Kimbell Royalty Partners is an Attractive High-Dividend Payer

Kimbell Royalty Partners, LP stands out as a pure-play mineral company offering an attractive dividend yield of 11.3%. The company’s asset portfolio includes high-quality oil and gas investments spread across nearly every major basin in the U.S.

As of Q1 2024, KRP’s drilling inventory is expected to last over 16 years, indicating a substantial runway for future operations.

Unique Business Model

What differentiates KRP from other energy companies is its royalty-based business model. Unlike other firms that are directly involved in natural gas and oil production, KRP generates cash flows through royalty agreements. This structure brings about two significant benefits:

1. Low Maintenance CapEx: Since KRP’s operations are royalty-based, the company does not need to invest heavily in maintaining its assets. This contrasts with typical energy companies, which often require substantial capital expenditures to sustain production levels.
2. Limited Organic Growth: KRP’s revenue growth is largely driven by external factors, such as production volumes and commodity prices, which are beyond its direct control. Therefore, the primary avenue for growth is through mergers and acquisitions (M&A).

Total Return Performance

When examining KRP’s total return performance, the stock has shown correlated returns with the broader midstream segment. This correlation is logical since both KRP and midstream players are influenced by similar underlying factors like natural gas and oil volumes and prices.

Notably, since mid-2021, KRP has outperformed the midstream index, though not by a significant margin, indicating that the stock may not be relatively overvalued.

Investment Thesis

KRP is a compelling dividend investment, especially for high-yield-seeking investors. The company offers an impressive dividend yield of 11.3%, which is notably higher than the average yield in the MLP sector. This yield, combined with a strong capital structure and stable cash flows, makes KRP an attractive option for income-focused portfolios.

However, it is important to consider that KRP has limited potential for dividend growth, evidenced by its historical 5-year dividend compound annual growth rate (CAGR) of 1.9%.

Royalty Agreement Types

KRP’s revenues are generated through various types of royalty agreements, including:

1. Mineral Royalties: These perpetual property interests grant oil and natural gas ownership under specific land contracts, allowing KRP to either explore, drill, produce, or lease these rights to third parties for a fee and a percentage of production revenues.
2. Non-Participating Royalty Interests: These royalties are carved out of a mineral estate, giving KRP a perpetual right to receive a fixed, cost-free percentage of production revenue without participating in upfront fees.
3. Overriding Royalty Interests: These provide KRP with a fixed, cost-free percentage of production revenue, similar to non-participating royalty interests, without involvement in upfront fees.

While these agreements provide a steady revenue stream, they expose KRP to commodity price risks. Specifically, the company’s revenues are tied to the price and volumes of oil and gas produced under these agreements, introducing potential volatility in earnings.

Factors Offsetting Volatility

1. Strong Margin of Safety: KRP’s distributions are well-covered by its EBITDA. For instance, in Q1 2024, KRP reported a consolidated adjusted EBITDA of approximately $74 million, significantly exceeding the quarterly distributions of around $46 million to common and preferred unit holders. Even after accounting for the quarterly interest expense of $7.3 million, there remains a substantial margin of safety in cash retention.
2. Positive Performance Dynamics: KRP’s recent performance trends indicate continued EBITDA growth. In Q1 2024, the company reported a run rate production of approximately 25,000 barrels of oil equivalent (BOE) per day, marking a 1.4% organic growth from Q4 2023. This growth, combined with improved cost management, led to a record consolidated adjusted EBITDA of $74.1 million, up 7.4% from the previous quarter. The significant cash retention enables KRP to pursue additional M&A transactions, which can further boost EBITDA.
3. Supportive Capital Structure: As of Q1 2024, KRP had about $285 million of debt outstanding under its secured revolving credit facility, with an undrawn capacity of $246 million. This strong financial position minimizes refinancing risks and provides KRP with the flexibility to capitalize on lucrative M&A opportunities.

Conclusion

Kimbell Royalty Partners, LP presents an attractive high-yield dividend investment opportunity. The company’s current yield of 11.3% is notably high, typically associated with more speculative instruments, yet KRP offers stable and defensive cash flows backed by a strong balance sheet.

While there are risks related to commodity price and volume volatility, these are mitigated by KRP’s substantial dividend coverage and potential for incremental growth through retained cash flows.

Therefore, KRP is well-positioned to be a valuable addition to yield-focused investment portfolios.