Kinder Morgan (NYSE:KMI) has invested more than $60 billion over the past two decades to build its energy infrastructure empire. About half that spending has been on acquisitions, which have enabled the company to expand its footprint and add new business lines.
The company, however, has had to spend the past several years playing defense to shore up its balance sheet. Because of that, it hasn’t been able to go on the offensive and make acquisitions. That led an analyst at a recent conference to ask Kinder Morgan CEO Steve Kean when the company might be able to turn the corner and start making deals again. Here are his thoughts on what’s still holding it back.
We’ve been playing a different kind of offense
Kean responded to the question of when it would go back on offense by saying that “it sure felt like we were playing offense for the last 30 months.” He noted that the company worked hard to get its balance sheet back on solid ground, which is certainly the case today. He also pointed out that it actively went through its backlog and eliminated all but its highest-return projects, brought in smart strategic partners that paid it an additional return to be part of these expansions, and sold some assets at excellent values.
“And so we never took the offense off the field,” according to Kean. Furthermore, he pointed out that the company didn’t turn away any good projects. In the last few months, it has locked up two major natural gas pipeline projects out of the Permian Basin that will be important growth drivers over the next few years. All of these steps position it to create value for investors in the future.
This is holding us back from doing M&A
However, Kean did admit that “the place where we’ve historically played offense, where we’ve been sidelined a little bit” is in mergers and acquisitions because “our relative trading multiple has not made our currency attractive in acquisitions.” What he means is that the company’s stock valuation is too low for it to be able to issue new shares to make deals that move the needle for investors.
With shares currently trading around $18 apiece, Kinder Morgan sells for less than nine times cash flow. Not only is that well below the average of 12.5 times cash flow within its peer group, but it’s at the bottom of the barrel in its class. Until the company’s valuation improves, it can’t make accretive deals using its stock.
The company would like to see its valuation improve, not only to enrich shareholders but so that it can put itself back in position to use its stock for M&A. However, Kean made it clear that they will not have “an itchy trigger finger” and that they will exercise discipline and be on the lookout for opportunities he believes will still be available “as the value of our currency improves.”
What the company hopes to find when it’s able to make deals again is something similar to its El Paso acquisition in 2011, where it was able to take costs out and capture both commercial and capital synergies, which provided a near-term boost to cash flow. On top of that, the deal positioned it for future growth in the natural gas market that it’s still benefiting from today. That ability to capture short-term benefits and long-term gains is why it still sees M&A as a vital tool to create shareholder value.
The waiting game
Kinder Morgan has relied on two growth engines to power its rise into one of the largest energy infrastructure companies in North America. However, due to some financial troubles, it had to shut down one of those engines a few years ago. As much as Kinder Morgan would like to restart it now that its finances are back on solid ground, the company can’t because its stock’s valuation is too cheap to be a viable deal-making currency. While that’s the prudent move, it means that investors need an extra dose of patience since it won’t make a needle-moving deal until its stock price improves.