Why You Should Consider Owning Kinder Morgan Management

Kinder Morgan's family of companies and MLPs have long been a favorite of income investors. This article highlights Kinder Morgan Management, the least known company in the Kinder Morgan empire and outlines why it may be just the ticket to generate long-term wealth and income.

Jul 28, 2014 at 9:20AM

Kinder Morgan Energy Partners (NYSE:KMP) and its general partner Kinder Morgan Inc (NYSE:KMI) are well known to long-term income seeking investors. However, there is a third Kinder Morgan company that offers unique benefits: Kinder Morgan Management (NYSE:KMR)

Kinder Morgan Management: a stock-dividend-paying alternative
Kinder Morgan Management was designed by Kinder Morgan to be an IRA-friendly way for investors to participate in its empire. Its sole asset is units of Kinder Morgan Energy Partners which pays Kinder Morgan Management quarterly distributions. Kinder Morgan Management, which is not an MLP but rather a corporation, then pays a stock dividend to its shareholders. This dividend is tax deferred and requires a 1099 form only upon sale of its shares. It's safe to own in tax-deferred accounts such as IRAs, while MLPs such as Kinder Morgan Energy Partners can cause tax headaches

In essence, Kinder Morgan Management is an automatic Dividend Reinvestment Plan (DRIP), and it happens to yield 7.2% versus Kinder Morgan Energy Partners' 6.9%. This disparity is likely because yield-seeking investors prefer being paid in cash rather than stock, but rest assured the investment thesis for Kinder Morgan Management is the exact same as Kinder Morgan Energy Partners and Kinder Morgan.

Kinder Morgan's latest earnings: full speed ahead
Kinder Morgan just released its second quarter results, which proved that Kinder's best growth days lie ahead of it.

Company Yield 10 Year Projected Distribution/Dividend Growth Rate 10 Year Annual Expected Total Return
Kinder Morgan Inc 4.70% 8.08% 12.78%
Kinder Morgan Energy Partners 6.90% 5.74% 12.64%
Kinder Morgan Management 7.20% 5.74% 12.94%
S&P 500 1.90%   9.20%

Sources: S&P Capital IQ, Yahoo Finance, Moneychimp.com 

Kinder Morgan Energy Partners reported 11% distributable cash flow (DCF) growth and raised its distribution 5% compared to last year's second quarter. Meanwhile, Kinder Morgan reported a 13% increase in cash available for dividends. While this may seem like wonderful news initially, fellow Fool contributor Aimee Duffy is concerned about Kinder Morgan Energy Partners' unit dilution and lack of short-term coverage ratio. As she correctly points out, Kinder Morgan Energy Partners' DCF/unit rose only 0.8% due to increased unit count; its coverage ratio for this quarter was 0.88. This DCF/unit growth is far lower than last year's 13% growth and though management is guiding for full year distribution coverage of greater than one, dilution is a valid concern investors need to keep a close eye on.

However, I must respectfully disagree with Duffy's conclusion that investors should avoid Kinder Morgan. This is primarily for two reasons: Kinder Morgan's long-term growth prospects, and management's ability to generate strong rates of return.

In the second quarter, Kinder Morgan completed $700 million in projects but grew its project backlog by $600 million to $17 billion.

In addition, Kinder Morgan has gained 5.3 billion cubic feet/day of new gas volume commitments since December 2013, representing a 16% increase in system volume demand in just six months.  

With $17 billion in current backlog, $15 billion in potential future backlog, and $890 billion in U.S. energy investment expected through 2026, Kinder Morgan's growth runway is still immense. In Louisiana alone, $100 billion in investments is planned by a burgeoning LNG export and petrochemical industry.

Kinder Morgan's avenues for potential growth keep diversifying. For example, Kinder Morgan has previously identified four major energy trends it wanted to invest in: 

  • gas exports to Mexico -- expected to increase by 300% by 2040 
  • a 17% increase in U.S. power derived from gas by 2020
  • booming use of natural gas liquids by the petrochemical industry, part of a $176 billion megatrend
  • LNG exports -- expected to reach 10% of projected US gas production by 2024
However, recently I've learned that Kinder Morgan is planning to invest $1 billion into condensate pipelines to take advantage of the Commerce Department's recent decision to allow for limited ultra-light crude exports. With 27% of Eagle Ford production being condensates, analysts believe export demand may reach 1.7 million barrels/day by 2018. Kinder Morgan Energy Partners' condensate efforts are expected to have an EBITDA multiple of 5.7, meaning a 17.5% rate of return.
 
One final area of diversification is Kinder Morgan's marine terminal division, which grew earnings by 20%. This growth was 60% organic and 40% from Kinder Morgan's recent acquisition of 10 oil tankers (current and ordered.) 
 
Kinder Morgan's ability to generate high returns is another reason that I am not as concerned about Kinder Morgan Energy Partners' latest dilution. Kinder Morgan's cost of equity is 7.39%, but its returns on equity are 17%. This indicates that Kinder Morgan's management is very good at generating excellent returns on shareholder equity, which will help fuel its distribution growth in the long term.
 
Foolish takeaway
Kinder Morgan Management is basically a high-yielding, stock-dividend-paying, compounding machine. Fueled by the success of Kinder Morgan Energy Partners, Kinder Morgan Management is a tax-efficient way for long-term income investors to benefit from Kinder Morgan Energy Partners' high yield in tax-deferred accounts or gain access to a DRIP plan that not all brokers offer. Kinder Morgan Energy Partners and its general partner Kinder Morgan remain attractive choices as well and are certain to benefit from America's continuing energy renaissance. 

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Adam Galas has no position in any stocks mentioned. The Motley Fool recommends Kinder Morgan. The Motley Fool owns shares of Kinder Morgan. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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