Investors that are attracted to stable dividend paying stocks are likely to gravitate toward the oil and gas pipeline industry. The toll road like business that insulates these companies from the wild swings in commodity prices help bring in steady streams of cash flow that can be used to handsomely reward their shareholders. Anyone looking at this industry is also likely to come across Kinder Morgan (NYSE:KMI). After all, it is the largest pipeline company in the U.S. Kinder Morgan is a bit of a polarizing company though, as it was forced to cut its dividend back in December of 2015.
There are definitely reasons to invest in this company, but there are also reasons why you may want to shy away from it. So we asked two of our energy contributors on each side of the debate to give their reasons why investors should or shouldn't invest in Kinder Morgan. Here's what they had to say.
A pattern of aggressiveness in an industry that rewards conservatism
Tyler Crowe: The pipeline and logistics business is a unique beast. It is one of the few industries out there where almost all of the capital for growth comes from external forces, most of which is debt. It can take more than a decade before the debt that was used to pay for the project comes due, and that can encourage management teams in this business to pursue growth at too fast of a pace. Slowly but surely, the cost for that debt slowly creeps up as lenders become more and more wary of a potential default. Before you know it, that source of capital that management has relied on is quickly gone, and the company is painted into a corner.
This is the problem that Kinder Morgan faced late last year, but there is a pattern of being overly aggressive in a market that demands a certain amount of conservatism. In the 17 years since Richard Kinder took the reigns in 1999, the company has been taken private, IPO'd back onto the public market again, and then it acquired all the outstanding shares in its subsidiary partnerships. All the while, these moves have been geared at either raising capital or finding a way to lower the cost of capital to fund massive growth projects. Yet, it could have achieved the same goal by tapping the brakes on growth and using some internally generated cash to fund some of that growth.
One would hope that the massive shareholder value killing move of cutting its dividend in 2015 was a lesson to management that it needs to more conservatively manage the balance between growth, shareholder payouts, and a sound balance sheet. For the individual investor, though, is it worth buying this stock and waiting to see if management learned that lesson when there are so many other high-yielding pipeline stocks out there that have been more conservatively managed over the years? In my opinion, I would rather invest in a company that has opined a more conservative strategy from the start.
Not perfect, but a solid value with great income growth prospects
Jason Hall: Tyler said that Kinder Morgan's capital strategy was a risk back in 2015, and he has been proven absolutely right. He's also spot-on that other midstream operators have done better over the downturn by being more conservative with their capital strategies. There's no getting around the stark reality: Kinder Morgan investors have lost a lot of value over the past 18 months because management insisted on paying out the vast majority of profits in dividends, instead of retaining more of it for capital investment.
That strategy backfired in a big way when the company's credit rating was put at risk, and management could no longer count on cheap debt to fund growth, essentially forcing management to cut the dividend in order to retain more cash. The company is also using partnerships to improve its financial position and capital structure, such as a recent $1.5 billion deal with Southern Co. (NYSE:SO), establishing a joint venture for one of its pipelines.
And I think that addresses the biggest risk for Kinder Morgan in a measurable way, making the company potentially a great dividend growth stock. Tyler's been largely right on Kinder Morgan over the past year, there's no denying that. But going forward, I think there are much better-than-even odds that the company will be a solid investment, and largely because it has adjusted its capital strategy.