Friday, December 4, 2009

Kinder Morgan Energy Partners (KMP) Dividend Stock Analysis

Kinder Morgan Energy Partners, L.P. owns and manages energy transportation and storage assets in North America. Kinder Morgan is a dividend achiever as well as a component of the S&P 500 index. It has increased distributions for the past 13 years. For the past decade this dividend growth stock has delivered annualized total returns of 17.40 % to its shareholders.

At the same time company has managed to deliver an 14.20% average annual increase in its cash flow per unit since 1999.

The returns on assets have been very stable between 7% and 8% with the exception of 2007.

Annual distributions have increased by 12.10% on average over the past 10 years.
A 12% growth in distributions translates into the dividend payment doubling almost every six years. If we look at historical data, going as far back as 1993, we would see that Kinder Morgan has actually managed to double its dividend payment every five years on average.
The company has several projects worth $6 billion in its pipeline, which should add to incremental distributable cash flow per unit over the next few years.

Over the past decade the distribution payout ratio has been rather stable between 50% and 60%. For this company I used the ratio of current cash flow/unit to the annual distribution/unit. A lower payout is always a plus, since it leaves room for consistent dividend growth minimizing the impact of short-term fluctuations in earnings.

The main risks for Kinder Morgan include increase in interest rates, which would increase the company’s borrowing costs to finance future projects and make its units less attractive to investors seeking its fat yield. Another risk could include adverse change in the legal structure of master limited partnerships, similar to what has happened to Canadian Royalty trusts. Thus investors should be careful not to have an overweight exposure to Kinder Morgan and Master Limited Partnerships in their portfolios. In addition to that as a mature MLP, the company distributes 50% of incremental cash flows to the general partner, which is higher in comparison to other pipeline operators.

Overall I think that Kinder Morgan is an attractive option for investors seeking current income as well as for those seeking future distribution growth as well. The company currently yields 7.50% and recently announced that it expects to raise its annual distributions to $4.40/unit from this year’s $4.20/unit. The company does have enough distributable cash flow to cover its distributions, in addition to having a stable toll booth type income streams from its pipeline operations.

There is an easy way to invest in Kinder Morgan (KMP) if you do not want to worry about K-1 tax forms. If you choose KMR they would pay their distributions directly as additional shares, which is similar to automatic dividend reinvestment. If you choose to invest in KMP in an IRA, consider investing in KMR . KMR is a great vehicle for taxable accounts as well since their distributions are not taxable when received, and thus shareholders are not issued an annual 1099 tax form. You would pay taxes only when you sell your units.

Full Disclosure: Long Kinder Morgan Energy

Relevant Articles:

- Master Limited Partnerships (MLPs) – an island of opportunity for dividend investors
- General vs Limited Partners in MLP's
- MLPs for tax-deferred accounts
- Six Dividend Stocks for current income


  1. I think that CAGR is a more accurate picture of dividend or distribution growth rates, not just the average increase. For KMP the 10 year distribution CAGR is more like 11%, and the last five years it has slowed dramatically at 6.8% Still very good, but not quite the same picture from your presentation. By the way I own KMP and KMR units, so I like them as an investment, but I don't see them growing their distribution 12% going forward.

  2. If I look at their cash flow from opns for past 3 yrs and subtract capital expenditures there is little left over to pay such large dividends. Therefore they are getting the cash for dividends from an increase in debt which has gone up a lot. Same goes for other similar energy partnerships also mentioned in Barrons article.
    Is there something wrong with my logic? Most of the really good stock div payers like J&J, MO, etc have lots of free cash flow after dividends...

  3. It's true that KMP might not keep raising distributions at a rate of 12%, especially since the incremental growth in distributions goes to the general partner.

    As for dividends, with the exception of 2007 KMP managed to cover them from earnings alone ( +/- $100 mln). The company does distribute almost all of its earnings to sharheolders- I think all MLPs have to distribute mosto their earnings to maintain status, similar to REITs and BDCs.

  4. DivGroInv, I greatly enjoy your posts! On KMP, I'm wondering how you view the Limited Partner Unit risks, especially the following from the KMP 2008 annual report: unit holders...
    (p. 47) may have liability to repay distributions
    (p 48) may be liable if we have not complied with state laws (relating to limited partnerships)
    (p. 50) may have negative tax consequences if we default on debt or sell assets.
    Further, there are (p 197) 13 pages of Litigation, Environmental and other Contingencies.

    These are too difficult for me to understand (at least in a limited amount of time), probably for Warren Buffet too, so this "stock" may fall into his category of "too difficult to understand - won't waste my time on it...."

    Thanks, keep up the good analysis!

  5. Ron,

    With flow through entities you do not have the limited liability that protects you in the corporate form. If KMP fails and owes more than it owns, creditors might come after you for their money.

    But then, what is the possiblilty that KMP would fail?

  6. DGI,

    Thanks for posting a reply. Yes, that's the big question. There are several parts to that: one being the ability and interest of the general partner to look out for the best interests of the LP's rather than just the GP's interests, another being the credit markets and how that impacts the ability to continue operations with the high levels of debt. What are your thoughts on these points?

  7. Other business entities such as LLCs and LPs can protect members/partners/investors as well (or arguably better than in the case of LLC statutory business asset protection) the corporate form. In fact the very point of a limited partnership is that limited partners receive limited liability in exchange for no management involvement; while general partners expose themselves to liability in exchange for management control. I know of no grounds to come after limited partners in their individual capaticy (in excess of their investment and equity in the business) unless they have violated the division and participated actively in management.

  8. Awesome, thanks! I'm a new investor and the idea of paying "stock dividends" over cash is intriguing. I've been looking for stocks to hold outside of my IRA but I'd rather not pay taxes on each quarterly dividend. Are there other stocks or vehicles similar to KMQ and EES that pay out shares of stock?


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