Dividend cuts are always best avoided. But as experienced income investors have learned, they can also be compelling buying opportunities, provided they mark a true bottom for the underlying business.

No trust’s management takes cutting distributions lightly. Not only are most major unitholders themselves, but the security of the payout is critical to a company’s credibility and, ultimately, market value.

Cutting saves cash flow in the near term, but it also triggers selling that drives down share prices and pushes up the cost of capital. Credibility and value can only be restored by proving a turnaround is progress, which can take months or even years.

Fortunately, unitholders of October High Yield of the Month selections Macquarie Power & Infrastructure Income Fund (TSX: MPT-U, OTC: MCQPF) and Yellow Pages Income Fund (TSX: YLO-U, OTC: YLWPF) won’t have to wait nearly that long. That’s because their recent dividend cuts had little or nothing to do with their underlying business health and everything to do with 2011, when they’ll convert from trusts to corporations and begin paying taxes.

Macquarie Power & Infrastructure announced its move September 29, the conversion the most visible result of a sweeping strategic review to prepare the trust for pending 2011 taxation. The plan is to maintain the current dividend rate of 8.75 cents Canadian per month through the end of 2009, fulfilling a pledge management made repeatedly this year. Then, beginning Jan. 1, 2010, the distribution will be cut to 5.5 cents Canadian per month.

The cut is part of a plan to convert the trust into a “dividend-paying corporation” for 2011 and beyond. The date for the transition is expected to be in late 2010, allowing the trust to take maximum advantage of trusts’ currently favorable tax status.

The conference call following the announcement included several key details, several of which I highlighted in a September 30 Flash Alert.

These include a plan to use the roughly CAD20 million in cash saved from the dividend cut for a combination of debt reduction, acquisitions and upgrades to the Cardinal power plant.

Gas-fired Cardinal provides roughly half of Macquarie’s annual cash flow, and the trust will have to negotiate a new power sales contract beginning in 2014.

Put into perspective, cash savings in 2010 alone are enough to pay off roughly half the convertible debt coming due in 2010, dramatically strengthening the balance sheet while avoiding dilution.

Alternatively, coupled with CAD85 in available liquidity, they can speed acquisitions of cash-generating assets. Potential targets include renewable power plants, electricity transmission and distribution assets, transportation/road networks, long-term care facilities to compliment the Leisureworld investment, and other essential infrastructure, ranging from hospitals to water distribution.

The objective is to increase the size of the trust’s base of essential-service infrastructure that faces little or no competition and thereby generates exceptionally steady cash flows. That’s the strength of all of Macquarie’s existing assets, demonstrated clearly by its ability to generate steady cash flows throughout this recession and credit crunch. And with Canada facing an estimated CAD200 billion infrastructure deficit, there’s no shortage of potential projects and acquisition targets.

Going forward, management’s targeted payout ratio for the next five years is 70 to 75 percent of distributable cash flow generated by the trust’s assets. The reduced dividend rate falls well within that range, including the impact on future cash flows of the new taxes–projected at 29 percent of taxable income–and needed maintenance capital expenditures for its power plants.

Management will continue to pay dividends from distributable cash flow rather than earnings per share, thanks to its ability to reduce taxes with non-cash expenses like depreciation.

Coupled with the underlying stability of Macquarie’s assets, that’s a solid vote of confidence for the new dividend rate, which at the trust’s current unit price is more than 11 percent.

Equally important, however, these strategic moves mark a commitment by Macquarie Power & Infrastructure and its parent to return to asset growth. That strategy had been on hold since mid-2007, when the trust completed the purchase of the former Clean Power Income Fund and added seven long-term care homes to Leisureworld’s portfolio.

It’s that growth that will drive Macquarie’s future returns. The shares are up roughly 46 percent in US dollar terms thus far in 2009. But after the one-day drop that followed the distribution cut, they’re at barely half the all-time high reached in mid-2007 and trade for just 97 percent of book value.

Throw in the fact that 2011 taxation is no longer an issue for Macquarie units and you’ve got a tremendous amount of upside for what’s basically a very conservative, high yielding play on essential services. Buy Macquarie Power & Infrastructure Income Fund up to USD8 if you don’t have a position already.

Yellow Pages announced its distribution cut from a monthly rate of 9.75 cents Canadian to 6.67 cents back in early May, in the wake of disappointing first quarter 2009 earnings.

As I reported in the May 2009 CE, the reduction was essentially a tacit acknowledgement by management that Yellow would not be able “outgrow” its prospective 2011 taxation. That was a reversal of its long-held contention that it would be able to maintain monthly distributions of 9.75 cents per share after absorbing the new taxes.

Management first made that assertion on Nov. 21, 2006, less than a month after Finance Minister Jim Flaherty’s Halloween surprise. And the bold statement was no doubt a major factor in pushing Yellow’s unit price to a new all-time high in November 2007, in US dollar terms.

