Editor’s Note: In Brief is the executive summary of the November issue of Canadian Edge. Please use it as a guide to points of interest.

Last month, eight more income trusts announced what their dividends will be after they convert to corporations. Half won’t cut, including Aggressive Holding ARC Energy Trust (TSX: AET-U, OTC: AETUF). The other four will still pay competitive yields, with future dividend growth a priority.

To be sure, 52 trusts under How They Rate coverage have yet to go through the process of converting, including these eight. But only seven haven’t stated exactly what they’ll pay in 2011, when new taxes kick in. As a result, only those seven have any real 2011 risk left.

Of those, the three CE Portfolio members–Canfor Pulp Income Fund (TSX: CFX-U, OTC: CFPUF), IBI Income Fund (TSX: IBG-U, OTC: IBIBF) and Parkland Income Fund (TSX: PKI-U, OTC: PKIUF)–have given us some guidance already. IBI and Parkland are likely to confirm future rates when they announce earnings on Nov. 11 and 12, respectively. Canfor’s rate will depend on the health of the global softwood pulp market this January.

Ironically, investor anxiety remains high that Jan. 1, 2011, still holds some hidden peril for income trusts. That’s true on both sides of the border, as my conversations with Canadian investors at the Toronto MoneyShow in late October confirmed. And the worry even extends to stocks of some companies that have already converted to corporations.

The S&P/Toronto Stock Exchange Income Trust Index’ 22 percent total return thus far in 2010 is nearly twice the return on the average Canadian stock. Nonetheless, it’s a fair bet that many investors won’t consider buying anything with the words “Trust” or “Income Fund” in its name until Jan. 1 is well in the rear-view mirror. That’s a good reason to expect further outperformance from current and former trusts over the next several months, as perception finally adjusts to reality.

After that, our returns will depend on how companies’ underlying businesses perform. I see opportunity in two groups of companies. One is in financially strong businesses that are positioned for growth in earnings and dividends. Many of these companies yielded well in double-digits a year ago. Today, the dividend numbers are typically high single digits, mostly because their share prices have surged.

What makes them attractive is the ability to grow those payouts consistently, pushing their share prices higher as they go. We may not see the kind of explosive gains of the past two years any time soon. But these companies will reliably build wealth and grow your income stream as well as any investment on the planet. And dividends are paid in Canadian dollars, providing protection against further weakness in the US dollar and inflation.

The second opportunity is in individual companies that are a bit more leveraged to the economic cycle, and are therefore still quite cheap. Some pay double-digit yields. Others trade at steep discounts to the underlying value of their assets.

The bar of expectations for these companies is quite low. In many cases, we should be able to score substantial capital gains if they just hold their current dividends. The catch is they’re currently cheap because they are more at risk to business setbacks.

Group one will continue to form the bedrock of the Canadian Edge Portfolio. As for Group two, last month I added Canfor Pulp Income Fund–then yielding more than 20 percent–to the Aggressive Holdings. This month, I’m adding Consumers’ Waterheater Income Fund (TSX: CWI-U, OTC: CSUWF), which is spotlighted in High Yield of the Month. It yields around 11 percent. I also continue to hold two double-digit yielders that have already converted to corporations Perpetual Energy (TSX: PMT, OTC: PMGYF) and Yellow Media (TSX: YLO, OTC: YLWPF), the new corporate iteration of Yellow Pages Income Fund.

Third-quarter earnings season is an ideal time to get a read on how companies are doing. In this issue, I recap the half of the Canadian Edge How They Rate universe that has reported numbers. I’ll have the rest in the December issue and in Flash Alerts between now and then for Portfolio companies.

My rules are simple. If a company continues to perform well as a business, I keep it in the Portfolio. If it grows sufficiently, I’ll raise its “buy-up-to” target. On the other hand, if its share price outruns its prospects, I’ll downgrade it to hold. And if its business appears to falter, I’m out. That’s how we’re going to get the best of what Canada has to offer at a time that’s promising but highly uncertain as well.

