. On KMP, the first page of numbers in the press release is the GAAP income statement. As we say most quarters, there's -- we don't think this provides a very relevant picture of the way that our business operates. And so I'll direct you to the second page where we calculate distributable cash flow, which is the measure upon which we base our success and the -- and our distributions. So as Rich said, we are declaring a distribution of $1.29 for the quarter. We just -- we are generating $1.35 of distributable cash flow, so we have coverage of just over $20 million. The distributable cash flow per unit is up 8 -- or is up 6% in the quarter. For the full year, we're generating $5.07, that's up 8% based on the declared distribution of $4.98. We have just a little under $30 million of coverage for the year. That is below our budget of $71 million for coverage, which I will go through, but is primarily driven by the performance of our CO2 business and, specifically, lower NGL prices, as well as our products business unit missed its budget. But a couple of lines above that, you'll see the total distributable cash flow, $495 million in the quarter, that's up $70 million from the fourth quarter a year ago. For the full year, $1.78 billion -- or $1,778,000,000, that's up $253 million or 17%, and it's right on our budget. So looking up at the top of the segments to see what drove the growth for $70 million in the quarter and $253 million for the full year, you can…

Okay. And with that, Sharon, if you'll come back on, we'll be willing to take any questions that you all may have.

[Operator Instructions] Our first question comes from Brian Zarahn's line, at Barclays.

Sorry to hear about some of the management changes, but I look forward to seeing everyone in Houston. On the drop downs, can you talk a little bit about the thought process? Obviously, there was a lot more activity in 2012 and you were replacing some of the Rockies assets you were divesting. But can you talk a little bit about the thought process and do you still expect the drops to be finished next year?

Yes, as you recall, our original target was -- we said when we did the deal, the El Paso acquisition, that we would finish this sometime in '15. We now believe we will wrap it up in '14 and probably, I would say in the first half of '14. But -- so we are ahead of schedule. Clearly, as we look at the drop downs, we got to couple that with the amount of capital expenditures that we have lined up at KMP and EPB without the drop downs, absent the drop downs, and look at what -- how much we think we can put out into the market without disrupting the pricing or anything. And that's how we came to the decision. So we will do these drop downs in 2013. That will still leave Ruby, half of Florida Gas will be the 2 main assets still remaining. And we will intend to do those in 2014. So we're actually ahead of our game plan that we announced at the time we did the El Paso merger.

In terms of the multiple, would it be reasonable to assume similar multiple for the transactions in 2012?

I think that's a reasonable assumption, yes. Obviously, it has to be approved by both the independent directors of both boards, who are just starting on the process. As we said, we expect to do the drop down into KMP in March and we expect the drop-down and EPB will do -- will be done more in the August, early September timeframe.

Okay. And then on the EPNG potential conversion to take crude to the West Coast, do you have any additional color on the project in terms of timing of when you think you may have a decision?

Well, we, as I said in my remarks, we're out working with both shippers in the Permian and refiners on the West Coast to ascertain their level of interest. And I think we will know more by the end of this quarter, certainly by the time we have the call, or the next quarter in April, I think we'll be able to give you an update on it. So far, the response has been positive, but until you get the horse on the ground and put the saddle on, you don't get on the horse. So we'll just see how it goes. But again, if you just look at the basic economics, if you look today -- out in West Texas at the spread, the Midland/Cushing spread, is over $12. So you've got a big disconnect. You've got a lot of new production coming online out there and even once additional capacity from Cushing down to the Gulf Coast is built, I still think you're going to have some depressed prices. And on the other hand, of course, the Southern California market, very expensive to buy crude out there. So it's kind of a marriage made in heaven. But again, like all our other projects, we won't build unless we have firm commitments turned [ph] up to ensure that is an adequate return for us.

Last question for me is in terms of tax rates at KMI, it was sort of lower than initially expected in 2012. What are your thoughts on tax rates going forward at KMI?

Kim?

Yes, I mean, our effective tax rate is probably 36.5%. You do see a benefit in the 2012 numbers for about a $200 million use of the NOL. And so we're going to go into that more at the Analyst Conference in terms of outlining how much of the NOL that we would use against the performance metric.

Your next question comes from Gabe Moreen of Bank of America.

