The Anti-Enron In 1996, Rich Kinder lost out on the CEO job at Enron. So he left to start his own energy firm. Now he's a billionaire. Take that, Ken Lay!
By Julie Creswell REPORTER ASSOCIATE Doris Burke

(FORTUNE Magazine) – Seven years ago, Enron was one of the fastest-growing companies in the nation. And Richard Kinder, a tough-minded, straight-talking, 52-year-old lawyer, was supposed to be named its CEO. Kinder, who was Enron's president at the time, and his college buddy Ken Lay had a succession plan all worked out. At the end of 1996, Lay would remain at Enron as chairman, but would hand over his CEO title and the job of running the company's day-to-day operations to Kinder.

Of course, that's not what happened. And in a gossipy town like Houston, there are numerous versions of what did. Some say Lay changed his mind about giving up the CEO seat and badmouthed Kinder to the board of directors in order to win a new five-year contract. Others say that the board judged Kinder to be too plodding: He favored the old-fashioned pipeline side of the business instead of the shiny new world of energy trading that Lay was getting interested in. Still others whisper that board members were uncomfortable with Kinder's romantic relationship with Lay's personal assistant, Nancy McNeil, whom Kinder married in 1997--never mind that Enron's board had overlooked Lay's own affair with his previous assistant, whom Lay later married.

So, on the day before Thanksgiving in 1996, feeling betrayed by his friend and frustrated that he would never be the CEO of a FORTUNE 500 company, Kinder resigned. Soon after, he was approached by another college pal, Bill Morgan, about starting a business. Morgan was vying to buy some old-school assets Enron wanted to unload: a couple of natural-gas and carbon-dioxide pipelines and a rail-to-barge coal transfer terminal in Illinois. He asked Kinder to join him. They got control of the assets for $40 million. And then Rich Kinder walked away from Enron.

What he did next is nothing short of extraordinary. From Enron's castoffs, Kinder built an energy empire with a market cap that now totals $14 billion--an empire that some have called the anti-Enron. Each day, through its 35,000 miles of pipelines that crisscross the nation, Kinder Morgan moves two million barrels of gasoline and jet and diesel fuel, and 13.5 billion cubic feet of natural gas. This is a real company with real assets, run by a guy who, by all accounts, has little patience for obfuscation. Indeed, there are plenty of people who believe that if Kinder had stayed at Enron, the company's implosion never would have happened.

And while Ken Lay is now a pariah who seems to spend a lot of time barricaded inside his Houston home, Kinder and his wife have effectively stepped into his shoes. They have become one of the most sought-after couples on the city's charity circuit and, as big-money donors who are friendly with President Bush, political forces to be reckoned with. No wonder: Thanks to a 20% stake in Kinder Morgan worth $1.4 billion, Kinder is now Houston's third-wealthiest resident. (For those keeping score, No. 1 is oilman George Mitchell and No. 2 is money manager Fayez "The Sphinx" Sarofim, who sits on Kinder Morgan's board.)

With Kinder Morgan, Kinder has succeeded in turning a sleepy, out-of-favor corporate structure called a master limited partnership (MLP) into a stunning growth vehicle. Like real estate investment trusts (REITs), MLPs do not pay corporate income taxes. Instead, they distribute almost all their free cash flow to their investors (effectively a 6% yield), who then pay income taxes at their individual tax rate, generally below the 35% corporate rate. Better yet for investors, some of the distribution is tax deferred. Since early 1997, Kinder's MLP has returned 40% a year, on average, compared with 6% for the S&P 500. "I took a position in the partnership as soon as he left Enron," says Sarofim in a rare interview. "I'm impressed with the man, his values, and his commitment to running the company with very high standards."

