ONEOK: An Interesting Midstream Company (NYSE:OKE)

Via SeekingAlpha.com

ONEOK (Oneok) (NYSE: OKE) is a midstream company with an impressive portfolio of natural gas assets. The company’s natural gas asset base means that it is more capable of surviving the downturn than other companies – not only is natural gas demand much less transportation-based, but natural gas prices have taken a much smaller hit. As we’ll see throughout this article, the company’s unique asset base makes it a strong long-term investment.

Oneok – The Oklahoman

Oneok Overview

Oneok has a strong portfolio of assets that fundamentally drive the company’s business.

Oneok Asset Overview – Oneok Investor Presentation

Oneok has a 40-thousand mile network of natural gas liquids and natural gas pipelines showing the company’s focus on natural gas. That’s significant because natural gas has fallen much less than oil. Natural gas demand, unlike oil transportation, hasn’t disappeared as a result of the COVID-19 virus. People living at home continue to use natural gas.

The company is diversified across a number of major oil and natural gas basins throughout the United States, including some of the most significant and lowest cost assets. At the same time, the company’s assets are connected to some of the most significant export and trading plays in the United States. These make the assets an essential part of the company’s network.

Oneok Financial Strength and Overview

The company’s financial strength and balance sheet are both substantial, something that supports the company’s double-digit dividend.

Oneok Fee-Based Capital – Oneok Investor Presentation

The company has 90% fee-based earnings with 5% commodity exposure and 5% differential exposure. That means, even if the company loses 100% of the non-fee based earnings (unlikely because natural gas has dropped significantly less), it will still have more than enough to cover its dividend (although its coverage ratio would be 1.09x instead of 1.2x).

At the same time, the company’s significant size and existing asset base mean it can use its additional capital to grow. The company sees itself as having a significant portfolio of growth opportunities we’ll discuss more later.

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Oneok Liquidity – Oneok Investor Presentation

The above image highlights Oneok’s increasing financial strength and liquidity. The company issued $2 billion in senior notes with great timing to provide it with significant liquidity. At the same time, the company has no borrowings under a $2.5-billion credit facility, which means the company has $4.5 billion worth of liquidity.

The company continues to retain massive dividends on top of its DCF. It’s not enough to cover capital at this time, however, the company has the room to cut capital spending further. At the same time, the company is comfortably covering maintenance capital. The company’s net debt to EBITDA ratio of 4.8x is higher than most, but still manageable.

Going into 2021, the company, as a result of its significant growth spending, expects EBITDA to continue growing. That should enable higher shareholder rewards.

Oneok 2020 Guidance

In fact, looking at the company’s 2020 guidance, we can see how strong its portfolio is.

Oneok 2020 Guidance – Oneok Investor Presentation

Oneok is forecasting significant 2020 growth. The company is expecting $2.5 billion in DCF. However, the company’s DCF isn’t enough to cover its capital spending, let alone its dividend, as it continues to focus on growth. That’s not bad, depending on growth project returns, but it’s dangerous given the current market.

However, what’s important here is the company’s annual dividends are ~$1.5 billion. That leaves the company with $1 billion annually outside of its DCF. Debt should grow by ~$1.7 billion. However, its debt to adjusted EBITDA should actually go from 4.8x to 4.4x as a result of significant EBITDA growth from company spending.

Going into future years that could improve even further.

Oneok Growth

Oneok is focused significantly on growth, as we discussed above, although the company does need to cut its growth capital expenditures given its high debt and financial position.

Oneok Growth Capital – Oneok Investor Presentation

The above image provides an overview of the company’s massive growth projects that have the potential to generate incredibly strong rewards for shareholders. I’d like to see the company slow down its 2021 capital; right now, it seems like it’s planning to actually increase 2021 growth capital slightly from 2020.

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However, the company is expecting ~5x adjusted EBITDA multiple which is significant. The company, for example, is expecting 2020 adjusted EBITDA at $3.85 billion. That should increase to $4.35 billion by 2021, and potentially to $4.85 billion by 2022.

Doing some financial modeling, we can see how quickly the company’s financial portfolio can improve. Those improvements could improve the company’s current 4.8x debt to adjusted EBITDA. The company’s debt is quite high, something worth paying close attention to. Many other companies have debt to adjusted EBITDA from 3.5x to 4.5x.

The company has current debt at ~$15.5 billion ($3.23 billion in 2019 adjusted EBITDA with a 4.8x multiple). In 2020 YE, that should become $3.85 billion in adjusted EBITDA with $17.2 billion in debt. By 2022, the company will be spending roughly $5 billion on capital spending at its highlighted 5x approximate EBITDA multiple.

The company should have ~$1 billion in post dividend DCF. In 2021, that should increase to ~$1.2-3 billion. That means the company’s debt should increase by $2.7-3 billion total. That should put total debt from $15.5 billion now to $17.2 billion in 2021 to $18.5 billion in 2022. At the same time, adjusted EBITDA going into 2022 should grow into $4.3 billion.

This means a debt to adjusted EBITDA ratio of <4.1x by the start of 2022, with a double-digit dividend, highlighting how much the company’s financials will improve. That improvement, while paying the company’s dividends, highlights why the company is a strong investment.

Oneok Risk

Oneok has some risks that are worth paying attention to. These are the risks that come from a company that’s spending billions beyond its pure cash flow annually.

The company is fundamentally relying on its long-term predictions of the oil and natural gas markets. However, as COVID-19 has very clearly shown, these productions can change at any time in unexpected ways. For companies spending a massive amount on growth capital, there is the chance that those changes can impact the company further.

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However, as discussed above, the company’s financial portfolio should improve over the next several years, in line with a potential recovery. The company’s capital spending could set it up to perform better going forward.

Conclusion

Oneok has an incredibly impressive portfolio of assets tied into every major U.S. natural gas play. The company’s strong fee-based capital and natural gas centered asset base positions it well, even in a COVID-19 world, where oil is much less used in the immediate term. At the same time, the company offers shareholders a secure double-digit yield.

Going forward, the company should see even more significant growth. The company is spending massively on capital. The returns from this capital spending should be significant; however, the company does have a significant leverage ratio and that’s worth paying close attention to during a difficult time. However, overall the risk-reward ratio is in favor of shareholders.

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Disclosure: I am/we are long OKE. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.