Tips on Trusts
The number of trusts raising distributions once again dwarfed those cutting last month, this time by a 7-to-2 margin. The increasers: Bell Aliant Regional Communications Income Fund (TSX: BA-U, OTC: BLIAF), Bonterra Energy Trust (TSX: BNE-U, OTC: BNPUF), Connors Brothers Income Fund (TSX: CBF-U, OTC: CBICF), IBI Income Fund (TSX: IBG-U, OTC: IBIBF), Keyera Facilities Income Fund (TSX: KEY-U, OTC: KEYUF), Superior Plus Income Fund (TSX: SPF-U, OTC: SPIJF) and The Keg Royalties Income Fund (TSX: KEG-U, OTC: KRIUF). The cutters: Boralex Power Income Fund (TSX: BPT-U, OTC: BLXJF) and PRT Forest Regeneration Fund (TSX: PRT-U, OTC: PFSRF).
Boralex’s troubles have been well documented in the past few issues of Canadian Edge and recent flash alerts. The trust’s cash flows suffered mightily from poor hydroelectric conditions in 2007, with low water flows extending through the fourth quarter. Production was 13.7 percent below historical averages in the quarter, trimming revenue and cash flow an estimated CAD5 million. Damage was compounded by the rising Canadian dollar, which trimmed CAD1.5 million from the trust’s US-derived cash flow.
Absent those factors, cash flow would have been right on target with last year’s numbers, and the trust’s fourth quarter payout ratio would have come in at a low 83.5 percent. As it turned out, however, the payout ratio was a lofty 141.1 percent for the quarter. And with wood residue costs expected to rise CAD2.5 million to CAD3 million in fiscal 2008, it was clearly unsustainable. The result: Management has now cut the distribution by 22 percent to an annual rate of 70 cents Canadian a year.
The move had long before been priced into Boralex shares, so there was relatively little initial reaction. Selling, however, soon began to accelerate again as recession worries cascaded through the markets.
As I’ve pointed out before, Boralex Power Income Fund is in no danger of default by any measure. For one thing, its parent Boralex remains a picture of health, posting a 55 percent jump in fourth quarter cash flow per share and a solid 6.7 percent boost in earnings per share. Management, meanwhile, reaffirmed the company is “in a sound financial position for pursuing its current and future expansion projects.” Distributions from the income fund continue to contribute a significant amount to parent cash flows.
Moreover, under any other scenario but default, Boralex Power Income Fund shares are ridiculously cheap. The stock now sells for only about 90 percent of book value. It’s still possible the parent will shop the income fund, or possibly buy back the assets. But whether that happens or not, the shares are worth sticking with for their immense recovery potential and high yield. Hold Boralex Power Income Fund.
PRT Forest Regeneration is cutting its distribution far more dramatically, from an annualized rate of 55 cents Canadian to just 24 cents. The reason: Whereas Boralex’s key business is basically non-cyclical, PRT’s is extremely sensitive to the level of North American economic growth, particularly the badly battered US housing sector.
In its fourth quarter earnings release, management cited “deepening challenges,” as “customers continue to respond to the triple effect of sharply lower US housing starts, a weak US dollar and low lumber prices by curtailing logging activity.” That, in turn, cuts demand for PRT’s seedlings, with management now projecting a 20 percent reduction in orders in 2008.
Long-term, of course, global deforestation and rising demand for wood-based products should be immensely beneficial for PRT. The British Columbia provincial government, for example, is already launching a massive planting campaign to combat global warming.
Near term, however, risk of more downward pressure on the shares is great. And even with a payout ratio less than 50 percent now, there’s still the danger of further cuts. In my view, the shares are cheap at just 66 percent of book value and 99 percent of sales. But until the US housing market stabilizes, PRT Forest Regeneration Fund is a hold.
Three at-risk trusts that still rate sells are: Primary Energy Recycling (TSX: PRI-U, OTC: PYGYF), TimberWest Forest Corp (TSX: TWF-U, OTC: TWTUF) and Tree Island Wire Income Fund (TSX: TIL-U, OTC: TWIRF). Primary actually restored a partial distribution last year but still faces a real threat from the underperformance of the Harbor Coal facility and continued delays in reaching an agreement with its partner there. An 11.3 percent rise in interest expense and a 129.3 percent payout ratio are two more reasons for conservative investors to steer clear for now.
