Kinder Morgan consolidates: What investors need to know (Part 1 of 6)
Moving away from MLP structure
Kinder Morgan Inc. (KMI) plans to consolidate Kinder Morgan Energy Partners (KMP), El Paso Pipeline (EPB), and Kinder Morgan Management (KMR) with itself. Of these, KMP and EPB are master limited partnerships (or MLPs).
Investors in US corporations typically face one of two types of tax:
- The C-Corp. structure (used by most publicly traded companies): The entity pays corporate tax on company-level profits, and then taxes on dividends or capital gains are paid by the shareholders on their investments again.
- Partnerships: Able to avoid the corporate-level of taxation, as partners are considered investors, and therefore are responsible for taxes only on their share of the companies’ earnings.
The single entity—KMI—that will remain after the consolidation will be a C-Corp company.
Why investors may stand to lose
The decision may not augur well for investors in KMP and EPB. That’s because KMP and EPB are organized as a partnership that benefits from substantial tax deductions. But taxes on quarterly payouts were deferred.
Based on KMI’s closing price of $36.12 as of August 8, 2014, taxes for an average unitholder are estimated to be $12.39 per unit.
Plus, because MLPs don’t pay corporate taxes, they generally trade at higher valuations than they would if the same assets were structured into a regular C-Corp.
MLPs are one of the preferred investment instruments for investors seeking high yields or regular income. MLPs’ distribution features—MLPs typically shell out a large portion of their profit to unitholders—allow investors to enjoy higher yield because distribution qualified for deferred taxation.
Because of its huge debt level, KMI will be prone to any adverse movements in interest rates.
As of June 2014, ~$5.5 billion of KMP’s total $20.7 billion in net debt was floating-rate. A percentage increase in the rate will increase KMP’s interest expense by $55 million.
Key stocks and ETFs
Other midstream companies that also face risks from their regulated businesses include Enterprise Products Partners (EPD) and Williams Companies (WMB). Some of these companies are part of the S&P Alerian MLP ETF (AMLP).
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