Kinder Morgan Energy Partners (NYSE:KMP) is one of the energy companies that has consistently performed well largely because of its business model, which is commission-based and diversified. The company’s realizations are linked to the volumes it transports rather than the prices of the commodities it handles. While the company is less affected by commodity price fluctuations than many other energy services companies, increases in commodity prices do enable it to charge higher prices. Moreover, its diversified business model also helps it compensate volume losses in one division by volume gains in another.
We have a price estimate of $90 for KMP, implying a 10% premium to the current market price. Our optimistic outlook for the company primarily reflects the increasing natural gas volumes, emerging coal export activities, and improving utilization levels of Kinder Morgan’s terminals. Below we take a look at the factors that could take Kinder Morgan past $100.
10% Upside Scenario | $100 Trefis Price Estimate
1. Higher Revenues from CO2 & Oil Production (+5%):
This represents the revenues generated by the Carbon Dioxide division. The business segment focuses on providing CO2 for oil recovery or transport oil while owning interests in some oil production fields. Revenues from the division have been consistently growing, from $1.04 billion in 2009 to $1.42 billion in 2011 on the back of higher prices for crude oil sales, natural gas liquids and CO2, as well as an increase in natural gas liquid volumes.
We expect carbon dioxide revenues to rise to $2 billion owing to the expected increase in fuel prices in the future. Higher crude prices usually results in explorers digging deeper and in more diverse locations in search for oil. Carbon dioxide is used in many oil recovery projects in mature oil fields. Further, most of the company’s crude oil pipelines are located in the Permian Basin region of West Texas, which has witnessed a significant increase in oil production lately. We see the revenues growing at 20% in the next two years, and at a stable rate of around 5-10% during the remainder of the Trefis forecast period.
While crude prices are well below the previous highs seen in 2007-08, they currently trade below $100 a barrel. Dwindling confidence in the global economic growth and additional supply from Saudi Arabia have kept the prices in check. However, emerging markets including India and China are seeing a steady surge in domestic demand for crude. As the world economy witnesses an eventual recovery, crude demand will likely increase significantly. All of these factors could take crude prices higher, which in turn will lead to higher Co2 demand due to increased exploration activities. Consequently, this will result into higher revenue for KMP. If these revenues increase by even 10% (from our expectations of $2 billion to $2.2 billion), the company’s stock could see 5% upside.
2. Higher Natural Gas Shipments (+5%):
This represents natural gas shipped (transported and sold) using the company’s pipeline network. Governments and companies are looking for cheaper and cleaner energy alternatives to coal and crude oil. Natural gas is considered a more environmentally-friendly alternative to coal, and its prices are currently extremely low. This has driven demand, and the company’s natural gas shipments have been rising consistently during the past few years. Natural gas shipments for 2008 were 2876 billion cubic feet (Bcf), which shot to 3730 Bcf during 2011.
We expect that natural gas usage will continue to increase because of its cheap price and since it is relatively cleaner than coal. We do expect prices to increase eventually, but some utility companies have already migrated to gas-fired power generation. Moreover, the Environment Protection Agency has imposed stiff regulations that require all upcoming power plants to adhere to reduced standards of carbon emissions. This is likely to result in a higher number of gas-fired power projects over coal-fired in the future. There have been initiatives by gas exploration companies to increase gas usage, especially in locomotives. North America consumed an estimated 742 bn cubic meters (bcm) of natural gas in 2009. This number is expected to rise further to 804 bcm by 2014, representing an 8.4% growth. Higher gas usage will lead to an increase in Kinder Morgan’s gas shipments. We expect natural gas shipments to reach 5000 billion cubic feet by the end of our forecast period.
Many expect coal demand to pick up and replace some of natural gas usage following increase in natural gas. However, coal demand has failed to pick up yet even as natural gas prices are well above lows seen in April. Further, under continuous pressure from the government and environmental activists, coal demand could continue to succumb to natural gas. This could result in demand for natural gas exceeding our expectations to reach 6000 billion cubic feet. In that event, there could be a potential upside of 5% to the Trefis price estimate.
Should these two scenarios – the 5% upside from higher revenues from CO2 & Oil Production and the 5% upside from the higher natural gas shipments – materialize, there could be a 10% upside to our price estimate, or an estimate of over $100 for Kinder Morgan.