Congrats to those retiring, and based on Kim's new responsibilities, I hope she's got a stash of 5-hour energy or something under her desk, because I don't know how she's going to do it all. But anyhow, I just had a quick question and Rich, you just mentioned the Midland to Cushing differentials. In terms of the CO2 segment, I apologize if this has been addressed in a previous Analyst Day or on a previous call, your realizations at the CO2 segment looked all right. But did those differentials hurt you at all in terms of realizations? And can you maybe remind us in terms of capacity coming out of the basin if you're doing okay there, particularly given that SACROC productions has been exceeding expectations?

Yes, we're doing okay on getting it out. It's just that when you get it to Midland, the price is not as good as we would like and this has been a phenomenon really that started in December and has plugged over into January. Now if you look at the markets out a little further, it looks like a lot of that goes away in March after Seaway comes online and some other projects. Another part of the problem has been some of the refineries out there have experienced significant downtime, and that's also cut into the issue. But that's where we are. But we are able to get all of our production out and it's just a question of the pricing on it.

Okay. And I guess, just as a follow-up to that, have you guys committed to any of the new projects coming online coming out of the basin, or is it just not material enough for you guys?

Tim?

We have not entered into any long term transportation agreements. We are in negotiations with the purchaser that is associated with one of those pipeline projects. And that is -- we expect to get that relationship firmed up during the first quarter. But today, and throughout '12, we've had no problem dispatching our production.

Our next question comes from Brad Olsen of Tudor Pickering.

You guys -- I realize that a lot of other midstream companies have kind of followed in Kinder Morgan's path as far as getting more involved on the rail side of things and your Watco investment was one of the first kind of major midstream moves into the rail industry. Have you guys considered any further -- I guess, any further integration into Watco beyond the preferred investment that you already have?

Well, our integration beyond the preferred investment is on individual projects, and we've just got an additional project now that involves a facility that would be able to handle both crude and condensate in and out of the Houston Ship Channel, a joint venture with Watco. So those are the kind of things we're concentrating on. There's a lot of people -- a lot of companies playing in the crude oil and condensate transportation by rail. We're just one of several. But we're very bullish on this and think we will be able to pick off a number of individual projects on a going forward basis through our partnership with Watco. They are good partners and we work well together with them. And they bring the rail expertise, we bring the terminal laying storage and handling expertise.

Okay. Great. And when you think about the process for abandoning a pipeline in anticipation of conversion to a different form of service, it was something that you pursued while developing the Pony Express project before the KMI pipeline was sold. And now you're looking at it again on the Freedom Pipeline. Generally speaking, do you feel that there is a regulatory environment that's receptive for potential conversions or abandonment filings or has it gotten more difficult over the last couple of years?

Well, first of all, of course, Pony Express, and we no longer own that, and I'm not up-to-date on all of the latest developments. But at least to my knowledge, is going very well and looks like it's going to be built. And the key thing there, and that's what we will find on Freedom Pipeline, is making sure that the level of service you're currently providing to your gas shippers is maintained. And that's certainly what we're going to be able to do. And part of the cost on Freedom Pipeline, a significant part of it, will be to make certain that we are able to provide the same level of service to the customers that we're now providing. But that said, we have underutilized capacity on that line, and we can't ever predict regulatory response, but we certainly will make the case and we think it makes a lot of sense that this is the cheapest and the best way to get Permian oil production to California, to saving untold millions of billions of dollars by using this line as opposed to a new build. And we think it makes a lot of sense and we will make certain that we will be able to demonstrate to the regulators and to our customers that they are not being disadvantaged by the fact that we're doing that conversion.

Great. And one last question. When you -- for the 2013 guidance you provided at KMP, for $5.28 distribution, is that excluding the impacts of any unannounced drop downs?

Yes, it includes the drop downs that we talked about. The other half of the EPNG and the other half of midstream. If we were to make drop downs on top of that, our acquisitions in addition to that, that would be additive or accretive to the $5.28.

Our next question comes from Paul Jacob of Raymond James.

Supposing that we do end up seeing a light sweet glut of crude on the Gulf Coast this year or next, as a lot of people think, how do you think you might lever your rail footprint in the Permian to take advantage of those crude differentials? And I'm just saying upfront is that I do recognize the joint venture that you guys have there in the manifest capacity. I'm just trying to get a sense for the timing and perhaps scale of what you might be able to do if oil [ph] differentials de-migrate south.

