Dividend Watch List

Canadian trusts increasing distributions outnumbered those cutting 9-to-3 in January. One of the cutters was from the still-weak energy services sector. The other two were affected by the turbulence in the financial markets and continued weakness of the US dollar.

Starting in mid-2006, natural gas prices began to soften in earnest. And since then, energy services have been a disaster area for trusts. The good news is, after months of dividend reductions and share price meltdowns, it looks increasingly like we’ve hit bottom. And although distributions may not return to previous levels for some time, strengthening natural gas prices should improve business conditions by the second half of 2008, triggering a strong rebound in share prices.

Last month, there was one distribution cut in the sector: Trinidad Energy Services Income Trust (TSX: TDG-U, OTC: TDGNF). However, as I explain in the High Yield of the Month section, the trust’s payout reduction is the result of a strategic move to convert to a corporation, rather than a sign of weakness. The additional cash will enhance the trust’s ability to shelter capital for expansion in a weak environment, setting the stage for faster growth and bigger dividends down the road.

It’s bullish; Trinidad Energy Services Income Trust continues to rate a buy up to USD14.

Like Trinidad, Eveready Income Fund (TSX: EIS-U, OTC: EISFF) has held steady over the past year. The reason: Just as Trinidad is focused on the still-robust US market, Eveready primarily plies its wares in the high-growth Alberta oil sands region. As a result, neither trust’s cash flow is appreciably exposed to the weakness in Canada’s conventional natural gas patch. Eveready’s revenue surged 36 percent in 2007, and another gain in the 15-20 percent range is projected for 2008.

Like Trinidad, however, Eveready is changing its dividend policy in order to boost its long-run ability to grow while others are weak. Last month, the trust announced that it would convert its monthly cash distribution into a quarterly “in kind” or all-stock dividend at the same annual rate of 72 cents Canadian a share. The move will allow the trust to retain more than CAD60 million in additional cash per year. That will dramatically reduce the cost of its capital spending plans—which otherwise would have required substantial borrowing—and enhances future growth when the services sector cycles out. Management has already raised its growth forecast for 2008.

No one, of course, likes a dividend cut. And although Eveready’s move isn’t technically a reduction, it does mean less cash for shareholders, at least in the near term. As a result, it’s no real surprise that the shares have been punished since the announcement, bringing them down to little more than half their level of a year ago.

For aggressive investors, it’s a golden opportunity to score a yield of more than 20 percent in shares that are almost certain to prove considerably more valuable than cash over the next year. True, when it comes to investing, the bird in hand (cash) if often worth far more the IOU on future growth shares of stock represent. Eveready, however, is dirt cheap, selling right at book value and only about half of annual sales. Moreover, it’s on track for double-digit sales and cash flow growth in 2008, and possibly a lot more as the services industry cycles out.

Put another way, a 20 percent gain in Eveready’s share price over the next year will increase the value of the 72-cents-Canadian stock dividend by 20 percent to 86.4 cents Canadian, or to a yield of more than 25 percent. A return to the 52-week high—certainly within the realm of possibility—would boost the yield on the current price to more than 40 percent.

Energy services is a volatile business. But you’ll rarely see a higher potential play on an industry that appears to have bottomed out. Buy Eveready Income Fund up to USD4.

Clearwater Seafoods Income Fund (TSX: CLR-U, OTC: CWFOF) has eliminated its distribution, effective with the January payment. The 31-year-old company has been increasingly strained over the past couple years because the rising Canadian dollar has made it more difficult to compete with US rivals and simultaneously depressed the value of its US receivables. The trust has also been hit by operating problems with vessels in the clam fleet, which have reduced capacity.

Along with the dividend suspension, Clearwater announced it was launching a strategic review. Potential outcomes include converting to a corporation well ahead of 2011, which would have the added advantage of enabling the company to retain increasingly tight cash flow. There’s also the possibility of a takeover of the trust. The most likely suitor is Clearwater Fine Foods, which already owns 48 percent of the operating unit (Clearwater Seafoods LP) that provides all of the trust’s cash flow.

