Kinder Morgan Inc – Buffett’s KMI Stock Buy Is a Big Friggin’ Deal

Pipeline giant Kinder Morgan Inc (KMI) got a major shot in the arm this past week with back-to-back disclosures from Warren Buffett’s Berkshire Hathaway (BRK.A, BRK.B) and David Tepper’s Appaloosa Management.

Kinder Morgan Inc KMI logoAs of Dec. 31, Buffett owned 26.5 million shares at a cost basis of about $630 million. Given the size of Berkshire’s gargantuan stock portfolio, that amounts to a small 0.3% allocation. But it does represent over 1% of Kinder Morgan’s outstanding shares, and it is entirely possible that Buffett’s buying has spilled over into 2016.

Unfortunately, we might not know that for a few months.

Buffett’s disclosure came just one trading day after Tepper’s. Appaloosa owns 9.5 million shares of KMI, representing 2.8% of the portfolio. Tepper also bought pipeline rival Energy Transfer Partners, LP (ETP) with about 3.5% of his portfolio. And again, we have no way of knowing yet whether Tepper used the January and early February selloff to accumulate new shares.

Still, this is a big deal.

Is It Too Late to Buy Kinder Morgan?

The pipeline sector has been utterly annihilated over the past five months, and the sector wasn’t exactly expensive before the rout. Yet investors have been too rattled by the volatility to actually take advantage of the selloff. The fact that Warren Buffett — a living legend and a cult hero among value investors — has stepped in sends a major sign of confidence to a sector that desperately needed it.

Investors that have wanted to buy pipelines and MLPs but were too paralyzed by fear to act might now finally have the nerve. Think of it as taking a shot of whiskey before charging into value.

Kinder Morgan rallied hard today, as did the rest of the sector. KMI stock closed at $13.96 on Thursday, and today, Kinder Morgan closed at $17.16. That means the stock has jumped by nearly a quarter in less than three trading days.

So, is it too late to buy at this point?

Well, think of it like this. Berkshire Hathaway’s average price was a reported $23.72. We’re still significantly below that price. So if Buffett & Co. thought it was attractive at that price, they probably consider its intrinsic value to be far greater. And I for one would agree.

There are a few things to consider here.

The Smart Money — Whoever It Is — Likes KMI Now

To start, the pipeline space has humbled a lot of smart people over the past year, not least of which KMI founder Richard Kinder himself. Kinder invested $18 million of his own money in KMI in 2015 at prices ranging between $24 and $40. Energy Transfer Equity LP (ETE) founder Kelcy Warren dropped $41 million into ETE in December at prices nearly triple those of today. And Buffett, while brilliant, has made his share of mistakes as well.

We also don’t know that it was Buffett himself that bought the KMI stock. It might have been one of his lieutenants, Todd Combs or Ted Weschler, both of whom act independently of Buffett. In fact, Barron’s published today that they do not believe the KMI buy was one of Buffett’s due to its relatively small size. They also point to the fact that Buffett isn’t a fan of non-GAAP accounting, which KMI and the rest of the pipeline and MLP space use pretty liberally.

Berkshire doesn’t usually disclose which of its managers makes decisions, so it might be a long time before we know. But it’s worth pointing out that Buffett trusts the judgement of Combs and Weschler enough to make them his heirs apparent.

And it’s also worth noting that David Tepper’s KMI buy was larger … and all Tepper’s doing. Tepper is also a distressed debt specialist who made a killing in 2008. I would actually consider Tepper’s endorsement to be a stronger one than Buffett’s all things considered.

So, looking at KMI stock today, we have a premier pipeline operator with the country’s largest pipeline network (at least until the Energy Transfer Equity and Williams Companies Inc (WMB) merger is complete) trading at book value and yielding a reasonable 2.9%.

When KMI starts raising its dividend again — something I expect within the next 18 months — I also expect the payout to rise significantly. Remember, this is a stock that, as recently as November, was still talking about 10% annual dividend growth through 2020 … and that was starting at significantly higher levels than today’s dividend.

Yes, Kinder has decided to run a more conservative balance sheet going forward. But the cash-flow-generating machine is still very much in place.

Charles Sizemore is the principal of Sizemore Capital, a wealth management firm in Dallas, Texas.  As of this writing, he was long KMI and ETE.

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