KMI's decision to go public isn't about private equity cashing out. The new corporate structure is designed to elimate the KMR discount and end the distribution incentive to the GP.
So how does this all work exactly? Hopefully I can explain...
The parent company Kinder Morgan Inc. controls KMP, that in turn, owns pipelines. Another company, Kinder Morgan Management, is a publicly traded limited partner in KMP.
Kinder Morgan Management, or KMR, was designed to attract institutions. Rather than collecting cash distributions from KMP, it receives dividends in the form of "i-units," a special class of stock based on the value of KMP's cash payouts to other investors. KMR then pays its own shareholders dividends in additional stock rather than cash.
The problem: KMR's stock trades at a discount of about 10 percent to KMP.
In other words, every quarter, KMP issues additional shares to KMR, which are, in effect, instantly worth 10 percent less.
So basically the new KMI will allow institutional investors to take advantage of the corporate structure without the drag on capital.
So what do you get when you buy shares of KMI? How do I price the IPO?
- the general partner interest, which entitles it to receive incentive distributions;
- 21.7 million of the 222.4 million outstanding KMP units, representing a 6.9% limited partner interest;
- 12.9 million of the Partnership’s 90.3 million outstanding i-units, representing a 4.1% limited partner interest, through its ownership of 12.9 million KMR shares (i-units are a class of the partnership’s limited partner interests that receive distributions in the form of additional i-units instead of cash;
- it also owns a 20% equity interest in NGPL PipeCo LLC, the owner of Natural Gas Pipeline Company of America and certain affiliates, collectively referred to in this prospectus as “NGPL.” NGPL is a major interstate natural gas pipeline and storage system that it operates.
Whatever those shares of KMP and KMR plus the stake in NGPL adds up to on a mark to market basis, thats what KMI is worth. Please keep in mind that the publicly traded shares of KMI only represent approximately 6% of the company. We won''t know for sure until the terms of the deal become public.
Hinds Howard, who is also a Seeking Alpha contributor (you should read his stuff if you're interested), has written fairly extensively about KMP and the KMI IPO. One of his major concerns is that Kinder Morgan probably won't grow more than about 4 percent annually from now own. But thats why they have incentive to get rid of KMR.
So what should we take away from this as investors...
Kinder Morgan is basically telling us flat out that the KMI IPO is a first step in the inevitable buyout of KMR. They will be prudent and take their time to make sure they are paying a fair price (Richard Kinder is basically a genius), but the underlying strength of KMR plus the assumed takeout premium makes buying KMR on the back of KMI one of the lowest risk arbitrage plays available today.