Clearwater’s basic business is sound. But in my view, all of these courses of action present sizeable risks for shareholders, particularly given the slump in its business and the likelihood of further strength in the Canadian dollar. My advice remains to avoid Clearwater Seafoods Income Fund. Ditto rival Connors Brothers Income Fund (TSX: CBF-U, OTC: CBICF), which has also been hit by food safety concerns over the past year.

CI Financial Income Fund’s (TSX: CIX-U, OTC: CIXUF) 15.8 percent cut in its distribution last month was directly linked to overall troubles in Canada’s financial markets, triggered largely by weakness in the US. The trust reported a 4.2 percent decline in assets in January, along with a direct decline in management fees and cash flows. That broke a fairly consistent string of monthly growth in assets under management and forced the trust to return distributions to levels of a couple years ago.

Overall, CI remains sound and a leader in Canadian fund management. The drop in assets and dividend cut, however, illustrates clearly for the first time that this is also a fairly market-sensitive trust.

The new distribution level should hold, barring a very unlikely total meltdown of the Canadian markets. And management has shown itself willing to raise the payout when business is good. CI Financial Income Fund still rates a buy up to USD25 but only for more aggressive investors.

Note that Priszm Income Fund (TSX: QSR-U, OTC: PSZMF) has now restored both cash flows and its distribution to normal levels. Priszm Income Fund is now off the watch list and is a buy up to USD7.

Enterra Energy Trust (NYSE: ENT, TSX: ENT-U) has announced it won’t restore distributions at least until November 2008 because of the price of extending its credit agreement. With high debt, soaring costs, a lack of economies of scale and virtually shut out of capital markets, Enterra should be considered in a death spiral until proven otherwise. Sell Enterra Energy Trust.

I’m also maintaining a sell recommendation for merging Peak Energy Services (TSX: PES-U, OTC: PKGFF) and Wellco Energy Services (TSX: WLL-U, OTC: WLLUF). Both are off the Watch List because they no longer pay distributions, as are Clearwater Seafoods Income Fund and Connors Brothers Income Fund.

Here’s the rest of the Dividend Watch List. Note that fourth quarter earnings to be announced in coming weeks are critical for all these trusts’ ability to come off the watch list. We’ll be reporting them as they appear in the weekly Maple Leaf Memo (archived on the Canadian Edge Web site) and in the How They Rate Table. Portfolio trust results will be recapped in flash alerts.

I’ll have a comprehensive trust earnings roundup next month, though there will be some stragglers that won’t report until mid- to late March. See How They Rate for buy/hold/sell advice on those not discussed above:

Acadian Timber Income Fund (TSX: ADN-U, OTC: ATBUF)
Advantage Energy Income Fund (NYSE: AAV, TSX: AVN-U)
Boralex Power Income Fund (TSX: BPT-U, OTC: BLXJF)
Canfor Pulp Income Fund (TSX: CFX-U)
Chartwell Seniors Housing (TSX: CSH-U, OTC: CWSRF)
Daylight Resources (TSX: DAY-U, OTC: DAYFF)
Essential Energy Services Trust (TSX: ESN-U, OTC: EEYUF)
Fording Canadian Coal (NYSE: FDG, TSX: FDG-U)
Freehold Royalty Trust (TSX: FRU-U, OTC: FRHLF)
Harvest Energy Trust (NYSE: HTE, TSX: HTE-U)
Mullen Group Income Fund (TSX: MTL-U, OTC: MNTZF)
Newalta Income Fund (TSX: NAL-U, OTC: NALUF)
Newport Partners Income Fund (TSX: NPF-U, OTC: NWPIF)
Noranda Income Fund (TSX: NIF-U, OTC: NNDIF)
Paramount Energy Trust (TSX: PMT-U, OTC: PMGYF)
Precision Drilling (NYSE: PDS, TSX: PD-U)
Primary Energy Recycling (TSX: PRI-U, OTC: PYGYF)
SFK Pulp Fund (TSX: SFK-U, OTC: SKFUF)
Sun Gro Horticulture Income Fund (TSX: GRO-U, OTC: SGHRF)
Swiss Water Decaf Coffee Income Fund (TSX: SWS-U, OTC: SWSSF)
TimberWest Forest Corp (TSX: TWF-U, OTC: TWTUF)
Tree Island Wire Income Fund (TSX: TIL-U, OTC: TWIRF)
Trilogy Energy Trust (TSX: TET-U, OTC: TETFF)
True Energy Trust (TSX: TUI-U, OTC: TUIJF)
Westshore Terminals Income Fund (TSX: WTE-U, OTC: WTSHF)

