(EDGAR Online via COMTEX) -- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis should be read in conjunction with our accompanying interim consolidated financial statements and related notes included elsewhere in this report, and in conjunction with (i) our consolidated financial statements and related notes and (ii) our management's discussion and analysis of financial condition and results of operations included in our 2018 Form 10-K.
KML's 2019 budget contemplates declaring a dividend of $0.65 per Restricted Voting Share, generating Adjusted EBITDA of $213 million and DCF from continuing operations of approximately $109 million, representing DCF of $0.90 per Restricted Voting Share. KML's budget also contemplates investing approximately $32 million in expansion projects.
We do not provide forecasted income from continuing operations (the GAAP financial measure most directly comparable to the non-GAAP financial measures DCF from continuing operations and Adjusted EBITDA) due to the impracticality of quantifying certain amounts required by GAAP, such as realized and unrealized foreign currency gains and losses and potential changes in estimates for certain contingent liabilities. See "Results of Operations-Non-GAAP Financial Measures" for more information on DCF and Adjusted EBITDA.
Trans Mountain Transaction
On August 31, 2018, we closed on the sale of the Trans Mountain Asset Group, which was indirectly acquired by the Government of Canada through Trans Mountain Corporation (a subsidiary of the Canada Development Investment Corporation) for cash consideration of approximately $4.43 billion, which is the contractual purchase price of $4.5 billion net of a preliminary working capital adjustment (the "Trans Mountain Transaction"). As of December 31, 2018 we accrued for an additional $37 million for a final working capital adjustment that was subsequently settled in cash. The underlying assets in the Trans Mountain Asset Group were primarily within our Pipelines business segment and the operating results for the Trans Mountain Asset Group are presented as "Income from Discontinued Operations, Net of Tax" in the accompanying consolidated statements of income and the following "-Results of Operations" for the 2018 period.
2019 Return of Capital and Share Consolidation
Pursuant to our voting shareholders' approval on November 29, 2018, distributions of approximately $1.2 billion were made as a return of capital to holders of our Restricted Voting Shares ($11.40 per Restricted Voting Share) and approximately $2.8 billion to KMI as the indirect holder of our Special Voting Shares on January 3, 2019 (the "Return of Capital"). To facilitate the Return of Capital and provide flexibility for dividends going forward, our voting shareholders also approved (i) a reduction of the stated capital of our Restricted Voting Shares by $1.45 billion (the "Stated Capital Reduction") and
Review of Strategic Alternatives
Following the Trans Mountain Asset Group sale, and given that the original purpose of KML as a funding vehicle for the Trans Mountain expansion no longer exists, we previously announced that we would undertake a strategic review of KML to determine a course of action that maximizes value to all KML shareholders. The options we are evaluating include, among others, continuing to operate as a standalone enterprise, a disposition by sale, and a strategic combination with another company. This process involves a rigorous analysis of a variety of potential alternatives, and, while the complexity of the situation is requiring more time than we previously anticipated, the process is near its conclusion. We expect to complete the review and announce the outcome in the second quarter of 2019.
All material permits have been secured and construction activities will commence shortly on the distillate storage expansion project at our Vancouver Wharves terminal in North Vancouver, British Columbia. The approximately $43 million capital project, which calls for the construction of two new distillate tanks with combined storage capacity of 200,000 barrels and enhancements to the railcar unloading capabilities, is supported by a 20-year initial term, take-or-pay contract with an affiliate of a large, international integrated energy company. The project is expected to be placed in service late first quarter of 2021.
As previously disclosed in our 2018 Form 10-K, a material contractual arrangement at the Edmonton Rail Terminal expires in April 2020 and includes a right of renewal on favorable terms for our customer related to rail terminal and associated pipeline connection service fees. We expect this will result in lower revenues of approximately $43 million and $11 million on an annual basis for rail terminal fees and associated pipeline connection fees, respectively. We expect this revenue reduction will be partially offset by expansion projects as well as favorable renewal rates on expiring contracts at our other terminal facilities.
Results of Operations
We evaluate the performance of our reportable business segments by evaluating Segment EBDA. We believe that Segment EBDA is a useful measure of our operating performance because it measures segment operating results before depreciation and amortization and certain expenses that are generally not controllable by our business segment operating managers, such as certain general and administrative expense, interest expense, net, and income tax expense. Our general and administrative expenses include such items as employee benefits, insurance, rentals, certain litigation, and shared corporate services including accounting, information technology, human resources, and legal services.