Portfolio Action

Trust conversions and third quarter earnings are the focus of this month’s Portfolio Update. ARC Energy Trust (TSX: AET-U, OTC: AETUF) announced both blockbuster earnings and that it will convert to a corporation on Jan. 1, 2011, without reducing distributions. That leaves only Canfor Pulp Income Fund (TSX: CFX-U, OTC: CFPUF), IBI Income Fund (TSX: IBG-U, OTC: IBIBF) and Parkland Income Fund (TSX: PKI-U, OTC: PKIUF) as Portfolio trusts yet to announce a dividend policy for 2011.

I expect IBI and Parkland to give us a better indication of their moves when they announce third quarter earnings, scheduled for Nov. 11 and 12, respectively. Canfor declined to set a definite level when it announced third-quarter earnings. Instead, management indicated that a cut was likely but the amount would depend on market factors such as global softwood pulp pricing. The company may not set a level for the January dividend until the declaration date, which will be on or about Dec. 20.

In addition to ARC, I analyze the following companies’ third-quarter earnings in Portfolio Update:

• AltaGas Ltd (TSX: ALA, OTC: ATGFF)
• Bell Aliant Regional Communications Income Fund (TSX: BA-U, OTC: BLIAF)
• Canfor Pulp Income Fund (TSX: CFX-U, OTC: CFPUF)
• Davis+ Henderson Income Fund (TSX: DHF-U, OTC: DHIFF)
• Daylight Energy (TSX: DAY, OTC: DAYYF)
• Keyera Facilities Income Fund (TSX: KEY-U, OTC: KEYUF)
• Macquarie Power & Infrastructure Income Fund (TSX: MPT-U, OTC: MCQPF)
• Newalta Corp (TSX: NAL, OTC: NWLTF)
• Pembina Pipeline Corp (TSX: PPL, OTC: PBNPF)
• Phoenix Technology Income Fund (TSX: PHX-U, OTC: PHXHF)
• TransForce (TSX: TFI, OTC: TFIFF).

Also reviewed is the former Yellow Pages Income Fund, now converted to a corporation and renamed Yellow Media (TSX: YLO, OTC: YLWPF). The company will maintain its current distribution rate of 6.67 cents Canadian per month until January, when it will be reduced to 5.42 cents. Its earnings are also reviewed in Portfolio Update.

I’ll highlight the rest of the Portfolio companies in Flash Alerts in coming weeks as they release numbers, with a full wrapup in the December issue. Note that Colabor Group’s (TSX: GCL, OTC: COLFF) results were reviewed in the October Portfolio Update. RioCan REIT’s numbers (TSX: REI-U, OTC: RIOCF) are highlighted in High Yield of the Month.

The other High Yield of the Month is a former Portfolio recommendation that up until this month I’ve rated a sell: Consumers’ Waterheater Income Fund (TSX: CWI-U, OTC: CSUWF). I was pleasantly surprised by management’s decision not to cut its monthly distribution when it converts to a corporation on Jan. 1. More important, the province of Ontario has apparently rewarded its rapid expansion in sub-metering by passing the Energy Consumer Protection Act, opening what the company calls a “clear path” to growth.

I swapped Consumers from the Conservative Holdings in late 2009 for Davis + Henderson Income Fund (TSX: DHF-U, OTC: DHIFF) because of several concerns. First, the sub-metering business had become a severe drag on profit and the regulatory roadblock to growth in Ontario showed no sign of lifting. Second, the company was running into tough competition for its core waterheater business. Third, it had taken on substantial debt that needed to be refinanced, and the distributable cash flow was barely covering the reduced dividend. And finally, there was no clear plan for dealing with 2011 taxation or guidance from management.

Since then, Consumers’ management has answered my concerns one by one. As a result, its units have actually outperformed Davis’ torrid 64 percent gain with an 80 percent-plus return. On the other hand, now that the risk has diminished, the company’s 11 percent plus yield is doubly attractive.

I’m adding Consumers’ Waterheater Income Fund to the Aggressive Holdings as a buy up to USD6.50.

