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Midstream energy giant Kinder Morgan (NYSE: KMI) announced yet another dividend increase when it reported third-quarter earnings on Oct. 21. The company passed along a 16% year-over-year dividend increase, bringing its annualized dividend to $2.04 per share. This marks the 15th quarterly dividend increase since its initial public offering in February 2011.
But Kinder Morgan shares have had a bad year, and from that perspective, the dividend increase may not offer much consolation. The stock is down 35% since the start of 2015, while the S&P 500 is flat in that time.
Still, even though short-term investors are rushing for the exits, Kinder Morgan’s business model remains strong and will likely reward long-term investors. Its toll-road style business generates lots of cash, which fuels the hefty Kinder Morgan dividend.
Fee-Based Business Model Rakes in Cash Flow
Kinder Morgan owns and operates 84,000 miles of pipelines and 165 terminals, making it the largest midstream company in the United States. It collects fees based on the volumes of oil and gas being stored and transported through its pipelines and terminals. Its fee-based model is only modestly exposed to falling commodity prices, which provides the company with a valuable margin of safety.
Last quarter, Kinder Morgan realized 21% growth in distributable cash flow, or DCF. (DCF is a non-GAAP measure, similar to GAAP earnings per share, which describes how much cash a company generates, after capital expenditures, that can then be distributed to investors.)
Even in a terrible climate for the energy sector, in which the price of oil has dropped from a high of $100 per barrel last year to its current level under $50 per share, Kinder Morgan continues to generate solid cash flow.
Over the first nine months of 2015, DCF is up 22% year-over-year. The biggest contributor to this is the company’s products pipelines and terminals businesses. Last quarter, the products pipelines and terminals segments grew earnings before depreciation and other items by 29% and 6%, respectively.
Growth in these segments helped offset a 22% decline in earnings before depreciation and other items in Kinder Morgan’s carbon dioxide business, which does suffer from falling commodity prices.
Overall, Kinder Morgan generated $228 million of DCF in excess of its dividend payments through the first nine months of the year. This is why the company can continue growing its dividend. On a per-share basis, distributable cash flow before certain items is up 22% year-over-year, to $1.58.
Kinder Morgan’s backlog of future growth projects is now $23.1 billion, which should help generate higher cash flow in future quarters.
In July, I pointed out the company’s resilient business model as a reason to believe in its dividend. The stock has continued to slide since that article, but fundamentally, not much has changed. If anything, Kinder Morgan’s dividend is even more attractive since my last review. Kinder Morgan’s distributable cash flow has continued to grow, as has its backlog of future projects, which should fuel more growth going forward.
Still a Good Pick for Income Investors
Kinder Morgan’s new $0.51 per share dividend carries an ex-dividend date of Oct. 29, so investors will need to buy the stock before then to receive this quarter’s payout.
It’s certainly frustrating to see Kinder Morgan stock sell-off throughout the year, but fundamentally, not much has changed. If anything, the declining stock price and dividend growth have resulted in a very attractive 7.2% yield. Plus, Kinder Morgan expects to increase the dividend by at least 6% next year, and perhaps as much as 10%. In addition, management has indicated a desire to grow the dividend by 10% per year through 2020.
The fact that management maintains such a positive outlook about the dividend speaks to the strength of its underlying business. Demand for energy infrastructure is still sound in the U.S., and Kinder Morgan’s cash flow covers its dividend and then some.
For income investors, Kinder Morgan may still be an attractive option.
DISCLOSURE: Bob Ciura personally owns shares of Kinder Morgan (NYSE: KMI).
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