Consolidated Earnings Results Earnings Three Months Ended March 31, 2019 2018 increase/(decrease) (In millions of Canadian dollars, except percentages) Segment EBDA(a) Terminals 51.6 42.6 9.0 21 % Pipelines 10.3 6.3 4.0 63 % Total Segment EBDA(a) 61.9 48.9 13.0 27 % D&A (21.8 ) (19.7 ) (2.1 ) (11 )% General and administrative(b) (11.1 ) (8.9 ) (2.2 ) (25 )% Interest income (expense), net 1.2 (0.4 ) 1.6 n/a Income from continuing operations before income taxes 30.2 19.9 10.3 52 % Income tax expense (8.9 ) (5.9 ) (3.0 ) (51 )% Income from continuing operations 21.3 14.0 7.3 52 % Income from discontinued operations, net of tax(c) - 30.4 (30.4 ) (100 )% Net income 21.3 44.4 (23.1 ) (52 )% Preferred share dividends (7.2 ) (7.2 ) - - % Net income attributable to Kinder Morgan interest (9.9 ) (26.4 ) 16.5 63 % Net income available to Restricted Voting Stockholders 4.2 10.8 (6.6 ) (61 )% _________ n/a - not applicable
(b) General and administrative expenses for the three months ended March 31, 2019 includes an increase of $0.7 million for certain items described in footnote
(c) See Note 2 "Trans Mountain Transaction" to the accompanying consolidated financial statements.
Three Months Ended March 31, 2019 vs Three Months Ended March 31, 2018
The certain items described in footnote (b) to the table above accounted for a $0.7 million decrease in income from continuing operations before income taxes for the first quarter of 2019 as compared to the same prior year period. After giving effect to these certain items, the $11.0 million increase from the prior year quarter in income from continuing operations before income taxes is primarily attributable to increased earnings from both of our segments, higher interest income due to deposits of the proceeds from the Trans Mountain Transaction in interest bearing cash equivalent accounts partially offset by increased D&A and general and administrative expense.
Non-GAAP Financial Measures
For reporting periods included in the following DCF and Adjusted EBITDA tables, our discontinued operations (which are comprised of our Trans Mountain Asset Group) are presented as a separate reconciling item labeled as "DCF from discontinued operations" and "Adjusted EBITDA from discontinued operations," respectively. DCF from discontinued operations and Adjusted EBITDA from discontinued operations are also reconciled to their comparable GAAP measure, income from discontinued operations, net of tax in footnote (d) to the accompanying tables.
In addition to using financial measures prescribed by GAAP, references are made in this report to DCF, both in the aggregate and per share, Adjusted EBITDA, Segment EBDA before certain items and Net Debt (Cash), which are measures that do not have any standardized meaning as prescribed by GAAP. These non-GAAP measures should not be considered an alternative to GAAP net income or any other GAAP measures and such non-GAAP measures have important limitations as analytical tools. The computation of DCF, Adjusted EBITDA, Segment EBDA before certain items and Net Debt (Cash) may differ from similarly titled measures used by others. Accordingly, use of such terms may not be comparable to similarly defined measures presented by other entities. Investors should not consider these non-GAAP measures in isolation or as a substitute for an analysis of results as reported under GAAP. The limitations of these non-GAAP measures are compensated for by reviewing the comparable GAAP measures, understanding the differences between the measures, and taking this information into account in our analysis and our
decision making processes. Any use of non-GAAP measures in this management's discussion and analysis is expressly qualified by this cautionary statement.
Distributable cash flow ("DCF") is income from continuing operations, and income from discontinued operations, before D&A adjusted for: (i) income tax expense and cash income taxes (paid) refunded; (ii) sustaining capital expenditures (also referred to as ''maintenance'' capital expenditures); and (iii) "certain items", which we define as items required by GAAP to be reflected in net income, but typically either (a) do not have a cash impact, or (b) by their nature are separately identifiable from the normal business operations and in our view are likely to occur only sporadically (for example gains or losses on asset sales, legal settlements and casualty losses).
DCF is an important performance measure used by us and by external users of our financial statements to evaluate our performance and in measuring and estimating our ability to generate cash earnings after servicing our debt and preferred share dividends, paying cash taxes and expending sustaining capital, that could be used for discretionary purposes such as distributions or expansion capital expenditures (also referred to as ''discretionary'' capital expenditures). We use this performance measure and believe it provides users of our financial statements a useful performance measure reflective of our ability to generate cash earnings to supplement the comparable GAAP measure. DCF should not be used as an alternative to net cash provided by operating activities computed under GAAP. We believe the GAAP measure most directly comparable to DCF is Income from continuing operations. A reconciliation of Income from continuing operations to DCF is provided in the table below. DCF per Restricted Voting Share is DCF divided by average outstanding Restricted Voting Shares, including restricted stock awards that participate in dividends.
