Kinder Morgan's Magic Compounding Machine

Just more than 10 years ago, I bought 110 shares of pipeline giant Kinder Morgan Management (NYSE: KMR  ) , spending $4,107.80 to buy that stake. As of the market's close on Oct. 3, 2013, that stake has grown to 195 shares worth $14,646.45.

That's a total return of more than 250%, driven by two key factors. The first is the rise in price of those original 110 shares. The second -- and the one that has created more value over that decade -- is a bit of good old-fashioned automatic compounding. Kinder Morgan Management pays its dividends as additional shares of stock, rather than as cash, and over the decade I've held the stock, I've accumulated 85 shares from those dividend payments.

How it all adds up
The table below shows the impact of those factors and how, together, they add up to tremendous returns. The astounding part is that as strong as the benefits from growth were -- amounting to a slightly better than 100% gain on the original investment -- the compounding beat those gains by over 50%:

Original Investment

$4,107.80

Growth from the original shares

$4,154.30

Compounding from dividends paid as shares

$6,384.35

Total value

$14,646.45

Data from author's brokerage account as of Oct. 3, 2013.

That shows the incredible power that some seemingly small dividend payments can have over time if you let them work their compounding magic. Still, in this particular case, that automatic compounding is an artifact of an incredibly complicated corporate structure that's actually made up of four separate public securities. The chart below comes from the company's recent investor presentation and shows more or less how the compounding works:

 

Chart from Kinder Morgan investor presentation dated Sept. 12, 2013.

The overall business is structured as a partnership. Kinder Morgan Energy Partners (NYSE: KMP  ) and El Paso Pipeline Partners (NYSE: EPB  ) are limited partnership securities that don't get a vote in the operations of the business. Still, they do get claims on a portion of the money the company generates, in the form of cash distributions.

As implied by its name, Kinder Morgan Management is involved in managing the Kinder Morgan family of companies. That particular security derives its value from Kinder Morgan Energy Partners, as the value of the stock dividends it pays is linked to the value of the Kinder Morgan Energy Partners' distribution.

To round out the company, Kinder Morgan (NYSE: KMI  ) owns the general partner in charge of the whole group, and its shareholders have the corporate voting authority. As the general partner, Kinder Morgan gets claim on all the cash flows after the limited partners take their stakes.

What that complexity means
That complexity means that it's impossible to peg a value on the Kinder Morgan or Kinder Morgan Management securities on their own. Instead, you have to consider the operations of Kinder Morgan Energy Partners and El Paso Pipeline Partners, whose cash-generating abilities drive the values of those other two securities.

There may be a lot of moving parts, but the compounding action created at Kinder Morgan Management by those dividends paid as shares have generated some awesome total returns. There are still no guarantees in the market, but the power of compounding dividends has been an incredible force for wealth creation for generations. And as long as companies pay their dividends, investors like you have the opportunity to put that compounding magic to work.

For More Information on Kinder Morgan's Compounding Machine
If someone asked you, "Why invest in Kinder Morgan?" could you truly answer them? To be honest, few investors could. That's because most of the company's secrets -- the ones that make savvy market watchers rich -- often fly below the radar. If you want an edge on other Kinder Morgan investors, be sure to check out "5 Secrets to Kinder Morgan's Future" from The Motley Fool. This free guide includes actionable advice that you can put to use right now! Just click here now for instant access!


Read/Post Comments (21) | Recommend This Article (44)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On October 04, 2013, at 12:35 PM, 45ACPbullseye wrote:

    Thanks for the clear overview of how Kinder Morgan is structured. Great article.

  • Report this Comment On October 04, 2013, at 12:57 PM, GordonsGecko wrote:

    A CAGR of 13.55% is definitely nothing to sneeze at. I hold shares of KMI and would be thrilled with that kind of return over a 10 year period.

  • Report this Comment On October 04, 2013, at 4:28 PM, phileo72 wrote:

    I'm with you GG...I started a position in KMI early this year: here's believing we will be celebrating similarly in 2023.

  • Report this Comment On October 05, 2013, at 12:11 PM, Nick9132 wrote:

    Is there any difference between a stock reinvestment plan or taking a cash dividend and reinvesting that in the same company or another one that you feel has better value?

  • Report this Comment On October 05, 2013, at 1:21 PM, fishers2tall wrote:

    I pulled up KMR on the Fool website and its dividend rate was listed as 0. Is this because they give out shares instead of cash?

  • Report this Comment On October 05, 2013, at 3:11 PM, sjnsvcs wrote:

    KMI....not KMR

  • Report this Comment On October 05, 2013, at 9:46 PM, TMFBigFrog wrote:

    Hi 45ACPbullseye, GordonsGecko, and phileo72 -- thanks for your kind words.

    Hi Nick9132 -- I think there are tax benefits to the way Kinder Morgan Management's dividends are paid as shares vs. if they were paid as cash and then reinvested, but I'm not 100% sure as I own those shares in an IRA and don't have to worry as much about taxes.

    Hi golfingfanatic -- Yeah, it's probably an artifiact of the fact that Kinder Morgan Management's dividends are paid as shares rather than as cash. This link will take you to Kinder Morgan Management's dividend history: http://www.kindermorgan.com/investor/kmr_dividend_history.cf... .

