Here’s the thing about Cineplex Galaxy Income Fund (TSX: CGX-U, OTC: CPXGF): Canada’s dominant movie-theater operator has never cut its distribution. And it’s set to maintain its perfect record through its conversion into a corporation later this year.

In the wake of North America’s March 2009 bottom Cineplex has underperformed, by 8 percent against the broad S&P/Toronto Stock Exchange Index, more than 25 percent versus the S&P/TSX Income Trust Index. But Cineplex has generated a return of nearly 300 percent in US dollar terms for those who were fortunate enough to pick up units around the time of its November 2003 initial public offering.

And since mid-December 2007, the starting point for the recession in the United States, it’s up nearly 20 percent in price terms and sports a total return of more than 44 percent, beating the S&P/TSX and the income trust index by 50 and 20 percent, respectively, in US dollar terms, and spanking the S&P 500 by 60 percent.

Management has boosted the monthly distribution twice since the IPO, most recently in early 2008, from CAD0.10 to the current 10.5 cents per unit. The first increase occurred in mid-2007, from 9.58 cents Canadian per unit, the original monthly payout that took effect in January 2004, to CAD0.10. The timing of these increases is further indication that going to the movies–still a relatively cheap way to entertain the whole family–is a recession-resistant activity.

The major variable isn’t economic in nature. It’s the quality of the films coming out of Hollywood, and the creatives seem to have figured out a way to keep the pipeline full with engaging as well as innovative entertainment. The way business is now strongly suggests management will sustain the current payout rate through Jan. 1, 2011, and well beyond.

This is the way to get rich–you can leave off the famous–off Hollywood: slow and steady.

Cineplex runs 129 theaters with a total of 1,329 screens; Canada’s next-biggest exhibitor has about 400 screens concentrated in Atlantic Canada. Cineplex operates from Quebec to British Columbia and everywhere in between. It’s the fifth-largest exhibitor in North America.

Cineplex is leveraging its dominant position to establish new revenue streams, including from on-screen advertising–its Cineplex Media commands 94 percent of the theater advertising market. Innovation is a key to growing revenue, which is further reflected in efforts to update the way movies are watched and to offer new types of entertainment on the silver screen.

In 2008 Cineplex set out to install 175 3D systems to coincide with the film industry rollout of digital projection systems. Cineplex added 106 digital projectors and 100 3D systems in 2009; as of Dec. 31, 2009, Cineplex had 190 digital projectors and 149 3D systems in a total of 89 locations.

Cineplex can charge more for 3D and digital tickets, though significant up-front costs to implement the technologies across the entire chain mean margins will initially be somewhat constrained. But this is the future: 3D and digital accounted for 19.8 percent of box office revenue in the fourth quarter, up from 3.5 percent in the fourth quarter of 2008. And the average ticket price for the 12 weeks ended Dec. 31, 2009, was CAD8.40, up 4.1 percent, or CAD0.34, from CAD8.06 last year.

And there are new ideas popping up outside the technology patch: Plain old ingenuity led to other alternative profit opportunities such as high-definition broadcasts of special events not normally accessible in theaters. A program started in 2006 with the idea of running in 24 theaters is now up in nearly 100 theaters across Canada, displaying a variety of stage productions, concerts, comedy festivals and other sporting events. Cineplex showed all 17 days of 2010 Winter Olympics events at 364 locations across Canada.

Last weekend Canadians were able to flock to their local Cineplex screens to watch native son and Ultimate Fighting Championship welterweight champion Georges St-Pierre defend his mixed martial arts title against Dan Hardy of the UK at UFC 111. Cineplex will add another 70 3D projectors in the first half of 2010 at a cost of approximately CAD5 million. Management hopes to eventually show more major sporting events–imagine the Super Bowl–er, the Grey Cup–broadcast in 3D.

Of course “Avatar,” director James Cameron’s follow-up career move to his 1997 epic “Titanic” couldn’t have gone any better. Literally: In late January Cameron’s latest epic nudged his last one from the all-time global box-office top spot. Cineplex Galaxy enjoyed fourth-quarter records for box office, concession, other and total revenue as well as spikes in box office per customer (because 3D tickets cost more), concession per customer, other income per customer. Investors took comfort in the increase to distributable cash per unit.