Reconciliation of Income from Continuing Operations to DCF Three Months Ended March 31, 2019 2018 (In millions of Canadian dollars, except per share amounts) Income from continuing operations 21.3 14.0 Reconciling items - add/(subtract): Certain items before book tax(a) 0.7 - Book tax certain items(b) (0.2 ) - D&A 21.8 19.7 Total book taxes before certain items 9.1 5.9 Cash taxes (20.8 ) (6.8 ) Preferred share dividends (7.2 ) (7.2 ) Sustaining capital expenditures (2.3 ) (2.1 ) DCF from continuing operations 22.4 23.5 DCF from discontinued operations(d) - 53.5 DCF 22.4 77.0 DCF from continuing operations to KMI interest 15.7 16.5 DCF from continuing operations to Restricted Voting Stockholders 6.7 7.0 Weighted average split-adjusted Restricted Voting Shares outstanding for dividends (in millions)(c) 35.1 34.8 DCF from continuing operations per split-adjusted Restricted Voting Share 0.19 0.20
Adjusted earnings before interest expense, taxes, depreciation and amortization ("Adjusted EBITDA") is used by us and by external users of our financial statements, in conjunction with outstanding debt, net of cash, to evaluate certain leverage metrics. We do not allocate Adjusted EBITDA amongst equity interest holders as we view total Adjusted EBITDA as a measure against our overall leverage.
Reconciliation of Income from Continuing Operations to Adjusted EBITDA
Three Months Ended March 31, 2019 2018 (In millions of Canadian dollars) Income from continuing operations 21.3 14.0 Reconciling items - add/(subtract): Total certain items(a)(b) 0.5 - D&A 21.8 19.7 Total book taxes before certain items 9.1 5.9 Interest (income) expense, net (1.2 ) 0.4 Adjusted EBITDA from continuing operations 51.5 40.0 Adjusted EBITDA from discontinued operations(d) - 58.0 Adjusted EBITDA 51.5 98.0 _________
table included above.
(c) Includes stock awards of Restricted Voting Shares that participate in dividends.
(d) DCF from discontinued operations and Adjusted EBITDA from discontinued operations reconciliations are as follows:
DCF from discontinued operations:
Three Months Ended March 31, 2018 (In millions of Canadian dollars) Income from discontinued operations, net of tax 30.4 Reconciling items - add/(subtract): D&A 17.1 Total book taxes 10.6 Sustaining capital expenditures (4.6 ) DCF from discontinued operations 53.5
Adjusted EBITDA from discontinued operations:
Three Months Ended March 31, 2018 (In millions of Canadian dollars) Income from discontinued operations, net of tax 30.4 Reconciling items - add/(subtract): D&A 17.1 Total book taxes 10.6 Interest (income) expense, net (0.1 ) Adjusted EBITDA from discontinued operations 58.0
Net Debt, as used in this report, is a non-GAAP financial measure that management believes is useful to investors and other users of our financial information in evaluating our leverage, individually and in conjunction with Adjusted EBITDA. Net Debt is calculated by adding 50% of the principal amount of our preferred equity to and subtracting cash and cash equivalents from debt. We believe the most comparable measure to Net Debt is debt net of cash and cash equivalents.
Segment EBDA Before Certain Items
Segment EBDA before certain items (a non-GAAP measure) is used by management in its analysis of segment performance and management of our business. General and administrative expenses are generally not under the control of our segment operating managers, and therefore, are not included when we measure business segment operating performance. We believe Segment EBDA
before certain items is a significant performance metric because it provides us and external users of our financial statements additional insight into the ability of our segments to generate segment cash earnings on an ongoing basis. We believe it is useful to investors because it is a performance measure that management uses to allocate resources to our segments and assess each segment's performance. We believe the GAAP measure most directly comparable to Segment EBDA before certain items is Segment EBDA.
In the tables for each of our business segments under "-Segment Earnings Results" below, Segment EBDA before certain Items is calculated by adjusting the Segment EBDA for the applicable certain item amounts, which are totaled in the tables and described in the footnotes to those tables (if any).
Segment EBDA and Segment EBDA before certain items excludes discontinued operations for the 2018 period.