    Hi sjnsvcs --

    I own shares of both Kinder Morgan Management (KMR) and Kinder Morgan (KMI). this particular article was primarily about the KMR shares as that's the only one where the dividend gets paid as stock rather than cash.

    -Chuck

    Inside Value Home Fool

    Disclosure: I own shares of Kinder Morgan and Kinder Morgan Management.

  • Report this Comment On October 06, 2013, at 2:34 PM, mr091468 wrote:

    Golfingfanatic, the answer to your question is yes. Yahoo finance shows zero also. KMR's website shows the value of the quarterly dividends.

  • Report this Comment On October 07, 2013, at 12:02 AM, dsciola wrote:

    "That complexity means that it's impossible to peg a value on the Kinder Morgan or Kinder Morgan Management securities on their own. Instead, you have to consider the operations of Kinder Morgan Energy Partners and El Paso Pipeline Partners, whose cash-generating abilities drive the values of those other two securities."

    Alright, well if its really that complex of an entity, is it really worth investing in?

    Not to disrespect the thesis of the article, which I see as why its smart long-term to invest in dividend payers, specifically tax-effiicient ones. However, all that chart does and that statement above makes me hesitant to put any sort of capital towards Kidner Morgan whatever...some further thoughts on how exactly to value this entity would tremendously help potential investors looking at Kinder Morgan, in my opinion.

    Dom

  • Report this Comment On October 07, 2013, at 12:54 AM, mikecart1 wrote:

    Good article. I will point out that Kinder Morgan and other MLPs might not be the best thing for IRAs and retirement plans due to tax issues if your holding reaches a % max within your portfolio. Still great to see dividends fly!

    Dividends will always be underrated, under-utilized, and misunderstood by 90%+ of investors. Many that own dividend paying stocks don't even reinvest their dividend payments and instead take the cash.

  • Report this Comment On October 08, 2013, at 8:52 AM, 3chains wrote:

    Because KMR pays its dividends in stock, you can hold it in an IRA. Unlike most MLP's, you do not get a K-1 tax form at the end of the year.

  • Report this Comment On October 08, 2013, at 12:48 PM, sagitarius84 wrote:

    I am a big fan of Kinder Morgan - the partnership, the corporation and the LLC. I believe that the corporation can produce very strong dividend growth over time. Given the high current yield, investing in KMI is a no-brainer:

    http://www.dividendgrowthinvestor.com/2011/06/kinder-morgan-...

    Long KMI and KMR

  • Report this Comment On October 08, 2013, at 1:26 PM, Sicb wrote:

    So what's you feelings on the research of Ron Hiram?

    http://seekingalpha.com/article/1704672-thoughts-on-kevin-ka...

  • Report this Comment On October 08, 2013, at 1:59 PM, Sicb wrote:

    It is Incredible the amount of information available on Kinder Morgan Foundation.

    http://www.houstonchronicle.com/business/article/Shell-El-Pa...

  • Report this Comment On October 08, 2013, at 5:51 PM, Sumflow wrote:

    Nick9132 :> Is there any difference between a stock reinvestment plan <

    KMr is a kind of tax deferred hybrid security superior to any stock reinvestment plan or paying tax on cash.

  • Report this Comment On October 08, 2013, at 6:33 PM, Sumflow wrote:

    golfingfanatic :> Is this because they give out shares instead of cash?<

    Yes KMp pays KMr shareholders in stock so your liability is deferred until you sell.

  • Report this Comment On October 08, 2013, at 6:36 PM, Sumflow wrote:

    TMFBigFrog :> I own those shares in an IRA and don't have to worry as much about taxes.<

    If you own KMR outright you will pay less tax than when you take the funds out of a sheltered retirement account like an IRA.

  • Report this Comment On October 08, 2013, at 6:39 PM, Sumflow wrote:

    mr091468 wrote :> Yahoo finance shows zero also. <

    KMR gets the same amount of cash as KMP, but because you accept in new, paid up shares, in KMR your liability is deferred until you sell. At that time it is capital gain instead of ordinary income.

  • Report this Comment On October 08, 2013, at 6:44 PM, Sumflow wrote:

    M, dsciola :> Alright, well if its really that complex of an entity, is it really worth investing in?<

    The main thing is you own the largest natural gas pipeline in North America. A blend of the securities with the major portion in KMR will work best for most Investors or Institutions that wish to accumulate wealth.

  • Report this Comment On October 08, 2013, at 8:41 PM, Sumflow wrote:

    Sicb :> the research of Ron Hiram? <

    Ron is good. He's on my watch list, among others.

  • Report this Comment On October 08, 2013, at 9:00 PM, Sumflow wrote:

    mr091468 wrote :> Yahoo finance shows zero also. <

    When it says zero dividend it should say zero cash dividend, because the cash is retrained by KMP to fuel acquisitions, expansions, and extensions to the pipe.

    Kinder Morgan is all about assets in the ground. KMR is a holding company for KMP, and can be bought at a discount like most Investment Companies.

    KMI is a holding company for KMR, KMP and El Paso. In essence Kinder Morgan is one company with custom fit securities for different Investors who want to put money away now, to get more money back later on.

    KM Primer: http://goo.gl/Y4gpD9

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