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The two inter-related KKR limited partnerships, KKR & Co. LP (NYSE:KKR) and KKR Financial Holdings LP (KFN), offer significantly different looks to investors. The income investor will gravitate towards KFN, but there is also interesting potential from KKR.

Note: MLP/LP companies such as KKR and KKR Financial Holdings have units and pay distributions. The words stock, shares and dividends may be used here with the understanding that the rules of MLP units apply including the tax consequences of investing in MLP units.

KKR Overview

Although KKR has existed since the 1970s the current KKR & Co. LP version of the company has been trading on the stock exchange just since July 2010.

The main line of business of KKR is as a manager of private equity investment funds. Large investors buy into the funds and the KKR funds take equity stakes in companies around the globe. A newer line of business is funds investing in public markets such as leveraged debt, mezzanine debt and special situations. The third tier of business is KKR's own investments, what it calls Capital Markets and Principal Activities. As of the 2012 third quarter, KKR had $66 billion of assets under management.

The stated dividend policy is to distribute all of the net management fees as quarterly dividends. The policy is to not distribute gains on principal investments. As a result KKR will not be a dividend income machine. More of a combination of equity in the unit value reflecting the company's investment results and quarterly distributions paid to reflect the business as an investment manager. In its earnings reports, KKR reports several types of earnings including fee related earnings, total distributable earnings and economic net income - ENI. For the 2012 third quarter, these numbers were $91 million, $332 million and $510 million respectively. ENI for the quarter broke down to 69 cents after tax per adjusted unit and the company declared a 24 cent dividend, so you can see the relationship of distributions compared to what the company counts as earnings. The quarterly payout was about half of the total distributable earnings.

KKR Financial Holdings

KKR Financial Corp. started life as a REIT, going public in June 2005. The company restructured in May 2007 to a publicly traded partnership. Initially, the company invested in residential mortgages and collateralized bank loan obligations - CLOs. The switch to publicly traded partnership allowed KKR financial to expand the types of investments in which the company will participate.

Currently KKR Financial pursues two distinct investment themes. In the financial assets arena it owns high yield bank loans in the form of CLOs, mezzanine debt and special situation financing. When selecting these investments, KKR Financial is looking for mid-teens returns in the current rate environment or Treasury rates plus 1200 basis points if rates would be higher. The second part of the portfolio is real asset investments including mid and upstream energy assets, such as energy royalty investments, and commercial real estate holdings.

KKR Financial balances its investments to provide attractive returns throughout the economic cycle of healthy, slowing, troubled and recovery periods. When selecting investments the company likes to find what it calls imbedded mispricing options that could pay off with outsized returns in certain economic environments. The real strength of KKR Financial is its access to all of the opportunities in the KKR & Co. business. In my opinion, KKR Financial gets to cherry pick the best of the income producing opportunities KKR runs across. The equity potential typically stays with KKR, but KFN gets the best of the income opportunities.

Conclusions

KKR & Co. provides a very large amount of equity growth potential which may or may not be realized and may or may not be reflected in the share price. Take a look at the share price volatility since the company went public. If the markets have no idea what this company is worth, I think it is too much of a gamble for the long term investor. KKR shares may provide a medium - one to two years - trading opportunity if someone would buy when the dividend payout is in the low teens and sell when the payout goes above 25 cents or so.

KKR Chart

KKR data by YCharts

On the other hand, KKR Financial Holdings has the potential to be a home run investment for income investors. Per unit distributions for the last three years have gone from 42 cents to 67 cents to 86 cents in 2012. The 21 cents per unit paid for the 2012 third quarter were about two-thirds of the available distributable income. The most recent dividend puts the current yield at 7.5%. The quarterly dividends may not move smoothly upward, but at the current yield and the potential for KKR Financial to continue to see and choose from the best KKR sees makes this L.P. company a very compelling investment choice.

KFN Chart

KFN data by YCharts

Source: KKR & Co. Vs. KKR Financial Holdings: Equity Gains Vs. High-Yield Income