TimberWest managed to cover its fourth quarter distribution with cash flow, but only because of CAD65.1 million in proceeds from the sale of real estate. Based purely on cash flow from timber sales, the payout ratio was an unsustainable 135 percent because the trust produced just 30 percent of its historical tradable volume. And those volumes are set to remain paltry because of a combination of a very weak US housing market and oversupply in Japan. Moreover, the rising Canadian dollar depresses the US dollar value of sales and weakens the trust versus the competition.
And the cost of the company’s contractors continues to rise. The company also closed a sawmill, laying off 257 workers to cut costs.
There’s still a wealth of real estate that TimberWest can sell, with the current inventory of shopped properties about 17 percent of its total land holdings. And Vancouver Island remains a very choice market for property, particularly residential. That makes TimberWest, however, a fundamentally different investment at this point—with its distribution basically wholly dependent on property sales and its core business languishing. That’s too much risk for conservative investors.
Finally, Tree Island Wire has now headed off a proxy battle involving an outside shareholder who wanted to shake things up. The trust’s real challenge, however, is the weak US dollar and soggy demand from the housing market for its wire products and nails. The trust is well managed and cheap at just 73 percent of book value and 40 percent of sales. The yield is telegraphing another dividend reduction and is certainly pricing one in.
But it’s also in the eye of the current North American economic storm, which still looks like it’s going to strike a few more blows before heading out to sea. Sell Primary Energy Recycling, TimberWest Forest Corp and Tree Island Wire Income Fund.
Here’s the complete Dividend Watch List. Note that prospects for TransForce Income Fund’s (TSX: TIF-U, OTC: TIFUF) challenged distribution are reviewed in the Portfolio section.
Acadian Timber (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 (TSX: CFX-U)
Chartwell Seniors Housing (TSX: CSH-U, OTC: CWSRF)
Connors Brothers Income Fund (TSX: CBF-U, OTC: CBICF)
Daylight Resources Trust (TSX: DAY-U, OTC: DAYFF)
Essential Energy Services (TSX: ESN-U, OTC: EEYUF)
Fording Canadian Coal (NYSE: FDG, TSX: FDG-U)
Harvest Energy Trust (NYSE: HTE, TSX: HTE-U)
Mullen Group 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)
Peak Energy Services (TSX: PES-U, OTC: PKGFF)
Precision Drilling (NYSE: PDS, TSX: PD-U)
Primary Energy Recycling (TSX: PRI-U, OTC: PYGYF)
Sun Gro Horticulture (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)
True Energy Trust (TSX: TUI-U, OTC: TUIJF)
Westshore Terminals (TSX: WTE-U, OTC: WTSHF)
The Power to Tax
April 15 is right around the corner. Here are a few key trust-specific points to guide you through the tax season.
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The Canadian government assesses a flat 15 percent tax on trust distributions to US investors who hold trusts outside of IRAs. The tax is withheld at the clearing corporation level, not at the brokerage or trust level. This payment can be recovered when you file your US taxes with Form 1116 of your 1040, essentially filing a foreign tax credit.
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Most Canadian royalty and income trusts’ distributions should be treated as qualified dividends. See the table below for links to statements issued by trusts on their respective US tax status. Note that not all trusts issue such statements.
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As the IRS has stated, you shouldn’t blindly accept the results on your 1099. Some brokerages will blow off the tax accounting for trusts. We advise using the statements by the trusts themselves as backup for filing them as qualified and taxable to the maximum 15 percent rate.