Well, we certainly will take advantage of it as much as we can. We're somewhat constrained with our present assets. But as we enter this new joint venture with Watco, we'll have more capacity. And the bigger the differential, the more value we offer to our customers. And again, I think this emphasizes the fact that I believe even after you get more connections done between Cushing and the Gulf Coast, I still believe there will be a very great interest in moving crude to California. So I think that's the biggest single opportunity. Crude by rail is important in that you've heard us talk before, that I believe that is going to be part of producers' long-term portfolio because they're going to want some optionality. Now as I think it will be a relatively small part because moving crude by rail is more expensive than moving it by pipeline, certainly, and as pipeline capacity gets built, that will take up the lion's share. But I think you'll see a lot of savvy producers who'll want to save back, who knows, 10%, 15%, 20% of their production in a given field to use rail transportation. So if there's a big difference between Houston and St. James, I can get it to St. James. But I think the biggest opportunity of all, beyond the crude by rail, is the building of the new pipeline capacity. And that's why, again, as I said, we have a lot of work yet to do. That's why something like the Freedom Pipeline, just to me, has all kinds of sex appeal. It's just a marriage made in heaven, I think.

Okay. And then are there any specific regulatory barriers that you could perhaps outline regarding either moving crude into California via, perhaps, the Freedom Pipeline, if that does end up going forward, or perhaps any terminal opportunities that you might see if you decide to extend your footprint there?

Well, answering the latter question first, clearly, there will be terminal opportunities, I think, as part of this. And we are already looking at that. There will be staging terminals at various points. And that's part of the cost of the project. I think overall, we think all the barriers are certainly achievable. We've got a team that cuts across various lines. We've got a natural gas group, Western operations out of Colorado Springs. In fact, Mark Kissel, who really masterminded the Pony Express, is now doing the -- this conversion, or potential conversion. But we also have significant input from people in our product segment to -- who are more used to dealing with this kind of product. So -- I think we're in good shape, and we don't see any barriers that would prevent us from taking crude into California, assuming that we can get the approval to convert the usage of the pipeline.

Okay. And last one for me, just kind of a housekeeping item is, what are you guys budgeting for your NGL price stack for 2013?

We budgeted -- Tim?

Last year, we averaged about 54% of West Texas Intermediate crude prices and this year, we're budgeting about that same order of magnitude. I believe it's 52%, and our budget number for West Texas Intermediate is just under $92. So doing the arithmetic on that, that would be mid-40s.

And just keep in mind that, that percentage of WTI is specific to our mix of NGLs. We'll touch on the sensitivity to that in the Analyst Meeting here in a couple of weeks.

Our next question comes from Ted Durbin of Goldman Sachs.

I wanted to ask a question about the Express-Platte sale. I guess I'm wondering why not buy out the other 2 owners on effectively the same terms? I guess what I'm asking is, are you expressing the view on the asset itself? Are you -- how are you seeing the oil pipeline opportunities more broadly? Maybe you can just talk about the thinking behind that sale?

Yes. As usual, it's economics driving it. And as we've said previously, you have to remember that our ownership interest is in a different form than our 2 partners. So that we were collecting -- our interest was collecting essentially interest on the debentures. And so we get about $13 million to $15 million a year out of that project. So even if volumes ramp up and the volumes have been good on Express lately, even if they ramp-up, we don't get very much of that because we have a priority distribution, but we don't get as much of the upside as our 2 partners do. So to our interest, we are selling, for $380 million, an asset that is returning $13 million, $15 million to us. So it's sort of a no-brainer. And that doesn't mean that Spectra is not making a good deal or that the other 2 partners aren't doing well. It's just that the deal that we have dating back many years, or several years, is a different deal. And so for us, when we can realize that kind of money and even on an after-tax basis, something a little less than $300 million, we, it's just a no-brainer for us to go ahead and sell rather than buy out the other 2.

Okay, that's great. Again, stepping back, just thinking about some of the -- sort of strategically, you mentioned looking at different assets, I'm just wondering your views on -- what's called some of the alternative assets that are starting to come in at the MLP structure. We've got some chemical assets now. We've got refining. I mean, just talk a little bit bigger picture there, are there other things that you're looking at, as you're looking across different types of assets that come could come in?