High Yield of the Month

Neither November High Yield of the Month pick has any 2011 risk. Consumers’ Waterheater Income Fund (TSX: CWI-U, OTC: CSUWF) has declared a cut-less conversion to a corporation, while RioCan REIT (TSX: REI-U, OTC: RIOCF) will maintain its tax-advantaged status when the rules change.

Of the pair, Conservative Holding RioCan is the safer, featuring a recession-resistant property portfolio that management has been able to grow significantly in recent years, largely by acquiring quality properties from distressed owners. Its yield of around 6 percent is on the low end of the Canadian Edge Portfolio but is several percentage points higher than that of US real estate investment trusts of similar risk.

And unlike US REITs, RioCan has also consistently been able to grow its distribution. Buy RioCan REIT up to my new target of USD23 if you haven’t yet.

Consumers’ 11 percent-plus yield will appeal to more aggressive investors. The company still faces challenges to holding that high level of dividend, not the least of which is competition in its water heater rental business.

But it has put the majority of its woes behind it and still trades cheaply. Buy Consumers’ Waterheater Income Fund up to my target of USD6.50.

How They Rate

How They Rate has automatically updated US dollar unit/share prices, dividend payment rates in US dollars, yields, most recent dividend dates, dividend frequency and debt-to-capital ratios. Information on trust conversions is included in the Income Trust Tax Guide. We update this information regularly as new conversions are announced.

CE Safety Ratings are based on six operating and financial criteria. Companies meeting all six criteria are rated my highest rating of “6.” “0” is the lowest rating, indicating companies that meet no safety criteria. Safety criteria are described in the text below the How They Rate table and are as follows:

Safety criteria are described in the text below the How They Rate table and are as follows:

• One point if the payout ratio meets “very safe” criteria for the sector.
• One point if the payout ratio is not “at risk” based on the criteria for its sector.
• One point if the debt-to-assets ratio meets “very safe” criteria for the sector.
• One point if the company is already organized as a corporation, a qualifying REIT (no change to tax status in 2011) or has clarified its dividend policy for when it converts to a corporation.
• One point if the company’s primary business is recession resistant. Qualifying varies from company to company, though virtually all Electric Power and Energy Infrastructure companies qualify, while no Energy Services companies do.
• One point if the company’s profitability is not directly affected by changes in commodity prices.

I list trusts, funds and high-yielding corporations by the following sectors:

• Oil and Gas–All producer trusts are included here.
• Electric Power–Power generators.
• Gas/Propane–A mixture of distributors, from propane to packaged ice.
• Business Trusts–A range of businesses involved principally with consumers.
• REITs–All qualified real estate investment trusts.
• Trust Mutual Funds–Closed-end funds holding portfolios of individual trusts.
• Natural Resources–Trusts and corporations that produce resources and raw materials other than oil and gas.
• Energy Services–Trusts and corporations whose main business is providing drilling, environmental or other services to energy producers.
• Energy Infrastructure–Trusts and corporations that own primarily pipelines, processing facilities and other fee-generating assets.
• Information Technology–Trusts and corporations that provide communications, newspaper, directory and other information services.
• Financial Services–Canada’s banks, investment houses and other trusts and corporations feeding that business.
• Food and Hospitality–Trusts and corporations that franchise restaurants, own and operate hotels and manufacture and distribute food and beverages.
• Health Care–Trusts and corporations involved in the medical care and/or supply business.
• Transports–Trusts and corporations that ship freight and move passengers by bus, truck, rail or air.

Changing Places

I’m moving Liquor Stores Income Fund (TSX: LIQ-U, OTC: LQSIF) from its current listing in How They Rate under Business Trusts to the Food and Hospitality section. This more clearly reflects the company’s actual business going forward.

Liquor Stores is reviewed in the Dividend Watch List section of Tips on Trusts, owing to its decision to trim distributions by 30.8 percent when it converts to a corporation on Jan. 1, 2011.

Boralex Power Income Fund has now been completely acquired by parent Boralex Inc (TSX: BLX, OTC: BRLBF) following a Quebec court’s refusal to grant a stay of the transaction requested by dissident unitholder the O’Leary Funds Management. O’Leary is apparently still weighing its options to contest the deal further. But the income fund has now been delisted from the Toronto Stock Exchange and is now the sole property of Boralex Inc.