| Oil and Gas | Tax Status Statements | |
| Advantage Energy | 2006 | 2007 |
| ARC Energy Trust | 2006 | 2007 |
| Avenir Diversified | 2006 | 2007 |
| Baytex Energy Trust | 2006 | 2007 |
| Bonavista Energy Trust | 2006 | 2007 |
| Bonterra Energy | 2006 | 2007 |
| Canadian Oil Sands | 2006 | 2007 |
| Canetic Resources | 2005 | 2006 |
| Crescent Point Energy | 2006 | 2007 |
| Daylight Resources | 2005 | 2007 |
| Enerplus Resources | 2006 | 2007 |
| Enterra Energy Trust | 2006 | 2007 |
| Fairborne Energy Trust | 2005 | 2006 |
| Focus Energy Trust | 2005 | 2006 |
| Freehold Royalty Trust | PFIC | PFIC |
| Harvest Energy Trust | 2006 | 2007 |
| NAL Oil & Gas Trust | 2006 | 2007 |
| Paramount Energy Trust | 2006 | 2007 |
| Pengrowth Energy Trust | 2006 | 2007 |
| Penn West Energy Trust | 2006 | 2007 |
| Peyto Energy Trust | 2006 | 2007 |
| PrimeWest Energy Trust | 2006 | 2007 |
| Progress Energy Trust | 2006 | 2007 |
| Provident Energy Trust | 2006 | 2007 |
| Trilogy Energy Trust | 2006 | 2007 |
| True Energy Trust | 2006 | 2007 |
| Vault Energy | 2006 | 2007 |
| Vermilion Energy Trust | 2006 | 2007 |
| Zargon Energy Trust | 2006 | 2007 |
| Electric Power | Tax Status Statements | |
| Algonquin Power Income Fund | N/A | N/A |
| Atlantic Power Corp | 2006 | 2007 |
| Boralex Power | 2006 | 2007 |
| Great Lakes Hydro Income Fund | 2006 | 2007 |
| Innergex Power Income Fund | N/A | N/A |
| Macquarie Power & Infrastructure | N/A | N/A |
| Northland Power Income Fund | N/A | N/A |
| Primary Energy Recycling | 2006 | 2007 |
| Gas/Propane | Tax Status Statements | |
| AltaGas Income Trust | 2006 | 2007 |
| Energy Savings Income Fund | 2006 | 2007 |
| Essential Energy Services | 2006 | 2007 |
| Eveready Income Fund | 2006 | 2007 |
| Keyera Facilities | 2006 | 2007 |
| Peak Energy Services | 2006 | 2007 |
| Precision Drilling | 2006 | 2007 |
| Spectra Energy Income Fund | 2006 | 2007 |
| Superior Plus | 2006 | 2007 |
| Trinidad Drilling Energy Services | 2006 | 2007 |
| Wellco Energy Services Trust | 2006 | N/A |
| Business Trusts | Tax Status Statements | |
| A&W Revenue Royalties | N/A | N/A |
| Aeroplan Income Fund | N/A | N/A |
| Ag Growth Income Fund | N/A | N/A |
| Arctic Glacier Income Fund | 2006 | 2007 |
| Bell Aliant | 2006 | 2007 |
| BFI Canada Income Fund | N/A | 2007 |
| Big Rock Brewery | N/A | N/A |
| Boston Pizza Royalties | N/A | N/A |
| Brookfield Real Estate Services | N/A | N/A |
| Chemtrade Logistics | N/A | N/A |
| CI Financial | N/A | N/A |
| Cineplex Galaxy Income Fund | N/A | N/A |
| Cinram International | 2006 | 2007 |
| Clearwater Seafoods Income Fund | N/A | N/A |
| CML Healthcare | N/A | N/A |
| Colabor Income Fund | N/A | N/A |
| Connors Bros Income Fund | N/A | N/A |
| Consumers’ Waterheater | N/A | N/A |
| Contrans Income Fund | 2006 | 2007 |
| Davis + Henderson Income Fund | N/A | N/A |
| FP Newspapers Income Fund | N/A | N/A |
| Futuremed Healthcare Income Fund | N/A | N/A |
| GMP Capital Trust | N/A | N/A |
| Home Equity Income Trust | N/A | N/A |
| IBI Income Fund | N/A | N/A |
| Jazz Air Income Fund | 2006 | 2007 |
| Keystone North America | N/A | N/A |
| Medical Facilities Corp | 2006 | 2007 |
| Menu Foods Income Fund | N/A | N/A |
| Mullen Group Income Fund | 2006 | 2007 |
| New Flyer Industries | N/A | N/A |
| Newalta Income Fund | 2006 | 2007 |
| Newport Partners Income Fund | N/A | N/A |
| North West Company Fund | N/A | N/A |
| Parkland Income Fund | N/A | N/A |
| PDM Royalties Income Fund | N/A | N/A |
| Priszm Income Fund | 2006 | 2007 |
| Sleep Country Canada | N/A | N/A |
| Somerset Entertainment | N/A | N/A |
| Sun Gro Horticulture | N/A | N/A |
| Swiss Water Decaffeinated Coffee | N/A | N/A |
| The Keg Royalties | N/A | N/A |
| TransForce Income Fund | 2006 | 2007 |
| Tree Island Wire Income Fund | N/A | N/A |
| Wajax Income Fund | NQ | NQ |
| Yellow Pages Income | 2006 | 2007 |
| Pipeline Trusts | Tax Status Statements | |
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