Peyto Energy Trust (TSX: PEY-U, OTC: PEYUF) announced its plan to convert to a corporation this week. At least one detail won’t please everyone: Management plans to reduce the monthly distribution to a rate of CAD0.06 from the current CAD0.12, starting with the January payment.

Other particulars, however, are considerably more bullish. As a result, Peyto units have rallied sharply this week, even as the price of its lifeblood product–natural gas–continues to slump well under USD4 per million British thermal units.

Peyto management had pledged to maintain its current distribution rate through the end of 2010. This announcement confirms that. The rate that begins in 2011 will absorb the new taxes faced by all income trusts at the corporate level, whether they convert or not. Starting Jan. 1, 2011, investors holding Peyto in IRA accounts will no longer be withheld 15 percent of dividends by the Canadian government.

The depth of Peyto’s cut is likely due in equal parts to low natural gas prices and management’s desire to dramatically increase production over the next couple of years. Lower gas prices remain a real downer for revenue. But the saved cash will allow a robust capital spending program in the coming year of CAD250 to CAD275 million. That represents acceleration from past years and will bring to market the result of an exhaustive effort to expand the company’s reserve base in recent years. Proven reserve life is well over 20 years, besting reserve counts of most Super Oils as well as major intermediates and independents.

As the company says in its press release, reserves and production per share have grown at compound annual rates of 54 and 43 percent, respectively, for the past 12 years. Production is now at 25,000 barrels of oil equivalent per day, up from 18,000 a year ago. And, thanks to the successful application of horizontal drilling and multi-stage fracturing well technology, the company has simultaneously reduced its cost of adding new production as much as 50 percent as well.

By the end of 2010, Peyto’s overall output is expected to ramp up to 28,000 barrels of oil equivalent per day. That will surge to the 33,000 to 37,000 range by the end of 2011, an extraordinary return on investment of recent years. The fact that management has been able to ramp up production so dramatically with natural gas prices at multi-year lows is particularly noteworthy.

Looking ahead, it’s clear the new dividend rate has been set with extremely conservative assumptions in mind, particularly for gas prices. The company anticipates it will have some CAD850 million in tax pools on hand at the end of 2010 to shelter future income, ensuring its effective tax rate will be well below even Canada’s very low statutory rates. And the company has plenty of both proven reserves and undeveloped land with which to continue its dramatic growth going forward.

Ultimately, how profitable that growth will be depends heavily on a revival of natural gas prices. Maintaining a monthly dividend is a clear sign that Peyto will share the wealth directly with shareholders if and when gas prices move to firmer footing. And in that sense, the new rate represents a baseline worst case that will be ramped up when overall conditions improve. No one should expect that, however, unless prices do move higher.

Peyto remains one of the lowest-risk ways to play a revival of natural gas prices in coming years. That seems to also be the view of most analysts covering the stock as well, as eight of the nine firms following have a buy on it. And it certainly explains why the stock has been a winner this year, even as so many of its peers have lost money.

Based on my conversations with several Canadian Edge readers, reduced distributions mean tough portfolio decisions for many investors. No matter how good a company is, sticking with it after a dividend cut means lost income. The good news with Peyto is it trades at its best price in two years, so yield-seekers can swap into something paying a bit more without suffering a loss of capital.

One alternative is Enerplus Resources Fund (TSX: ERF-U, NYSE: ERF), which also announced its conversion plans this week. Management, however, has elected to maintain its current monthly distribution of CAD0.18 per share after conversion.

This was exactly as promised several months ago. The fact that Enerplus units rallied sharply this week on the announcement of firm dates is a pretty clear sign many investors didn’t fully believe the earlier statements. That, in turn, is a very good sign we’ll see similar gains for other trusts that have announced cut-less conversions, once they actually make their moves.

Enerplus had a bit more flexibility than Peyto with its payout at conversion. That’s in large part because it pumps a considerable amount of oil, while the latter is almost entirely a natural gas producer. Both companies’ stocks, however, continue to trade well under the value of their proven assets in the ground. That means upside leverage if energy prices rise and downside protection if they continue to languish. Enerplus Resources Fund remains a buy up to USD25. Peyto Energy Trust is a buy up to USD16.

The following Canadian Edge Portfolio companies still have yet to announce post-conversion dividend rates. I expect to have the remaining answers with third-quarter earnings announcements. We’ll start seeing these later this month, with the last in mid-November.

• ARC Energy Trust (TSX: AET-U, OTC: AETUF)
• IBI Income Fund (TSX: IBG-U, OTC: IBIBF)
• Parkland Income Fund (TSX: PKI-U, OTC: PRKLF)
• Provident Energy Trust (TSX: PVE-U, NYSE: PVX)