Tax Matters

As is customary for most this time of year, Canadian income and royalty trusts have begun issuing statements detailing the status of their respective distributions from a US income tax standpoint.

We’ll be collecting links to those statements and compiling them in the Income Trust Tax Guide as they’re released.

And we’ll also include links to statements in The Roundup section of Maple Leaf Memo on a rolling basis.

Bay Street Beat

In addition to the average rating scores it produces based on its weekly survey of Bay Street analysts, Bloomberg also tracks the biggest ratings increases and decreases.

For the most recent round, Westshore Terminals Income Fund (TSX: WTE-U, OTC: WTSHF) saw a 0.333 point increase, tops among CE-covered trusts. Westshore boosted its distribution

North West Company Fund (TSX: NWF-U, OTC: NWTUF) has been the general store to remote areas of northern Canada and Alaska for more than 300 years. It touts itself as the oldest retailer on the continent. Bay Street is feting the distant relative of the Hudson’s Bay Company, raising its average analyst rating by 0.500 to 3.750. 

Northern stores operate in markets with populations from 500 to 5,000. A typical store is 7,500 square feet in size and offers food, family apparel, housewares, appliances, outdoor products and special services such as check cashing, catalogue ordering, money transfers and fast food outlets.

North West, which has annualized revenue of approximately CAD1.3 billion, completed the acquisition Cost-U-Less, a Bellevue, Wash.-based retailer with operations in the Caribbean and Micronesia, for CAD52.2 million last December. It’s another move that strengthens North West’s position as the leading retailer for unique, remote markets.

The company reported third quarter 2007 earnings of CAD18.5 million (39 cents Canadian per unit), a 24.6 percent year-over-year increase, on an 8.3 percent rise in sales. North West currently pays a quarterly distribution of 27 cents Canadian per unit.   

Shaken by its recent 10 percent distribution cut, analysts sliced 0.334 from CI Financial Income Fund’s average rating. GMP Capital Trust (TSX: GMP-U, OTC: GMCPF)shed 0.200. InnVest REIT’s (TSX: INN-U, OTC: IVRVF) average shrank by 0.286, Calloway REIT (TSX: CWT-U, OTC: CWYUF) by 0.182 and Northland Power Income Fund (TSX: NPI-U, OTC: NPIFF) by 0.107.

By the Numbers

We’re on the brink of an important reporting period for Canadian trusts specifically and the global economy in general. We’ve compiled reporting dates for Portfolio recommendations below; be sure to read Maple Leaf Memo in coming weeks for summaries and analysis of fourth quarter and full-year 2007 earnings reports.