Combined with the well-publicized demise of US-based directory companies, breaking that “pledge” has been a major factor driving down Yellow’s market value to just 53 percent of book value currently.

Ironically, the trust has actually dramatically outperformed any reasonable expectations as a business, particularly given the severity of the recession and its impact on advertising of all stripes.

At the same time Yellow’s US counterparts Idearc (OTC: IDARQ) and RH Donnelly Corp (OTC: RHDC) were going belly-up, Yellow has continued to execute its long-term strategy of growing a dominant Internet-based directory business while maintaining profitability at its legacy print yellow pages business.

That’s in part because, unlike the US directory companies, Yellow has no rivals in the print business after acquiring the dominant players coast-to-coast. The company now publishes 340 business and residential directories. But it’s also because management realized early on that its business was transitioning to the web.

Unlike US directory giants, it has embraced partnerships with Google (NSDQ: GOOG). As a result, it now owns and manages the country’s most visited online directories YellowPages.ca, Canada411.ca and CanadaPlus.ca.

Coupled with efficiencies and cost-cutting, that’s kept the core online and print directory business growing quarter after quarter. Instead, the problem has been with the business Yellow acquired in order to outgrow 2011 taxes: Trader Corp, a print and online vertical media provider with over 160 publications and 20 websites focused mainly on automobile, real estate and employment.

Obviously, all three of these categories have suffered greatly during the recent recession. What’s surprising is their shortfall hasn’t had more of an impact on Yellow’s overall profitability. In fact, despite a 34 percent drop in Trader’s second quarter cash flow, the trust’s overall distributable cash flow per share was basically flat with year-earlier levels.

Controlling Trader’s red ink is a major management priority going forward. But even so, Yellow’s second quarter distributable cash flow covered the former 9.75 cents per share monthly dividend by a comfortable 1.2-to-1 margin. And at the reduced rate, the margin is 1.74-to-1, leaving plenty of cash for debt reduction, investing in the business and absorbing 2011 taxes, when the trust converts to a dividend-paying corporation probably in late 2010.

When it cut the dividend in May, management assured investors the new lower rate would be sustainable well beyond 2011. Given it was making the same assertions just months ago about the prior 9.75 cents rate, it’s no wonder investors have been skeptical, or that Yellow has slipped to a price of just 53 percent of book value and a yield of more than 14 percent.

As with all dividend cutters, the only way Yellow will overcome the negative expectations is with strong business performance. We won’t have third quarter numbers to look at until November 5, when management has confirmed it will release earnings and hold its quarterly conference call.

Last month, however, we saw credit raters S&P and DBRS affirm Yellow’s ratings in the wake of a successfully upsized CAD187.5 million issue of preferred securities.

The trust also launched several new web applications and earned upgrades to buy from a pair of research houses following investor conferences.

That’s solid evidence the stabilizing trend that began with second quarter earnings is set to continue the rest of the year, as management cuts costs at weak operations and pushes its advantage in strong ones.

There’s no doubt investors have set a low bar of expectations for Yellow. And the trust has punished those who’ve stuck with it, underperforming the rally that began in March even after surging over the past month.

Low price, however, also means low risk from here. And the trust sells for barely a third of its all-time high in US dollars reached in late November 2007, when it was arguably far less dominant and much more exposed to the inevitable decline of the print directory business.

That means huge upside from here, in addition to a very well-protected yield. Buy Yellow Pages Income Fund if you haven’t already up to USD8.

For more information on Macquarie Power & Infrastructure Income Fund and Yellow Pages Income Fund, visit How They Rate. Click on the “.UN” symbol to go to the website of our Canadian partner MPL Communications for press releases, charts and other data. These are substantial companies, so any broker should be able to buy them, either with their Toronto or OTC symbols.

Ask which way is cheapest. Click on the trusts’ names to go directly to their websites. And click on their US symbols to see all previous writeups in Canadian Edge and its weekly companion Maple Leaf Memo.

Note that both trusts’ dividends are considered qualified for tax purposes in the US. Tax information to use as backup for filing them as qualified–whether or not there are errors on your 1099–is listed on the Canadian Edge website.

As is customary for virtually all foreign-based companies, the host government–in this case Canada–withholds 15 percent of distributions paid to US investors at the border. This tax can be recovered by filing a Form 1116 with your US income taxes. The amount of recovery allowed per year depends on your own tax situation, though unrecovered amounts can be carried forward to future years.

These trusts’ decisions to reduce distributions and to covert to corporations basically removes all prospective 2011 risk. Instead, payouts going forward depend wholly on the health of their underlying businesses, which I believe to be sound, proven under very tough conditions and primed for growth.