What are 'Incentive Distribution Rights (IDR)'

Incentive distribution rights (IDR) give a general partner an increasing share of a limited partnership's incremental distributable cash flow. Used in master limited partnerships (MLP), IDRs outline per-unit distribution increases to the limited partners. The general partner's share of incremental distributable cash flow usually starts at 2% and climbs to higher levels such as 20% or 50%. IDRs are used to align the interests of all parties in a partnership.

Breaking Down 'Incentive Distribution Rights (IDR)'

A master limited partnership's IDR schedule tends to be structured so as to encourage the general partner to drive distribution growth for limited partners. If the payouts for limited partners reaches a predetermined level, then the general partner receives an increasingly higher payment based on the limited partnership's increment cash flow. Incentive distribution rights are generally determined based on quarterly distribution figures.

IDRs are often misunderstood by MLP investors because they can be complex and are relatively uncommon. Some general partners abuse the IDR mechanism, leading to outsized payments to them. Each IDR within an MLP is structured differently, and therefore prospective MLP limited partners are well-served by analyzing this structure in any potential investment. Some structures may have the effect of promoting or inhibiting distribution growth for limited partners.

Incentive Distribution Rights: What to Watch

Some incentive distribution rights are structured in a way that unfairly benefit the general partner. Bob Coble, a portfolio manager and analyst writing for Oppenheimer Funds, provides a few examples of IDR mechanics within a MLP:

"Kinder Morgan Energy Partners (NYSE: KMP), on an adjusted basis, distributed $0.63 per unit to its LPs in 1995 and $2.1 million to its GP through IDRs. In 2013, prior to the roll-up of KMP by its GP, Kinder Morgan Inc. (NYSE: KMI), KMP was paying $5.33 per unit to its LPs and $1.6 billion annually to KMI through IDRs. For little incremental investment, KMI experienced a 75,000% increase in IDR cash flow, which accounted for 52% of the total cash flow being distributed by KMP."

"Plains All American Pipeline LP (NYSE: PAA). In 1999, PAA, on an adjusted basis, distributed $0.92 per unit to its LPs and $230,000 to its GP through IDRs. For the most recent quarter, prior to its IDR restructuring, PAA was distributing $2.80 per unit to its LPs and $615 million annualized to its GP through IDRs. For little incremental investment, PAA’s general partner experienced a 250,000% increase in IDR cash flow and which accounted for 34% of the total cash flows being distributed by PAA."

As Coble noted, the general partner incentive can be enormous. That generally means that the limited partner has done well, too, over a long period of time. And if the MLP's performance should falter, the limited partner should see their cash flow hit less drastically than the general partner because of the IDR's structure. The bargain for limited partners is that they trade some (or a lot) of the upside for more steady, reliable cash flow. But cash flow and risk aspects of IDRs frequently lead to contentious relations between limited partners and the general partner. Some GPs abuse the IDR mechanism, creating terms that drastically favor them over the limited partners.

 

 

 

RELATED TERMS
  1. General Partner

    A general partner is an owner of a partnership who has unlimited ...
  2. Limited Partnership - LP

    A limited partnership exists when two or more partners jointly ...
  3. Subscription Agreement

    A subscription agreement is an application by an investor to ...
  4. Articles of Partnership

    Articles of partnership is a contract that forms an agreement ...
  5. Carried Interest

    Carried interest is a share of any profits that the general partners ...
  6. Partnership

    A partnership is a formal arrangement in which two or more parties ...
Related Articles
  1. Investing

    The Benefits of Master Limited Partnerships

    Master Limited Partnerships offer tax benefits while also providing liquidity, but they can be complicated.
  2. Investing

    3 Reasons Enterprise Products Stock Could Rise (EPD)

    So far, 2015 has not been kind to shares of Enterprise Products Partners (NYSE: EPD). While the midstream energy specialist has routinely beaten the S&P 500 on a total return basis, its negative ...
  3. Small Business

    How to Create a Business Succession Plan

    Proper business succession planning requires careful preparation, by creating a succession plan you'll help make sure the business you built thrives.
  4. Insights

    Limited Liability Partnership (LLP): The Basics

    Limited liability partnerships (LLPs) are a flexible, legal and tax entity that allows partners to benefit from economies of scale while also reducing their liability.
  5. Financial Advisor

    Understanding private equity fund structure

    Understand the nature of private equity investment and learn how individual funds are structured, in terms of the types of partnerships, fees, liabilities, and performance.
  6. Investing

    Most Common Probability Distributions

    In this article, we'll go over a few of the most popular probability distributions and show you how to calculate them.
  7. Financial Advisor

    Partners Group: Investment Manager Highlight (PGHN)

    Get an inside look at some of the key executives and the investment approach of the global private equity investment firm Partners Group.
  8. Investing

    Evaluating A Statement Of Cash Flows

    The metrics for the Statement of Cash Flows is best viewed over time.
  9. Taxes

    How Private Equity and Hedge Funds are Taxed

    Private equity and hedge funds offer an appealing tax structure for those who can afford to invest in them.
  10. Managing Wealth

    Protect Your Personal Assets

    A family limited partnership (FLP) can go a long way toward securing your family's property.
RELATED FAQS
  1. Limited, General vs Joint Venture Partnership

    Learn the differences between general partnerships, limited liability partnerships, limited partnerships and joint venture ... Read Answer >>
  2. What's the difference between an MLP exchange-traded fund (ETF) and an MLP exchange-traded ...

    Learn about the tax differences between master limited partnership ETFs and ETNs, and understand the tax advantages of owning ... Read Answer >>
Trading Center