Last year was an awful year for investors in energy stocks, unless of course you owned Kinder Morgan (NYSE:KMI). The stock of North America's largest energy infrastructure company was actually up 17.8% last year, which beat the market thanks to a late burst as we see in the following chart.
Here's the why the company's stock outperformed while most other energy stocks plunged.
Simplicity sends the stock higher
Kinder Morgan had a really solid year operationally as it delivered strong results in all three quarters it reported thus far. That being said, this wasn't the only factor that sent the stock surging last year. The big news that drove a lot of the gains was the company's consolidation merger that brought all of its publicly traded MLPs and affiliates under one corporate umbrella. The mid-August merger announcement sent the stock up double digits as investors cheered the move. While the stock then bounced around quite a bit after that announcement, by the time the merger closed toward the end of the year the stock moved higher even as the energy markets crumbled.
Investors loved the deal because it turned Kinder Morgan into a simple investment vehicle that is expected to enjoy strong dividend growth through the end of the decade. That growth will be driven by the need for new energy infrastructure, which is expected to turn the page from supply driven growth to a new chapter that will be driven by the need for demand driven energy infrastructure. These demand driven opportunities began to emerge toward the end of the year as the company signed two agreements to supply natural gas for LNG export terminals along the U.S. Gulf Coast.
These new demand driven agreements are much the same as the company's current supply driven pacts, which are primarily long-term, fee-based contracts for pipeline and storage capacity. The fee-based nature of the company's contracts provides Kinder Morgan with very secure cash flow. As we see on the following slide, 94% of the company's cash flow last year was backed by either fee-based contracts or was otherwise hedged.
That security meant that the company's profitability was virtually unexposed to the volatility from oil and gas prices. The company's chief operating officer, Steven Kean, noted this very fact at a recent investor conference when he pointed out that Kinder Morgan is,
[...] in the business of transporting and storing energy for a fee. We're getting paid a fee. In a lot of cases, that fee is -- a demand charge, for example, is paid irrespective of whether the capacity is actually used and it's paid irrespective of what the underlying commodity price is.
Suffice it to say, this fee-based business model came in handy last year when commodity prices did this:
Kinder Morgan got paid the same amount for its capacity even if its customers didn't use that capacity. Further, it could care less if the oil traveling through its pipelines was worth $100 or $50 as it was being paid the same price to transport each barrel of oil. This is why the company's business has proven to be very stable despite the significant drop in oil and gas prices.
As we look back on 2014 there were two major reasons why Kinder Morgan beat the market. First, the company simplified its structure, which was a change that investors really liked as evidenced by the stock's performance after announcing its merger. In addition to that, the other big factor driving the company' strong year was the fact that nearly all of its cash flow is secured by long-term, fee-based contracts or is hedged. This enabled the company to continue to enjoy strong profits even as oil and gas prices plunged, setting it up for another solid year in 2015.
Matt DiLallo has the following options: short January 2016 $32.5 puts on Kinder Morgan and long January 2016 $32.5 calls on Kinder Morgan. 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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