Those who didn’t follow my advice to sell should have CAD5 worth of Boralex Inc convertible bonds for every unit of Boralex Power Income Fund formerly held. My advice for Canadian investors is to go ahead and hold them. But US investors should be prepared for their broker to have problems tracking prices and possibly even collecting distributions.

The convertibles trade under the CUSIP number 09950MAC6. They’re convertible to 80 shares of Boralex Inc until June 30, 2017, when they’ll mature at a par value of CAD1,000 per bond. Until then, they’ll pay interest twice annually at rate of 6.75 percent, or CAD67.50 per year per CAD1,000 bond.

I’ll continue to track Boralex Inc in How They Rate; it’s currently a buy up to USD8. Boralex Power Income Fund will be delisted this month.

Advice Changes

Here are advice changes. See How They Rate for other changes in buy targets.

Algonquin Power & Utilities (TSX: AQN, OTC: AQUNF)–Buy @ 5 to Hold. Two weeks after the company won approval to raise rates in Arizona by USD8.145 million, or 70 percent of an initial rate increase of USD12.5 million, regulators delayed the decision due to concerns about the impact on high water users. The company has now been asked to submit a revised request based on an internal rate of return of just 7.5 percent, versus the 8.17 percent previously granted. A decision is scheduled for Nov. 22.

Arctic Glacier Income Fund (TSX: AG-U, OTC: AGUNF)–SELL to Hold. The surprise end of the US Dept of Justice investigation of the US packaged ice industry without penalties may not of itself be a reason to buy. But it is a major step toward exiting the company’s two-year-plus legal nightmare and eventually restoring the dividend.

Canadian Imperial Bank of Commerce (TSX: CM, NYSE: CM)–Buy @ 70 to Hold. Big Canadian banks are very solid but prices have surged without dividend growth of back them up.

Consumers’ Waterheater Income Fund (TSX: CWI-U, OTC: CSUWF)–SELL to Buy @ 6.50. See High Yield of the Month for my rationale, as well as why I’m adding the company to the Aggressive Holdings.

Enbridge Inc (TSX: ENB, NYSE: ENB)–Buy @ 48 to Hold. Third-quarter results were solid, but the company’s share price now exceeds my buy target by nearly 20 percent.

Enbridge Income Fund (TSX: ENF-U, OTC: EBGUF)–Buy @ 13 to Hold. Third-quarter results were solid, but the unit price now exceeds my buy target by more than 20 percent.

Medical Facilities Corp (TSX: DR-U, OTC: MFCSF)–Buy @ 10 to Hold. This income participating security combining debt and equity has performed well. But the takeover of the US House of Representatives by Republicans raises serious questions about US hospitals ability to recover costs.

Pace Oil & Gas (TSX: PCE, OTC: MDOEF)–Hold to Buy @ 8. The wave of selling following the Provident Energy Trust (TSX: PVE-U, NYSE: PVX) spinoff is now over. What’s left is a small oil and gas producer with solid reserves where insiders have been buying and Bay Street is resoundingly bullish, with all six analysts following the stock rating it a buy.

Teck Resources (TSX: TCK/B, NYSE: TCK)–Buy @ 35 to Hold. The stock has surged on takeover speculation that looks extremely unlikely following Canada’s rejection of the BHP Billiton (NYSE: BHP) bid for Potash Corp of Saskatchewan (TSX: POT, NYSE: POT). A dip to my buy target or lower would restore my buy recommendation.

Toronto-Dominion Bank (TSX: TD, NYSE: TD)–Buy @ 65 to Hold. Canadian banks like this one are very solid and growing, but their stocks have soared without commensurate dividend growth to back up their rise.

Whiterock REIT (TSX: WRK-U, OTC: WRKUF)–Hold to Buy @ 19. Added last month to How They Rate coverage, this owner of small to mid-sized office and industrial properties posted 20 percent growth in funds from operations per share while cutting debt-to-book value from 71.7 percent to just 60.1 percent. A quarter of rents come from government entities.

