The Williams Companies, Inc.

Moat: 3/5

Understandability: 3/5

Balance Sheet Health: 4/5

The Williams Companies, Inc. is an energy infrastructure company, operating midstream and transportation systems that primarily deal with natural gas.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

The Williams Companies, Inc. (WMB), is a key player in North America’s energy infrastructure, primarily involved in the gathering, processing, transportation, and storage of natural gas and natural gas liquids (NGLs). It operates a vast network of pipelines and related facilities, connecting supply basins to key market centers. This infrastructure provides the company with a significant, but not insurmountable, competitive advantage.

Business Overview

WMB operates primarily through two segments:

  1. Transmission & Gulf of Mexico: This segment is focused on operating interstate natural gas pipelines, primarily along the Southeast and Northwest areas of the US. These pipelines are crucial for transporting natural gas from production sites to consumption areas.
  2. Gas & NGL Marketing Services: This segment handles activities involved with NGLs, such as gathering, fractionation, marketing, and distribution. It involves the sale of these products from various processing facilities and gathering areas.

WMB’s core business is centered around natural gas infrastructure, which has seen substantial demand growth as natural gas is often used for power generation in the United States and abroad.

Revenue Distribution

The company’s revenue is primarily generated through:

  • Transportation fees: Fees charged for transporting natural gas through its pipelines.
  • Processing fees: Fees charged for processing NGLs and extracting natural gas liquids.
  • Commodity sales: From selling products extracted from processing, such as NGLs and refined natural gas.
  • Marketing and other revenue: The income made by the company in the trading of NGLs and other related services.

A significant portion of WMB’s revenue is relatively stable due to its contracts being tied to volume rather than volatile energy prices, which helps shield the company from the downside of oil and gas industry’s price swings.

  • Growing demand for natural gas: Natural gas is increasingly being used as a cleaner alternative to other fossil fuels and as a means of generating electricity, indicating consistent growth prospects.
  • Increased focus on energy security and LNG exports: Russia’s invasion of Ukraine and the ongoing geopolitical tensions have underscored the importance of reliable natural gas supplies, which can benefit WMB’s role in transportation infrastructure. There has been increased demand for LNG as governments diversify energy sources.
  • Emphasis on sustainable energy: The focus on renewable energy sources has increased demand for natural gas, as it is often used in conjunction with these sources to provide power.
  • Regulatory and Environmental scrutiny: Increasing public and investor attention on environmental and climate change issues can impose new regulations on operations in terms of emissions and other environmental matters.

Competitive Landscape

The midstream and energy infrastructure sector is highly competitive with players including:

  • Kinder Morgan (KMI)
  • Energy Transfer (ET)
  • TC Energy Corp. (TRP)
  • Enbridge (ENB)

While WMB is a major player in the industry, a few of its competitors are bigger and more diverse in their operations, giving WMB a ‘narrow’ moat rather than a ‘wide’ one.

What Makes the Company Different

WMB has several characteristics that makes it a unique play in the industry * Strategic assets: WMB’s pipeline network is strategically placed in highly attractive basins, such as the Marcellus, Utica, and Haynesville, giving it access to major supply areas and consumers. * Vertical integration: WMB’s business is fully integrated from gathering and processing to long-haul transportation, which allows for lower cost, better margins, and gives its clients a single point of contract for all of their services. * Focus on reliable, long-term contracts: WMB primarily operates with contracts that minimize the company’s exposure to price fluctuations and reduces counterparty risks.

Financial Analysis

Recent Financial Performance: WMB has had a positive financial performance for 2022/2023 due to high NGL prices and stable and growing revenue generated by its pipelines. However, WMB has noted increased spending and inflation, as well as a significant rise in interest rates and overall cost of capital.

  • Revenues: WMB’s revenues in 2023 are up from the year prior, showing the company can take advantage of increased demand and higher commodity prices.
  • Earnings: The company’s earnings have been volatile because of commodity derivatives, increased operating expenses, interest expense, and restructuring charges in the reporting period. It is critical to understand if the core profitability of its business operations are stable or have been impacted because of other reasons. * Margins: WMB’s operating margins have been healthy over 2022 and 2023. Its ability to maintain these margins, or even to improve them, is crucial to its ability to maintain shareholder value. For example, the modified EBIDTA margins improved YOY due to higher revenues and lower operational costs.
  • Cash Flow: The company continues to have robust cash flows as a result of higher demand for natural gas and NGLs. This cash flow will help it manage its capital expenditures and debt obligations.

