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Spectra Energy - Sour is the Smell

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January 12, 2014 – Comments (2) | RELATED TICKERS: SE

Texas (01/12/2014) - Spectra Energy Corporation (NYSE: SE) – Sell based on a recent price of $35.19 and a fair value estimate of $23-$29.

The company, through its subsidiaries and equity affiliates owns and operates a portfolio of complementary natural gas-related energy assets that includes processing, transmission, storage and distribution of natural gas and liquids.

Additionally, the company has interests in 14172 miles of transmission pipeline across the United States and Canada with 12463 miles owned directly by the company and or its affiliates.

Perhaps the single thing that stood out to me as I reviewed the company's latest annual financials was the amount of debt the company has, totaling roughly $12.8 billion.

While much of the debt is underwritten via corporate bonds and debentures, what I found very strange was the average coupon rate for all of this debt was 6.015%.

In today's world of almost free money, it just seems incredible for a company the size of Spectra to pay an average interest rate that high. It also makes me wonder why the company would want to add debt. But add they did, increasing total debt y-o-y by 7.5%.

My issue with debt, a necessary evil, is regardless of the type, secured, unsecured, a bond, or a debenture, the borrowed money still must be returned and interest must be paid.

It is the interest part that admittedly I tend to focus on because the interest payment comes from company profits.

As I noted, the company increased its total debt y-o-y by 7.5%. What I found fascinating was that for increasing its debt by 7.5% the company received nothing, nada, zilch.

Year over year there was no increase in sales, no increase in profits, no increase in CAPEX, no increase in anything except debt.

Simply put, for an increase in risk, the company appears to have received no increase in potential reward. How odd.

As the matter of fact some of the company's other y-o-y points of interest were free cash flow growth of (-53%), operating cash flow margin of (-1.5%), reduction in cash on hand by 46%, a 5% sales decline, and a 4% decline in earnings.

Once again, just like the increase in debt was a negative, there were additional negatives from other parts of the financial statements. All of which are extremely disappointing.

I realize that the company, like so many other energy companies, is involved with its Master Limited Partnership. And I realize that over time, adjustments to company's financial statements, including debt adjustment may be required in order to balance the MLP holdings.

But considering year over year operations, a management KPI (Key Performance Indicator) of 39%, and a recently announced increase in the annual dividend, I think an investment in Spectra Energy at this time, will only end up smelling like the gas in the company's pipelines..sour.

Wax

Disclosure:Wax Ink is a baseline equity research company not licensed or registered with any government agency and has no position in any stock mentioned.
For use by Accredited Investors as defined under Title 17, CFR §230.500, Regulation D. - Copyright © 2014 Wax Ink

2 Comments – Post Your Own

#1) On January 12, 2014 at 12:37 PM, dwot (39.29) wrote:

I have visited one of Spectra's plants 3 times over the past 6 years.  I know locally where I live they've built a second plant because there is so much natural gas around here.  

 There is a plan to ship the natural gas overseas and work on expanding the pipeline to the coast.  That pipeline is not written in stone, but currently in North America there is way more gas supply then demand, however, if that pipeline gets completed and the natural gas can to be sold over seas, that will change the supply and demand considerably and improve the price of natural gas.  Right now the price is so low and there is a lot of opposition to the pipeline, I can see that creates huge challenges for raising funds, hence the expensive debt.  I'd say the company has a huge problem turning its finances around if that pipeline is not completed.

 Oh, and when I moved here over 6 years ago, I could drive the 200 km road from Ft Nelson to Ft Liard and actually not see a single vehicle and I could always count how many vehicles I passed on one hand.  The trucks on that road today makes driving that road truly scary.  There is just tons of activity happening around here.

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#2) On January 13, 2014 at 5:41 AM, wax (97.34) wrote:

dwot;

Natural gas is difficult to ship overseas because it must first be liquified. Once liquified, the gas now in liquid form, must remain in that state for what could amount to a very long journey.

Certainly in Autralia for example gas is being moved by ship from one side of the continent to the other. Eventually that method of shipping will be replaced by pipelines simply because it is more economical to move the product as a gas.

And that is the business of Spectra, pipelines.

As you note, we are short a few thousand miles of pipelines in this country and at the moment there is not the political will to add more. That will change one day and perhaps Spectra will be in a position to capitalize on that change.

It is a good company just overpriced to me at the moment. I will probably re-evaluate once their new annual numbers are published.

Wax

 

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