On a warm October morning amid the glass-and-steel skyscrapers of Houston's Energy Alley, a casually dressed Kinder strides into a small conference room that is sparsely decorated--if you call two maps showing miles of pipelines crossing the U.S. decor. His presence is startling, because he wasn't supposed to be there. The company's driving force since Morgan retired earlier this year, Kinder had refused to be interviewed by a reporter just the week before. Fixing his pale blue eyes on his visitor, he admits he'd rather be at the dentist's office getting a root canal than sitting in this conference room. For Kinder is a deeply private man. And he absolutely hates talking about Enron. Ever since the company's misdeeds became public in 2001, he has steadfastly refused to discuss it. One reason for that, perhaps, is simple frustration. After all, despite Kinder's great success since leaving that doomed company, some of the taint of Enron still lingers.

Kinder's ties to Lay and Enron go back several years. Richard Kinder was born and raised in Cape Girardeau, Mo., a small town on the banks of the Mississippi. He attended the University of Missouri, where he met both Ken Lay and Bill Morgan. (The men dated three sorority sisters whom they later married.) Kinder went on to law school, eventually returning home to practice law in a firm run by native son Rush Limbaugh's family.

In the late 1970s, he also started investing in real estate, including some apartment buildings, a bar called the Second Chance, and a Howard Johnson's Motor Lodge. "Most of my real estate ventures were pretty successful," says Kinder. "But I had guaranteed a note on the hotel, and when the bank called the note, I was personally liable." In 1980, Kinder and his first wife Anne filed for Chapter 7 bankruptcy protection. He listed $2.14 million in debts and $130,750 in assets. The couple said they had only $100 in cash. (Kinder says that in 1999 and 2000, he repaid every penny he owed.)

Down on his luck and with a school-age daughter to support, Kinder heard from his old pal Morgan about a job opening for a lawyer at Florida Gas. In 1984, when Lay was CEO of Houston Natural Gas, he acquired Florida Gas--and the college buddies were reunited. The company that would become Enron was created in 1985 with the merger of Houston Natural Gas and InterNorth. Kinder rose quickly through its ranks. In 1988 he was named vice chairman of Enron's board of directors. By 1990, Kinder was its president and COO.

At Enron, Kinder--who had an encyclopedic knowledge of gas-industry regulation--developed a reputation as a tough, disciplined, and detail-oriented manager. There, as at Kinder Morgan later, he displayed "a memory like a steel trap," says P. Anthony Lannie, a former Kinder Morgan executive who is now the general counsel of oil- and gas-exploration company Apache Corp. Though Kinder rarely clashed publicly with Lay, Kinder was less enthusiastic about the energy-trading side of the business than his boss was. "I am in the camp that believes Enron would still be in existence if Rich had been running the company," says Lannie. "It would have looked very much like it did in the early 1990s: an asset-based company."

When Kinder left Enron in 1996 (Lay selected Jeff Skilling to replace him), Bill Morgan would once again change the course of his career. Through his small holding company, KC Liquids Holding Corp., Morgan had been bidding for Enron's Liquids Pipeline Company, the general partner of a small MLP. Morgan knew that if he were successful in buying it, he would need someone to help run the underlying assets. Someone like Kinder.

When the deal closed in February 1997, the company's name was changed to Kinder Morgan. And Kinder went to work. A mere seven months later, he doubled the business's market cap to $475 million by slashing costs and moving significantly more volume through its underutilized pipelines. While Houston's energy elite were indulging in lavish lifestyles--flying in private jets, naming ball fields after their companies, building ostentatious mansions--Kinder was pinching pennies. He was flying coach. He and his Morgan execs were staying at Red Roof Inns. He was laying people off. "People thought we were curmudgeons or stick-in-the-muds," acknowledges Kinder. "But we wanted to drive home one culture here: Cheap. Cheap. Cheap. We were tightwads."