Balance Sheet Health (4/5)

  • Liquidity: WMB has maintained a decent level of liquidity throughout 2022 and 2023. WMB has a credit facility of $4.0 Billion in place and good amount of cash on hand to manage debt maturities, working capital, and acquisition opportunities. Also, WMB has consistently generated strong operational cash flows.
  • Debt: The company’s debt-to-equity ratio is close to or slightly above 1.0. While this level is acceptable for an infrastructure company, it would have been better if it was lower. WMB’s leverage is higher than some of its peers and it may make the company more vulnerable to sudden rate shocks. While WMB can service its debt well with a current interest coverage of 1.9 times, a slight fall in profitability can impact the interest coverage metrics and can make the company more risky.
  • Assets: The company’s net assets are mainly long-term and have been relatively stable, indicating that the core business is not undergoing radical changes. A minor decrease is visible in goodwill, indicating that no substantial purchase price premiums are being recorded on recent acquisitions.
    • Equity: In 2022 and 2023 the equity has been stable, with small fluctuations reflecting management’s buyback activity. It also reflects that any earnings generated were mostly used for reinvestment, debt repayment, or for share buyback.

Concerns/Controversies & Problems

  • Regulatory uncertainties: WMB is subject to extensive regulatory oversight as an energy company. Changes in regulation, especially with respect to environmental and climate standards can have a detrimental impact on its ability to operate profitably. Management recognizes that future regulatory changes can increase costs or negatively impact its operations, but claims that it will continue to manage these challenges efficiently.
  • Commodity Price Sensitivity: Although WMB’s revenue is relatively stable because of its contracted nature, a downturn in commodity price could negatively impact its volumes. However, this is largely mitigated as contracts are tied to volume rather than prices, and is usually a benefit for its transportation and midstream segment.
  • Integration risks: WMB has been on an acquisition spree, particularly with a focus on the Gulf of Mexico, with the acquisition of Trace Midstream, MountainWest Pipeline, and Norther Star Pipeline, among others. While this diversification can help WMB grow, these acquisitions introduce integration risk, and failure to fully integrate them or achieve desired synergy can lead to financial problems. Management, however, believes that it has learned from its mistakes and has developed sufficient capabilities to integrate new acquisitions.

Moat Analysis (3/5)

WMB’s economic moat is classified as narrow because it is supported by its strong and complex infrastructure, but is not impenetrable by new entrants or large industry incumbents.

  • Cost advantages: WMB’s operations benefit from economies of scale, particularly in its pipeline networks and processing plants, making it difficult for competitors to operate as cheaply. * Intangible assets: Regulatory approvals serve as a hurdle for new players to enter its areas of operation, which does provide a limited amount of moat through such approvals.

However, these advantages are not as strong as one might think because:

  • Low switching costs: In general, there are low switching costs associated with most of their business services. For example, customers of gas pipelines can switch to a competitor for only the monetary cost of switching. Because of low barriers to entry, this increases risks for the company if they are not the cheapest or most efficient alternative.
    • New Entrants: There are several well-funded major energy players that can duplicate some of the infrastructure needed by WMB. While it takes time and money to do so, this does not preclude big players from replicating most of its assets.

Understandability Rating (3/5)

While the basic business model of WMB is easily understandable—gathering, processing, transporting, and marketing natural gas—, there are a few things that give rise to the 3 out of 5 understandability rating:

  • The various aspects of its operations and the business lines can sometimes be a bit complicated, since they may span multiple industries, locations and agreements.
    • The regulatory landscape of natural gas is fairly complex.
    • The financial statements include some complex derivations due to derivatives trading and joint ventures and equity holdings.
    • It’s difficult to determine the degree of influence that factors such as climate change, and government actions, will have on its ability to operate profitably.

Summary

  • WMB is a large infrastructure company operating a stable, fee-based business.
    • The company has a narrow moat stemming from its economies of scale and regulatory approvals, which help protect the core infrastructure.
    • Its future profitability depends greatly on its ability to secure long-term contracts with producers and on its ability to manage various external factors such as regulations and the volatile commodity prices.
    • The business has a fairly healthy balance sheet.
    • While management has proven its ability to tackle complex problems and integrate new acquisitions into its business, it still has to show that it has the ability to convert growth into shareholder returns.

Ultimately, while WMB operates a decent, long-term oriented business in a crucial industry, management will have to face tough challenges going forward, including increased competition, changing consumer preferences, higher interest rates and higher regulatory scrutiny. Investors should therefore be wary of its debt levels and should be cautious while weighing their long-term value.