Avatar generated 11.8 percent of Cineplex’ total box office in the fourth quarter; though it only played for 13 days during the quarter it was the exhibitor’s No. 1 revenue generator. But its blue glory carried well into the first quarter and seems to have worn off on other 3D releases. “How to Train Your Dragon,” another 3D film, last weekend deposed “Alice in Wonderland” after the Tim Burton-directed Johnny Depp-starrer led North American box office for three weeks.

But “Alice,” also in 3D, is still the only other film beside “Avatar” to lead overseas box office during the first three months of the year. It closed the quarter with a fourth straight weekly win in worldwide ticket sales; its worldwide gross so far is a healthy USD656.1 million.

Hopes for continuing box office success rest with the highly anticipated (and timely) “Wall Street: Money Never Sleeps,” Oliver Stone’s follow-up to the 1987 classic, “Iron Man 2,” “Shrek Forever After,” apparently the final film in the saga, and “Toy Story 3.”

The third quarter features “Twilight Saga: Eclipse,” while “Harry Potter and the Deadly Hallows,” the first part of the two-part film version of the final book in the series–also in 3D–will open Thanksgiving weekend and headline the fourth-quarter’s holiday movie season.

Revenue increased 13.5 percent to a company record CAD964.3 million in 2009. Strong movies led to all-time high box office totals–box office revenue was up 16.7 percent to CAD581.1 million as Cineplex welcomed a record 70 million movie-goers in 2009, up 10.2 percent from 2008. And movie-goers spent more at the snack bar: Concession revenue grew 14.5 percent to CAD288.3 million on rising attendance and a 3.9 percent increase in revenue per customer.

The balance sheet remains strong; management reported a leverage ratio of 1.64 times, well below the maximum of 3 times dictated by Cineplex’ lending covenants. Distributable cash of CAD2.14 per unit was up 15.4 percent over 2008; distributions were CAD1.26 per unit, for a payout ratio of 59 percent. Cineplex has CAD575 million to CAD600 million in tax pools related to capital and other assets that will shield future income.

Management will articulate the two key points of conversion–dividend policy and capital structure–during the company’s annual meeting in May. Cineplex Galaxy is likely to convert with an effective date as close to January 1 as possible in order to preserve for as long as possible the tax advantage the trust structure conveys, with a plan of arrangement to be circulated in the third or fourth quarter.

Cineplex Galaxy is the essence of a strong income-generator: It occupies a dominant position in a business with reasonably easy to predict cash flows. At these levels, around USD20 a unit, even with a management team more focused on preserving long-term sustainability, Cineplex Galaxy still yields more than 6 percent.

Significant tax pools will shelter distribution income from taxation. This, as well as the fact that a conservative management has historically held the payout ratio in the 50 percent neighborhood, makes it highly likely Cineplex Galaxy will join the ranks of the no-cut converters.

Hollywood has a formula that seems to be working: sequels, sorcery, superheroes, and a James Cameron blockbuster every decade or so. Cineplex Galaxy has a formula, too–for slow, steady, recession-resistant income and growth.

Action!

The best way to find out more about Cineplex Galaxy Income Fund and other high-yielding Canadian companies is to ask Roger Conrad about them next month in sunny San Diego.

Join Roger in California April 23 and 24 for the 2010 Wealth Society Member Summit. You’ll have a chance to sit down with Roger one-on-one to talk about where to find the best ideas to generate total returns as Canadian income trusts convert to high-yielding corporations and how to position your portfolio for the year ahead.

Join Roger and his colleagues GS Early, Elliott Gue, Yiannis Mostrous, and Benjamin Shepherd at the historic Hotel del Coronado–one of the top 10 resorts in the world according to USA Today, one of the top 20 hotel/spas in the world according to Travel + Leisure, and the No. 2 place in the world to get married, according to the Travel Channel.