Well, anything we look at will have a great emphasis on predictability of cash flow. So we are not interested -- we have a model that we think works very well and has for over 15 years. And we're not really interested in stepping too far out from that model. But we do think there are things -- and like I said, an example of this, cutting across business lines is something like the Freedom Pipeline, where we can make use of several different assets. We did this with KMCC, the Kinder Morgan Crude and Condensate line, when we used some of our Texas Intrastate duplicative assets to build -- to be the mainstay of building that pipeline, saved a lot of cost and were able to give our customers a better rate because of that. And I think we're just going to continue to examine things like that. And I think we will find some moderate step outs. And I think we will find more opportunities. But we don't have current plans to launch off in a big -- different direction, particularly one that would involve volatility. But there are so many opportunities in this midstream sector. We haven't even talked about, as all of you know, of course, FP&L, Florida Power & Light, has put out an RFP for a major new pipeline into Florida. We will certainly be bidding on that. It's very close to our SNG system, where they want the pipeline to run, and of course we don't have the Florida gas. So there are just a lot of opportunities and I know I've said this, you're tired of hearing it, but the advantage of this -- the advantages of this massive footprint that we've now assembled, across the whole midstream spectrum, but particularly in…

And then last one, just quick one, is on the synergy. It sounds like the $400 million that you're expecting, that's all fully recorded in this quarter. There's not really any more synergies we ought to be modeling for 2013?

Steve?

Well, the synergies that we have, I mean, we've given you the guidance, it's over $400 million. What we've done is now we've been through our 2013 budget process. So what we've done is built up a bottoms-up budget. And it incorporates all those synergies that we've identified. And we're pretty confident that number has come out again above the $400 million. But that's -- so that's all in 2013.

Yes, it's a rolling 12-month though, is what that year 1 represented. As Steve said, it's incorporated into the '13 budget, but the over $400 million represents the year 1 savings.

And we do think we'll get something further than that in the out years. That number will improve in year 2 and year 3 post the merger and that will be reflected in the '14 and '15 budgets.

Our next question comes from John Edwards of Crédit Suisse.

And Rich, just, can -- maybe you said this already, but if you did, I missed it. Do you have an idea now on the El Paso potential conversion? What kind of volumes might be going on that?

You're talking about our Freedom Pipeline?

Yes, on Freedom.

We've run various cases. I mean it can be as little as 250,000 barrels a day up to potentially 400,000 barrels per day depending on the customer interest and demand. And that can ramp-up over a period of time.

We can move a lot of barrels.

Okay. And then is there a -- and so that's within the realm that would make the project economic?

250 is...

Yes, 250 would make the project economic.

250, okay. Great. And then, just -- could you give us an update on permitting on Trans Mountain?

Sure. Here's where we are. As I said in my remarks, we reopened the open season in response to requests by a number of shippers who didn't sign it the first time and went to the NEB and asked to be permitted to take another crack at it. And that increased our committed barrels now to over 700,000. We are still in the phase right now of getting the NEB to approve the tariff mechanism that underpins all of these contracts that we signed up. So we have over 700,000 barrels a day signed up, almost all of it for 20 years, 7% of it for 15 years. We expect that the NEB will embrace that or say, "Look you, this has been entered into between viable parties on both sides." We've had 13 shippers, among them, some of the largest enterprises in Canada. And once that's blessed, which we would hope and expect will occur sometime probably in the third quarter, sometime later this year, the hearing is actually set in February, I believe, or early March. But we would expect to go through this phase and then by the end of this year, our intent would be to file our actual application for the environmental permitting and the route, the details on the route and all the other things that we need to get approved to get a permit to build. We expect to file that. And again, we don't know how long that will take. And we know there will be significant opposition. But we expect, in the end, to get it approved. And we expect to put it in service probably in the late 2016, early 2017 timeframe. But all those things are, to some extent, beyond our control obviously. And we'll just have to see how things develop. But we are moving ahead and so far, we're encouraged by what we're seeing.

[Operator Instructions] [Audio Gap]

Okay. Well, thank you, Sharon, and thank you very much, everybody. And we look forward to seeing you at the Analyst Meeting in a couple of weeks and we will be happy to answer any and all questions there in even more detail than we have today. So thank you and have a good evening.

This concludes today's conference. Thank you for your participation. You may now disconnect.