Ratings Changes

Here are CE Safety Rating changes. There will almost certainly be others as third-quarter earnings are announced as well as when the remaining unconverted trusts announce post-conversion dividend policies.

Acadian Timber Corp (TSX: ADN, OTC: ATBUF)–2 to 3. The company has apparently discovered a higher volume though lower margin business can be immensely profitable, and the third-quarter payout ratio of 23 percent reflects it.

Big Rock Brewery Income Trust (TSX: BR-U, OTC: BRBMF)–3 to 4. The company has declared its post-conversion dividend rate, eliminating 2011 risk despite the 33 percent reduction.

Consumers’ Waterheater Income Fund (TSX: CWI-U, OTC: CSUWF)–1 to 2. See High Yield of the Month for my rationale, as well as why I’m adding the company to the Aggressive Holdings.

Freehold Royalty Trust (TSX: FRU-U, OTC: FRHLF)–1 to 2. The producer has never been a Canadian Edge favorite, owing to the fact that the vast majority of its income is from royalties paid by others drilling on its lands. This income doesn’t constitute a qualified dividend for US tax purposes. But management has clarified its 2011 dividend policy and will not cut. That makes its yield of nearly 9 percent attractive to Canadians and a buy up to CAD20. For US investors, however, the higher tax rate severely lessens the appeal.

Jazz Air Income Fund (TSX: JAZ-U, OTC: JAARF)–3 to 4. The company will change its name to Chorus after converting to a corporation on Dec. 31, 2010. It also will not cut its current distribution rate after converting.

Liquor Stores Income Fund (TSX: LIQ-U, OTC: LQSIF)–4 to 5. The company has clarified its post-conversion dividend policy, eliminating 2011 risk and earning another safety rating point.

NAL Oil and Gas Trust (TSX: NAE-U, OTC: NOIGF)–2 to 3. NAL will trim its distribution by 22.2 percent when it converts to a corporation Jan. 1. The saved cash, however, will finance its effort to develop potentially prolific light oil reserves and the new dividend will still produce a competitive yield of about 7 percent.

Superior Plus Corp (TSX: SPB, OTC: SUUIF)–3 to 2. Another quarter of disappointing earnings further increase risk to the distribution, though management still assures investors it will maintain the current rate.

TransAlta Corp (TSX: TA, NYSE: TAC)–5 to 4. The spike in the third-quarter payout ratio to 165 percent is likely to prove temporary, even given the weakness in Alberta power prices. But the number does violate one of the safety criteria.

Zargon Energy Trust (TSX: ZAR-U, OTC: ZARFF)–3 to 4. The small, conservatively managed oil and gas producer has now clarified its dividend policy for 2011. The 22.2 percent reduction, effective with conversion on Jan. 1, still leaves a yield of nearly 9 percent, along with growth and takeover potential.

Feature Article

A surge in oil prices, the rise of resource nationalism in Canada, potential sector consolidation, the wind-up of corporate conversions and the emergence of a new breed of high-volume, lower-cost natural gas producers: Together, they’ve created a wealth of bargain buys in Canada’s oil and gas producer sector.

I highlight each trend as well as the companies best positioned to profit, many of which are already Canadian Edge Portfolio companies. Note the Oil and Gas Reserve Life table has a wealth of information on each of the oil and gas producer trusts I track.

Canadian Currents

Judging from my recent chat with Canadian Edge readers, taxes are front and center in investors’ minds. The biggest quest is how to avoid erroneous withholding of the 15 percent tax on dividends paid by trusts that have converted to corporations that are held in US IRAs.

Associate Editor David Dittman highlights our strategy for stopping this practice, including information you can provide your broker to ensure your account is properly handled.

Note that trusts which have not yet converted to corporations will continue to be withheld the 15 percent until they do. Trusts that elect not to convert will continue to be withheld the 15 percent as well, even if held in IRA accounts. Any Canadian company held outside an IRA–trust or not–will be withheld 15 percent, which can be recovered by filing a Form 1116 with your US taxes.

