Kinder Morgan Energy Partners (KMP) cannot seem to catch a break. The company has faced continued criticism over the level of distributions to its general partner ("GP") Kinder Morgan, Inc. (KMI). Just in the past month or so, the company has been embroiled in a unitholder lawsuit over alleged improper distributions of profits and questions regarding the sustainability of its distributions compared to other income stocks.
However, Saturday's Barron's article really takes the cake for being the most egregious with that article basically being a rehash of Hedgeye's infamous short attack on the Kinder Morgan group back in September 2013.
Barron's short thesis in a nutshell
The title of the article "Kinder Morgan: Trouble in the Pipelines" really says it all. The publication basically argues that buyers of pipeline MLPs know little as to how the high yields are generated. The article questions Kinder Morgan Energy Partners' growth prospects given its financial relationship with Kinder Morgan, Inc. Furthermore, questions are raised regarding definition of maintenance capital versus expansion capital, with the article basically buying into the notion of Kinder Morgan Energy Partners understating its maintenance capex to inflate distributable cash flow ("DCF").
These arguments should sound extremely familiar as they are essentially the same ones repeatedly used by Hedgeye in its short attacks on the Kinder Morgan group.
In the article, Hedgeye energy analyst Kevin Kaiser noted that "Kinder Morgan's valuation is crazy," further arguing that the MLP units may drop to below $50 and the GP shares to below $20 . This would mark over a 40% decline from current prices for both stocks.
Why Barron's is wrong regarding Kinder Morgan
Yes, Linn Energy was likely overvalued early in 2013 based on DCF per unit metrics, especially compared to other upstream MLPs. However, that company continued to pay its distributions like clockwork. Furthermore, the completion of the merger between it and Berry Petroleum (BRY) has likely greatly de-risked the stock. It's worth mentioning that the main reason the Berry merger even took so long to complete was due to the collapsed share price of LinnCo (LNCO), which was being used as the "currency" for the transaction.
As for Barron's, its recent rehash article on Kinder Morgan is keenly lacking in substance and reeks of sensationalism. Many of Hedgeye's arguments have already been largely debunked. Indeed, Kinder Morgan even held an impromptu mid-quarter conference call to refute many of the claims made by Hedgeye.
For example, replacing maintenance capex with expansion capex would likewise deflate Kinder Morgan's ROIC. However, this metric has instead been holding steady at 13% to 14% year after year.
Hedgeye's attempts to redefine Kinder Morgan's partnership agreement are quite maddening. Kinder Morgan has noted that its sustaining capital spending is not to sustain cash flows, but rather to maintain throughput and capacity. Furthermore, a large portion of Kinder Morgan's maintenance expenses are included via operating expenses.
As for IDR payments to the GP, these are simply a fact of life for most midstream MLPs. The only large MLP to do away with these payments was Enterprise Products Partners (EPD). However, that company was forced to buyout its GP at a massive premium in order to do so. In addition, IDR payments are hardly a transfer of wealth. Instead, they offer an opportunity for most investors, especially if the GP is trading on the public market much like is currently the case with Kinder Morgan, Inc.
Kinder Morgan, Inc. is also very supportive to its MLP, ensuring that acquisitions done by the partnership are accretive on a per unit basis. The company has in the past waived portions of its IDRs to make certain acquisitions work for Kinder Morgan Energy Partners. Several examples include last year's acquisition of Copano Energy as well as and the purchase of several Jones Act oil tankers.
Indeed, it is Kinder Morgan, Inc.'s best interest in securing that the MLP pays out a stable, sustainable, distribution given that it is itself one of the largest holder of limited partner equity in Kinder Morgan Energy Partners along with its GP interest.
Finally, perhaps the strongest argument against Hedgeye's case would be that Kinder Morgan is still projected to grow. The Kinder Morgan MLP is estimating DCF to increase 5% while the GP is projecting growth of 8%. While growth has slowed in recent years, Kinder Morgan has still delivered 13% annualized growth to its distribution per unit since 1996.
Admittedly, Kinder Morgan's current corporate structure is quite a mess and does need some rationalization. A simple solution would be KMI and KMP to merge into each other, creating a much stronger combined entity. This new company would also likely trade at a valuation much more in line with MLPs that do not have GPs, such as EPD and MMP. However, such a transaction will very well be expensive and dilutive for the MLP and thus will delay growth for years.
In an ideal world, Barron's recent article would be judged for what it is, a rehash of old, tired, arguments that have little impact on the stock. However, investors in midstream MLPs are a cautious bunch and will likely react negatively to any criticism towards their "safe" investment(s).
Disclaimer: The opinions in this article are for informational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned. Please do your own due diligence before making any investment decision.