Segment Earnings Results Terminals Segment Three Months Ended March 31, 2019 2018 (In millions of Canadian dollars, except operating statistics) Revenues 86.0 74.2 Operating expenses, except D&A (34.4 ) (31.6 ) Other (expense) income, net - (0.1 ) Other, net and unrealized foreign exchange gain (loss) - 0.1 Segment EBDA 51.6 42.6 Change from prior period Increase/(Decrease) Revenues 11.8 16 % Segment EBDA 9.0 21 % Operating statistics 2019 2018 Bulk transload tonnage (MMtons) 1.0 0.8 Liquids tankage capacity available for service (MMBbl)(a) 9.6 8.2 Liquids utilization %(b) 100 % 100 % ________ (a) Includes our share of joint venture capacity.
(b) The ratio of our tankage capacity in service to tankage capacity available for service.
Below are the changes in both Segment EBDA and revenues:
Segment EBDA Revenues increase/(decrease) increase/(decrease) (In millions of Canadian dollars, except percentages) Base Line joint venture 7.3 235 % 8.2 234 % North 40 Terminal 2.3 28 % 2.4 26 % Vancouver Wharves Terminal 1.6 28 % 1.7 9 % Edmonton South Terminal 0.8 8 % 1.7 8 % Edmonton Rail Terminal joint venture (2.4 ) (16 )% (2.3 ) (13 )% All others (including eliminations) (0.6 ) (20 )% 0.1 5 % Total Terminals 9.0 21 % 11.8 16 % ________ n/a - not applicable
The changes in Segment EBDA for our Terminals business segment are further explained by the following discussion of the significant factors driving Segment EBDA in the comparable three month periods ended March 31, 2019 and 2018:
increase of $7.3 million (235%) from Base Line joint venture as a result of the new tanks being placed into service throughout 2018;
increase of $2.3 million (28%) from North 40 Terminal primarily due to rate increases on re-contracted tank leases;
increase of $1.6 million (28%) from Vancouver Wharves Terminal primarily due to higher bulk tonnage;
increase of $0.8 million (8%) from Edmonton South primarily due to rate increases on re-contracted tank leases and higher pipeline connection fees; and
decrease of $2.4 million (16%) from Edmonton Rail Terminal primarily due to expiration of a third-party rail terminaling contract.
Pipelines Segment Three Months Ended March 31, 2019 2018 (In millions of Canadian dollars, except operating statistics) Revenues 16.0 14.4 Operating expenses, except D&A (5.7 ) (7.7 ) Other, net and unrealized foreign exchange loss - (0.4 ) Segment EBDA 10.3 6.3 Change from prior period Increase/(Decrease) Revenues 1.6 11 % Segment EBDA 4.0 63 % Operating statistics 2019 2018 Cochin transport volumes (MBbl/d) 89 85
Below are the changes in both Segment EBDA and revenues:
Segment EBDA Revenues increase/(decrease) increase/(decrease) (In millions of Canadian dollars, except percentages) Cochin 3.8 75 % 1.4 11 % Jet Fuel and other (including eliminations) 0.2 18 % 0.2 6 % Total Pipelines 4.0 63 % 1.6 11 %
The changes in Segment EBDA for our Pipelines business segment are further explained by the following discussion of the significant factors driving Segment EBDA in the comparable three month periods ended March 31, 2019 and 2018:
increase of $3.8 million (75%) from Cochin primarily due to a reduction in pipeline integrity expenses and outside services costs in 2019, and higher revenue due to rate increases in the first quarter of 2019.
General and Administrative Expense Three Months Ended March 31, 2019 2018 Increase/(decrease) (In millions of Canadian dollars, except percentages) General and administrative 11.1 8.9 2.2 25 % Certain items(a) (0.7 ) - (0.7 ) General and administrative before certain items 10.4 8.9 1.5 17 % _________
The $1.5 million increase in general and administrative before certain items for the first quarter of 2019 when compared with the first quarter of 2018 was primarily driven by increased labor and benefit costs.
Interest Income (Expense), Net
The $1.6 million increase in interest income (expense), net for the first quarter of 2019 when compared with the first quarter of 2018 was driven primarily by interest income in the 2019 period due to deposits made from the Trans Mountain Transaction proceeds into interest bearing cash equivalent accounts.
Income Tax Expense from Continuing Operations
Income tax expense from continuing operations for the three months ended March 31, 2019 was $8.9 million, as compared with $5.9 million for the same period of 2018. The $3.0 million increase in tax expense is primarily due to an increase in pre-tax earnings from continuing operations.
Net Income Attributable to Kinder Morgan Interest
Net income attributable to Kinder Morgan interest represents the allocation of our consolidated net income attributable to the outstanding ownership interests . . .
Apr 26, 2019
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