Williams Partners (WPZ)

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Williams Companies' $13.8 Billion Kinder Style Merger: 3 Things Dividend Investors Need to Know

By Adam Galas
May 22, 2015


Williams Companies (NYSE: WMB ) just made another huge acquisition with a Kinder Morgan (NYSE: KMI ) style $13.8 billion acquisition of its MLP Williams Partners (NYSE: WPZ ) . Find out three reasons why this deal is a huge win for dividend investors and what it means for the future of one of America's largest pipeline operators.

Terms of the deal
Lets start with the meat and potatoes of this $13.8 billion all stock deal. Williams Partners investors will get 1.115 shares of Williams Cos stock, which represents around a 13% premium from Williams Partners' May 13 closing price.

The deal, which still needs shareholder and regulatory approval, is expected to close in the fall of 2015 and will generate an additional 275.4 million shares of Williams -- representing 37% dilution for current Williams Cos investors.

However management is highly confident that the deal will be immediately accretive and beneficial to all parties involved.

Why management wants this deal


"This strategic transaction will provide immediate benefits to Williams and Williams Partners investors. ... The lower cost of capital and improved tax benefits expected from this transaction increase our confidence in extending the duration of our expected 10 percent to 15 percent dividend growth rate through 2020. ...This transaction simplifies our corporate structure, streamlines governance, and positions Williams for strong investment-grade credit ratings." -- Alan Armstrong, Williams Companies' president and CEO

According to Armstrong the benefits of the deal can be broken down into two components.

First, on an operational level it eliminates the incentive distribution rights or IDRs that Williams Partners had to pay its general partner and that slowed down distribution growth.

The elimination of IDRs means a lower cost of capital which will immensely help the company execute on its hyper-ambitious growth plan in the coming years. For example, Williams has a current backlog of $30 billion in growth projects it plans on investing in through 2020. To put that into perspective, Williams has an enterprise value 32% smaller than Kinder Morgan's yet its official current backlog is 67% larger.

Another benefit is with its larger scale of the new Williams will help improve the company's access to cheap credit which should help it fund its backlog execution faster.

In addition the simplified corporate structure might make Williams Cos shares more attractive currency for future mergers and acquisitions because the merger should improve Williams Cos profitability and increase the value of its shares..

Finally, as was seen with the Kinder Morgan merger, Williams Companies should have enormous tax benefits from this acquisition for two main reasons.

First, pipelines generate enormous tax deferments due to heavy depreciation. Previously these benefits went to Williams Partners investors due to its MLP "pass through" structure. Now Williams Cos will be able to retain those deferments.

Second, Williams will be able to reset the value of Williams Partners' assets to the higher purchase price it is paying, which under an accelerated depreciation tax schedule can generate billions in long-term tax deferments. While the company will eventually have to pay those taxes, by pushing off this tax bill by several years Williams will be able to use that money to fund its expansion plans faster.

For example, Kinder Morgan will, over the next 14 years, be able to garner $55 billion in tax deferements from its buyout of its MLPs, cash that can help it fund new investment and acquisitions. Should Williams be able to secure a similar scale of depreciation deferments that could mean several billion that could do the same over the next few years.

Faster, safer, and longer dividend growth
This brings up the second benefit, faster, longer, and sustainable dividend growth. Before the merger announcement Williams Cos was guiding for 10%-15% dividend growth through 2017 with a long-term targeted dividend coverage ratio or DCR of 1.1. Now management believes it can grow the payout at this rate through 2020 and achieve a stronger 1.2 DCR by 2018.

What's more, management claims that the deal would allow it to beat its previous short-term forecast for Williams Cos 2015 and 2016 dividend guidance, by 20% and 6.3%, respectively.

Tax implications for Williams Partners investors
After the Kinder Morgan merger a lot of investors had questions based on the tax implications of that deal. While I'm not qualified to provide you with any personalized tax advice -- Certified Personal Accountants with MLP experience are needed for that -- Kinder's merger might be able to clarify some broader questions.

For example, this merger could trigger a taxable event that could partially or even completely offset the premium Williams Partners are receiving.

The extent of that offset will most likely be based on the adjusted purchase price of Williams Partners units and whether or not you've owned them for more than a year -- meaning short term versus long term capital gains. Keep in mind that a large part -- shown on the annual K-1 form investors received from the MLP -- of Williams Partners' distributions have been return of capital which needs to subtracted from the initial purchase price.

This tax complexity is why every investor's tax implications will be different and why only a qualified CPA, armed with your previous K-1 statements, can give you personalized tax guidance.

Takeaway: Williams Cos merger with its MLP means a win for dividend investors
William Cos merger with its MLP is likely to have many beneficial aspects that should mean longer, stronger, and more sustainable dividend growth in the years to come.