Tips on Trusts

This section features short bits on a wide range of topics. For more evergreen and tutorial items, see the Subscribers Guide.

Dividend Watch List—Eight more companies announced post-conversion dividend policies last month, four lower than rates paid as trusts: Big Rock Brewery Income Trust (TSX: BR-U, OTC: BRBMF), Liquor Stores Income Fund (TSX: LIQ-U, OTC: LQSIF), NAL Oil and Gas Trust (TSX: NAE-U, OTC: NOIGF) and Zargon Energy Trust (TSX: ZAR-U, OTC: ZARFF). Each has strong prospects and continues to rate a buy, with the exception of Big Rock, which will pay too small of a dividend to be worth our while.

As I’ve noted here before, the regular Watch List is divided in two. List 1 comprises companies with at risk dividends because of weak businesses. List 2 includes companies yet to announce post-conversion dividend policies. Again, these are at the discretion of management and are impossible to truly predict.

Portfolio companies yet to announce conversion policies are listed at the bottom of Portfolio Update. A table showing post-conversion dividend policies for all companies in How They Rate coverage is available in the Income Trust Tax Guide.

List 1: Business Concerns

• Boston Pizza Royalties Income (TSX: BPF-U, OTC: BPZZF)–SELL
• FP Newspapers Income Fund (TSX: FP-U, OTC: FPNUF)–Hold
• InterRent Properties REIT (TSX: IIP-U, OTC: IIPZF)–SELL
• Royal Host REIT (TSX: RYL-U, OTC: ROYHF)–Hold
• Superior Plus Corp (TSX: SPB, OTC: SUUIF)–Hold
• The Keg Royalties Income Fund (TSX: KEG-U, OTC: KRIUF)–Hold

List 2: Conversion Cut Candidates

• Bonavista Energy Trust (TSX: BNP-U, OTC: BNPUF)–Buy @ 22
• Brookfield Real Estate Services Trust (TSX: BRE-U, OTC: BREUF)–Buy @ 12
• Canfor Pulp Income Fund (TSX: CFX-U, OTC: CFPUF)–Buy @ 15
• Chartwell Seniors Housing REIT (TSX: CSH-U, OTC: CWSRF)–Hold
• IBI Income Fund (TSX: IBG-U, OTC: IBIBF)–Buy @ 15
• Parkland Income Fund (TSX: PKI-U, OTC: PKIUF)–Buy @ 13

Bay Street Beat—How the Canadian analyst community views high-yielding trusts and corporations, including our favorites.

Brookfield’s Tactical Retreat—Brookfield Renewable Power Fund (TSX: BRC-U, OTC: BRPUF), just a few weeks after committing to a plan, announced in late October that it would defer conversion until 2011. Here’s why.

For More

How They Rate offers several free links. Clicking on the Toronto Stock Exchange (TSX) symbol will now take you directly to the Google Finance page for every How They Rate holding.

We also offer a live, intraday quote feed in US dollar prices, distributions and percentage yields of trusts and high-yielding corporations. Note that our quote service sometimes includes special annual distributions along with the regular monthly payments.

Clicking on the US symbol of a company takes you to a chronological listing of every Canadian Edge and Maple Leaf Memo article in which that trust has been featured. You can also use that page to access articles on other trusts by typing in the relevant exchange and symbol in the “Search Query” box at the top of the page.

For questions and comments, drop us a line at canadianedge@kci-com.com. Check out the Toronto Stock Exchange Web site for a range of information on dividend paying equities. The Web site www.sedar.com is an online library of documents filed by trusts with the Canadian equivalent of our Securities and Exchange Commission. The Toronto Globe & Mail features the “Globe Investor” section with all the latest news. Dominion Bond Rating Service is the pre-eminent credit rater in Canada. The Bank of Canada has a handy currency converter for Canadian dollars and US dollars into 50 other currencies around the world, and it’s a great source of free information on the Canadian economy.

How They Rate can now be accessed several places on the Home Page. The Income Trust Tax Guide has backup to file distributions as “qualified dividends.” Eye on Trusts and How They Rate are accessible on the shaded box in the middle column.