As energy companies like Enron, Williams, Dynegy, and El Paso ignored or dumped their dirty, slow-growing gas pipeline and storage businesses in favor of leveraged trading strategies that rocket-fueled short-term earnings, Kinder quietly went after the orphaned assets. Because Kinder Morgan's MLP must pay out its distributions quarterly (missing a payment would bring down intense wrath from investors), it sought out deals that would add to the company's bottom line immediately. Kinder's first big acquisition was an MLP called Santa Fe Pipeline Partners, for $1.4 billion, in 1998. That gave the company 3,300 miles of pipeline through some of the fastest-growing regions of the country. "That deal was a company maker for him," says Ronald Londe, an analyst at A.G. Edwards. "It gave him the size he needed to go out and make serious acquisitions."

The next big deal came in 1999. Debt-laden rural utility KN Energy was one of the largest natural gas pipeline transportation and storage operators in the country, and it was three times the size of Kinder Morgan. Kinder Morgan struck a reverse-merger deal in which KN would buy Kinder Morgan with equity, put Kinder and Morgan in charge--and change the name of its publicly trading stock to (you guessed it) Kinder Morgan.

Kinder and his team marched into KN and started cleaning house. They sold off KN's three corporate jets, laid off most of its 20-person PR staff, and canceled its $1.8 million ten-year deal for an executive suite at Denver's Pepsi Center sports arena. They also quickly shut down KN's energy-trading operations--despite the fact that those operations would have given Kinder a platform to attack Enron on its own turf. "We would have had to spend hundreds of millions of dollars to get KN's trading operations up to the level of the big players," says Kinder. "We didn't have the capital, we didn't have the expertise, and frankly, we just didn't want to be involved in trading."

Today, Kinder Morgan consists of three separately traded stocks (see chart), only one of which is an MLP. The original MLP is called Kinder Morgan Energy Partners. The second stock, Kinder Morgan Inc., is the general partner. It owns just 2% of the MLP, but it gets 45% of its operating income from the partnership. The third stock, Kinder Morgan Management, is similar to the MLP but is designed for institutional investors.

Sound complicated? It is. And that makes some would-be investors nervous. Kinder Morgan is in the energy business, is run by a former Enron exec, and has a complex financial structure--three strikes against it, some fret. Indeed, investor anxiety over Kinder's Enron connection has been so strong that in the spring of 2002, while Enron's spectacular collapse was being splashed all over the front page, the stock of Kinder Morgan's MLP took a 22% hit. But those who liken Kinder Morgan to Enron are missing the point. Enron was a trading company masquerading as an energy company. Kinder Morgan is an energy company, period. Its assets are pipelines, and its revenues come from the fees it collects from moving fuel through them.

Still, many--including some of its own investors--are bothered by the so-called "incentive distribution" inherent in Kinder Morgan's MLP structure. Kurt Wulff, an independent energy analyst who gained prominence in the 1980s by correctly predicting oil megamergers, calls MLPs "partnerships of greed." He charges that MLPs allow the general partner--in this case, Kinder Morgan Inc.--to milk the partnership for huge amounts of cash even though it owns only a small stake in the MLP.

That is perfectly legal, mind you. But we're talking big money. Right now, for every dollar that Kinder Morgan Energy Partners distributes to its shareholders in cash, Kinder Morgan Inc. gets about 40 cents. The more the distribution grows, the bigger the piece that the general partner can get--up to nearly 50%. "I think the 50% split is pretty rich," says legendary corporate raider T. Boone Pickens, who nonetheless holds positions in both the Kinder Morgan MLP and the general partner. "I like the MLP structure, I just don't like the split."

Kinder contends that the incentive fees encourage the general partner to continue to grow the distribution, which is good for everyone. He adds that he and his company are poster children for good corporate governance. "I get $1 a year [in salary]," he says, jamming his finger down on the conference table for emphasis. "No bonus. No additional options. I own a significant stake in the company. If the distribution is raised, that's good for me. My interests are as aligned as much as possible with the shareholders'." Executive-pay consultant (and frequent critic) Graef Crystal calls Kinder one of the good guys. "It would appear that CEOs who don't pay themselves very much, like Warren Buffett, Steve Ballmer, Bill Gates, and Kinder, have a conscience," says Crystal.

