Is Kinder Morgan, Inc. a Buy?

Kinder Morgan's (KMI -1.56%) stock has been pummeled over the past three years, nearly getting cut in half. What's surprising about that plunge is the fact that the underlying cash flow from the company's predominately fee-based assets has barely budged, falling from a peak of $2.14 per share in 2015 to an expected $1.99 per share this year, or about 7%. Because of that, the stock's valuation has fallen from a rich 19.8 times distributable cash flow to a mere 9.8 times, which is dirt cheap for a pipeline stock.

Further, even as cash flow remained stable, the company undertook a slew of strategic initiatives to strengthen its balance sheet and secure outside funding for future growth projects. Because of that, the company's leverage ratio has come down while it has increased the visibility of its growth prospects. That put the company in the position to open the taps on shareholder distributions next year. The net result is that Kinder Morgan offers investors who buy today the potential to grab a fast-growing dividend at a rock-bottom price, which makes it a screaming buy in my opinion.

Image source: Getty Images.

The grand reveal

Last quarter Kinder Morgan unveiled plans to significantly ramp up cash returns to shareholders beginning in 2018. For starters, it intends on increasing the dividend 60% early next year with additional 25% increases in both 2019 and 2020. Further, it authorized a $2 billion share buyback program, which could reduce its outstanding share count by 5% at the current stock price. That plan has the potential to fuel substantial income growth for investors who buy today, especially compared to rivals:

Data source: Kinder Morgan, TransCanada, Enbridge, Targa Resources, ONEOK. (NOTE: Recent stock price as of September 19, 2017, and projected 2020 yield assumes high-end dividend growth.)

As that chart shows, investors who buy Kinder Morgan's stock around the current price have the potential to see the dividend yield on that inital investment increase from a ho-hum 2.6% this year to an enticing 6.4% by 2020. One of the drivers of dividend growth is the decision to increase the payout ratio from its current rate of around 25% of cash flow to about 50% in 2020, with overall cash flow increasing as expansion projects enter service. While that projected rate means investors won't collect as much income as they could by investing in ONEOK, Enbridge, or Targa Resources, there are caveats with each one. First, Targa's payout is on shaky ground these days given that it can just barely cover it with cash flow, which makes it a higher risk option. Meanwhile, both ONEOK and Enbridge would need to hit the high-end of their dividend growth forecasts by delivering on their expansion projects to achieve those fatter payouts. Further, those companies would still pay out a larger portion of their cash flow than Kinder Morgan to support those higher yields.

Growth on sale

One of the reasons Kinder Morgan offers the potential for a higher dividend yield by 2020 with a stronger coverage ratio than rivals is that its stock is cheaper right now because of the steep sell-off over the past few years:

Data source: Ycharts and company investor presentations. EBITDA=earnings before interest, taxes, depreciation, and amortization.

Because of that, investors who buy today could capture significant gains over the next few years as Kinder Morgan's shares normalize closer to the peer group average. Add that to the potential appreciation as its growth projects enter service and boost cash flow, and the company could deliver market-smashing returns through 2020.

Opportunities like this don't come around that often

With its financial problems in the rearview mirror, Kinder Morgan is set to start returning significantly more cash to investors next year. Typically, a catalyst like that would send a stock soaring, but for whatever reason it has yet to react to that news, continuing to sell for a significant discount to its peers. Because of that, Kinder Morgan has become a high-growth stock selling for a bargain basement price, which makes it a compelling buy given its potential to deliver top-notch returns over the next few years.