Conservative Portfolio

. Algonquin Power Income Fund (TSX: APF-U, OTC: AGQNF) March 7
. AltaGas Income Trust (TSX: ALA-U, OTC: ATGFF) Feb. 27
. Arctic Glacier Income Fund (TSX: AG-U, OTC: AGUNF) March 20
. Artis REIT (TSX: AX-U, OTC: ARESF) March 27
. Atlantic Power Corp (TSX: ATP-U, OTC: ATPWF) March 26
. Bell Aliant Regional Communications Income Fund (TSX: BA-U, OTC: BLIAF) Feb. 5
. Canadian Apartment Properties REIT (TSX: CAR-U, OTC: CDPYF) Feb. 19
. Energy Savings Income Trust (TSX: SIF-U, OTC: ESIUF) Feb. 11
. GMP Capital Trust (TSX: GMP-U, OTC: GMCPF) Feb. 28
. Keyera Facilities (TSX: KEY-U, OTC: KEYUF) Feb. 26
. Macquarie Power & Infrastructure Income Fund (TSX: MPT-U, OTC: MCQPF) Feb. 19
. Northern Property REIT (TSX: NPR-U, OTC: NPRUF) March 11
. Pembina Pipeline Income Fund (TSX: PIF-U, OTC: PMBIF) March 7
. RioCan REIT (TSX: REI-U, OTC: ROICF) Feb. 11
. Yellow Pages Income Fund (TSX: YLO-U, OTC: YLWPF) Feb. 13

Aggressive Portfolio

. Advantage Energy Income Fund (NYSE: AAV, TSX: AVN-U) March 20
. ARC Energy Trust (TSX: AET-U, OTC: AETUF) Feb. 15
. Boralex Power Income Fund (TSX: BPT-U, OTC: BLXJF) Feb. 22
. Enerplus Resources (NYSE: ERF, TSX: ERF-U) Feb. 28
. Newalta Income Fund (TSX: NAL-U, OTC: NALUF) March 7
. Paramount Energy Trust (TSX: PMT-U, OTC: PMGYF) March 11
. Penn West Energy Trust (NYSE: PWE, TSX: PWT-U) Feb. 25
. Peyto Energy Trust (TSX: PEY-U, OTC: PEYUF) March 5
. Provident Energy Trust (NYSE: PVX, TSX: PVE-U) March 19
. TransForce Income Fund (TSX: TIF-U, OTC: TIFUF) Feb. 26
. Trinidad Energy Services Income Trust (TSX: TDG-U, OTC: TDGNF) Feb. 28
. Vermilion Energy Trust (TSX: VET-U, OTC: VETMF) March 3

Non-Trust Update

Bank of Nova Scotia (NYSE: BNS, TSX: BNS), No. 3 among Canada’s Big Six banks, announced agreements to buy lenders in Guatemala and the Dominican Republic from Chile’s Grupo Altas Cumbres (GAC), adding 53 branches to its Latin American business.

The purchase includes Banco de Antigua in Guatemala and parts of Banco de Ahorro y Credito Altas Cumbres in the Dominican Republic. Scotiabank gets about a third of its profit from operations outside Canada and has spent about CAD2.1 billion in foreign acquisitions over the past two years in Peru, Chile and Costa Rica. The latest acquisitions are in markets in which Scotia has established operations.

Bank of Nova Scotia also has an option to buy Altas Cumbres’ Banco del Trabajo in Peru. Scotiabank said in November it had entered talks to buy the Peruvian lender, which has about USD386 million in assets and 83 branches.

Banco de Antigua has 47 branches and 98 kiosks, with USD82 million in assets as of June. Banco de Ahorro y Credito has six branches and USD29 million in assets.

Scotiabank tends to start with small ownership stakes in financial companies and gradually increases its holdings. About 31 percent of Scotiabank’s CAD4 billion profit in 2007 came from its international banking segment, which operates in Mexico and dozens of other countries in the Caribbean and Central America, South America and Asia.

Scotiabank sought to boost its domestic wealth management business by buying an 18 percent stake in Toronto-based DundeeWealth last September.

Scotiabank shares have been trading down in sympathy with US financials. But the capital markets have held up, and Canada’s banks have avoided much of the subprime-related chaos that has hurt US banks. We originally recommended Scotiabank based on its solid dividend and its increasing exposure to global growth markets. At this point in the game, it’s also a sound defensive play.

Buy Bank of Nova Scotia up to USD58.