And on April 23-24, Coronado Island will also be the best place in the world for relaxation and profit. We’re expecting 72 degrees, sun and fun. You may find all details at www.InvestingSummit.com.

Call 1-800-832-2330 (between 9:00 a.m. and 5:00 p.m. EST Monday through Friday) or go online now to reserve your seat at the table. Space is limited.

The Roundup

The quarter is dead, long live the quarter: The last Canadian Edge Portfolio holding has reported fourth-quarter and full-year 2009 numbers, and now it’s time to start looking ahead to first-quarter earnings season.

Conservative Holding Atlantic Power Corp (TSX: ATP, OTC: ATLIF) reported fourth-quarter and full-year 2009 numbers on the high side of management’s guidance range for distributions from its projects. The payout ratio for 2009 was 87 percent. On a conference call to discuss results CEO Barry Welch reiterated Atlantic’s guidance that it would sustain its current payout rate “into 2015 without any positive contribution from potential acquisitions or organic growth opportunities.”

The fourth-quarter payout ratio ticked up to 87 percent, consistent with a management forecast that has the metric in triple digits in 2010 and 2011 before higher cash flow from Selkirk kicks in and pushes the ratio down in 2012. This is a function of the complex accounting for Atlantic’s methods of acquiring and capitalizing its power generation, transmission and distribution assets.

A decline in adjusted earnings before interest, taxation, depreciation and amortization (EBITDA) is attributable to one-time factors and the results of acquisitions and dispositions of assets–all of which were anticipated in management’s forecast for 2009 and have been accounted for in its projection for the sustainability of the current payout until 2015.

Adjusted EBITDA from continuing operations at Atlantic’s power projects was USD28.2 million for the fourth quarter, USD128 million for the year. A new 10-year tolling agreement with a lower contract rate took effect Jan. 1, 2009, at Pasco, and natural gas costs were higher at Lake. Selkirk won’t pay out to shareholders until its non-recourse debt agreement is satisfied, while capacity was down at Chambers for reasons in (planned major maintenance) and beyond (economic factors) management control.

Cash flow available for distribution declined by USD29.2 million in 2009, though decreases at the project level were largely anticipated, as noted above. Atlantic has a USD100 million credit facility, USD50 million of which is available to add projects via acquisition. In addition, management has USD20 million to USD30 million in cash to use to grow the business–some of which it’s using to fund an investment the development of two biomass-fuel power plants. The power-purchase agreement (PPA) for the first of two plants to be built by Rollcast Energy passes on fuel costs to the off-taker.  

Basically, the assets in place and the long-term contracts that define the cash flow they generate will support Atlantic’s dividend for the next several years. For 2010 management forecast USD70 million to USD77 million in project distributions–USD23 million to USD30 million below 2009 levels–and a payout ratio of 100 percent.

Barry Welch noted during the Tuesday morning conference call that the market for acquisitions is recovering, and so are credit markets. With its newly simplified capital structure and de-levered balance sheet, Atlantic is poised to bounce once it hits the New York Stock Exchange sometime in the second quarter. Its liquidity position already improved March 22, when it was added to the S&P/Toronto Stock Exchange Composite Index.

Significant costs during the quarter included USD6 million for the termination of the Arclight management agreement, USD4.5 million associated with the corporate conversion and USD3.7 million related to retiring the convertible debentures that formerly comprised part of the old IPS.

Over the next several years Atlantic must renegotiate terms for several key projects. But this is a focused management team that knows what it’s doing–how to navigate the ins and outs of federal stimulus funds, state-level power regulation, company-specific pressure points to put its power assets in the best position to generate long-term, stable cash flow. The experience gained by transitioning Pasco from a power-purchase agreement to a less lucrative tolling agreement is useful for future dealings in Florida at the same time it results in the elimination of commodity-price exposure.

Management will continue to add projects in a way that will make it a reliable dividend-payer for years to come; growth won’t be done “at the sacrifice of stability for the dividend,” in the words of Barry Welch. Dividend increases will be based on acquisitions, but then only if it makes sense in context of all other projects.