With units hovering near a 52-week low, thanks in part to negative commentary from Hedgeye's Kevin Kaiser, Barron's, and Morningstar, Kinder Morgan Energy Partners (NYSE:KMP) has decided to take the bears head-on. KMP took the unusual step of confirming guidance mid-quarter to comfort investors who had grown concerned about the distribution (press release available here). In a recent article, I argued one of the best ways to combat the negative sentiment was for KMP to deliver strong quarterly results. It appears that the company will deliver on its promises once again.
Management reconfirmed its previous guidance that KMP will declare a cash distribution of $5.58 this year, which is up 5% year-over-year. Given the company's history of exceeding its target, and this press release, I continue to forecast a slightly higher payout of $5.59. Importantly, management seems to open the door to a higher payout, as "KMP expects to generate distributable cash flow per unit nicely in excess of its budget targets." Higher distributable cash flow opens the door to a higher distribution, or at the very least, a robust coverage ratio that would contribute to a faster distribution growth rate in 2015.
CEO Richard Kinder said, "2014 is off to a great start." He also remains enthusiastic about the long-term future of the partnership. KMP's strong performance is attributed to the closing of the $962-million tanker acquisition, incremental contracts at its TGP north to south system, and strength at its natural gas pipeline system. As contracts are several years in length and typically indexed to inflation, this strength will persist beyond 2014 and benefit results for several years.
Kinder Morgan Energy Partners' backlog is over $14 billion, which will power 5%-7% growth for several years to come. As a pipeline operator, KMP benefits from increasing production, but is agnostic on prices. It is paid by the volume of gas and oil it transports, irrespective of commodity prices. KMP only has modest price exposure due to its CO2 unit. Its main pipeline unit is unimpacted by prices, which is why it is a premiere play on the U.S. energy boom. Thanks to fracking and major discoveries in the Permian Basin, Bakken, Marcellus, and Utica Shale, U.S. production is poised to grow dramatically over the next five years.
This increase in production could put downward pressure on commodity prices, which would hurt the earnings of energy producers, like Chesapeake Energy (NYSE:CHK) or Exxon Mobil (NYSE:XOM), but the increase in production benefits KMP. In other words, KMP functions mainly as a play on U.S. production volume. It is also positioning its growth portfolio to take advantage of drilling hotspots like Marcellus and Utica and a trans-Canada pipeline that will benefit from that nation's growing production. With a massive pipeline network that KMP is expanding to gain exposure to boom areas with its $14-billion backlog. This backlog could increase KMP's distribution by 25%-30% over the next four years.
Today, KMP has decided it could not let all the bear attacks go on without any refutation. As a consequence, it confirmed guidance and promised strong performance. Units currently yield 7.4%, and are extremely attractive at current levels. Its backlog will power strong distribution growth for years to come. While the negative drumbeat will likely go on, Kinder Morgan Energy Partners is fundamentally sound. I would not expect units to rally steeply in the near time, but now is a great time to build a position and enjoy the 7.4% yield.
Disclosure: I am long KMP. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.