Not everyone holds Kinder and his company in such high regard. An incident this summer provided ammo for the company's critics. Last July 30, a little after one o'clock in the afternoon, an eight-inch high-pressure underground gasoline pipeline burst in Tucson. It spewed 10,000 gallons of fuel 50 feet into the air and doused five partially built homes. Kinder Morgan, which owned and operated the pipeline, shut the line down for several weeks to repair it. For two weeks, Phoenix suffered through a gas shortage that had residents lining up at the pump and sent prices soaring to as high as $4.96 a gallon.

Analyst Wulff points to the pipeline rupture as proof that MLPs like Kinder Morgan Energy Partners are skimping on crucial maintenance spending. "If I were the FERC (Federal Energy Regulatory Commission)," he says, "I wouldn't let these partnerships run the pipeline companies and then take all the cash out of them." Federal regulators said that Kinder Morgan Energy Partners didn't commit any safety violations. Arizona state regulators, on the other hand, are seeking the maximum penalty of $25,000.

It's nonsense that his company would cut critical maintenance to keep the dividend high, says Kinder: "It is significantly more costly to repair assets or have them out of service than it is to perform preventative maintenance." Others back him up. "The gasoline pipeline problem in Tucson was unfortunate, but I don't think Kinder Morgan has maintenance problems," says John Thieroff, director of energy, utilities, and project finance at Standard & Poor's rating agency. "Still, it's an issue we're concerned about in general with the MLPs. Will maintenance capital get sacrificed in order to meet distributions or more aggressively grow distributions?"

Kinder has more than MLP haters on his mind. He also has to figure out how to keep growing his company. For the last seven years, much of its outsized returns have come from acquisitions. Those are getting tougher for Kinder Morgan to do. For one, there are more people vying for the assets. (Since Kinder Morgan created its "growth" MLP, more than a dozen other energy companies, from Crosstex Energy to TC Pipelines, have followed suit.) Also, expected sales of assets from many troubled energy companies just didn't happen. And now that Kinder Morgan has become so big, small acquisitions just don't pack much of a punch. "Kinder Morgan's MLP is not going to replicate the growth it's had over the last five years," cautions Mark Easterbrook, an analyst at RBC Capital Markets. "They've grown the distribution 23% each year. Now--without acquisitions--the growth rate is going to be more like 8% or 9%."

That's something Kinder says he can live with. "We're offering something that pays a 6% yield that's tax deferred, and we think we can grow the distribution 8%," says Kinder, leaning back in his chair. "If that happens, well, I've got myself a 14% total return vehicle without a lot of risk."

At 59, Kinder says he has no intention of retiring anytime soon. (His heir apparent is Mike Morgan, Bill Morgan's son and the president of the company.) Still, many observers are handicapping when he will step down as CEO to focus on his many other interests, including art, politics, and philanthropy. Kinder is on the board of the Houston Museum of Fine Arts, and two years ago he and his wife, Nancy, chaired its annual black tie Grand Gala Ball. He's also active in the Republican Party. While Lay may have been "Kenny Boy," Nancy is President Bush's Southern Texas finance chairwoman and a "Ranger"--a supporter who has agreed to raise $200,000 or more for his reelection in 2004. Then there's Kinder's foundation, which he and Nancy started in 1997 and which Nancy runs. So far the couple has given $11 million to various groups, including a $3 million donation to Houston's DePelchin Children's Center.

If this all sounds awfully close to Ken Lay in his prime, those who know Kinder say that's not really true. Kinder is less high-profile on the social scene than Lay was, for one thing. And comparisons to his old college buddy would surely annoy him. With every journalist who asks him to comment about his old employer, with every potential investor who worries about his Enron connection, Rich Kinder continues to be haunted by Enron and Skilling and Lay. He wants to be known for the success he has achieved since he left Enron--not for the shell of a company he almost called his own.