Enercare Inc: Could this be the Company to Light a Little Gas to your Portfolio?

In May 2009 the average yield for subscribers to my Canadian Edge advisory service was 10.4 percent. That was before the past two years of record bull market returns. But there are still high-yield bargains left for the discerning investor, particularly owners of diversified portfolios who can thereby shop safely for stocks with a little more octane.

One company in that category is EnerCare Inc (TSX: ECI, OTC: CSUWF), the successor to Consumers’ Waterheater Income Fund.  EnerCare is a waterheater rental company that’s recently built a business in submetering, an energy conservation service used primarily by the owners of apartment complexes that dominate the Canadian landscape.

Spiking fuel and energy costs have emerged as a major concern for many companies, but EnerCare doesn’t have much to worry about on that score. In fact the company stands to profit from higher energy prices going forward as a result of consumers’ growing focus on efficient usage.

EnerCare now has 100,000 contracted suites in the submetering portfolio and has ramped up its sales force by 40 percent. That appears to be better than management projected in its fourth-quarter conference call held back in February, and it augurs well for the rest of the year as well.

As for the core waterheater rental business, the company reported strong progress reducing attrition–mainly customers leaving to join rivals–over the past year that was continuing into 2011. The overall waterheater rental base shrank 1 percent year over year, but that was down from 5.9 percent a year ago. Meanwhile, revenue and cash flow both rose, as the company controlled costs and obtained better rates.

Cash flow covered both capital expenditures and the payout with a lot of room to spare in 2010. Submetering growth and solid returns in waterheater rentals–both essentially fee-based businesses–augur continued strong coverage in 2011 and beyond, giving management financial flexibility to invest in growth and potentially pay an even higher dividend down the road.

EnerCare’s improving fortunes have also attracted takeover attention. Octavian Advisors announced in late April that it has acquired shares equivalent to an ownership stake of 10.24 percent. A day later EnerCare management adopted a shareholder rights plan, a move that should ensure a good price for all investors should Octavian or anyone else attempt to expand their stakes further.

In my view, the surest play on natural gas in this environment is usage. That basically means any company that can benefit from greater demand, without being hurt overmuch from a weak pricing environment.

Skepticism surrounding EnerCare, meanwhile, is best expressed in its 8.3 percent-plus yield, which is higher than the vast majority of companies in How They Rate coverage, available to all subscribers of Canadian Edge.

As my colleague and editor of the Energy Strategist, Elliott Gue, astutely pointed out in his Oct. 2010 article, Low Expectations Set the Stage for Stock Market Rally, low expectations don’t take much to beat them and send stocks higher.  Conversely, only a real business disaster is going to send the company’s stock meaningfully lower.

No one should make the mistake of assuming this stock is absolutely safe, and the most conservative investors should probably shop elsewhere. That’s why EnerCare is in Canadian Edge Portfolio’s Aggressive Holdings.

On the other hand, EnerCare is certainly suitable for inclusion in a diversified portfolio, particularly one containing mostly stocks drawing higher scores under the Canadian Edge Safety Rating System. If EnerCare can catch even a small break, its stock could throw off as much as 30 to 40 percent capital gains this year, just by recapturing a valuation in the neighborhood of similar stocks. And that’s in addition to paying out dividends around 9 percent. Downside is very likely a dividend cut of 25 percent or so, with a commensurate dip in the share price.

The company should see another explosive quarter from its submetering operation. That could be tempered to some degree by competition in the waterheater rental business, should the company’s aggressive marketing efforts to hold and take customers compress margins.

Overall distribution coverage, however, should again be solid, which should enable progress on debt refinancing. Refinancing this debt–the result of recent acquisitions–is the company’s greatest challenge and it’s why the stock yields nearly 9 percent. It’s also a very real opportunity to slash costs, and management does have time to make it happen

Roger Conrad is the editor of Canadian Edge and is a regular contributor on www.investingdaily.com.

For complete, up-to-date coverage on Enercare Inc as well as Roger’s recommendations on over 150 Canadian high-yielding trusts and corporations, sign up for a risk-free trial subscription to Canadian Edge.