In May 2009 the average yield for Canadian Edge Portfolio Holdings 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.

Two in that category are EnerCare Inc (TSX: ECI, OTC: CSUWF), the successor to Consumers’ Waterheater Income Fund, and Perpetual Energy Inc (TSX: PMT, OTC: PMGYF). 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.

Perpetual, formerly known as Paramount Energy Trust, is a small energy producer focused almost entirely on natural gas. The company has recently embarked on a new strategy of developing what it calls “game-changers,” i.e. energy storage and reserves of natural gas liquids, light oil and bitumen/heavy oil.

Most of these plays have been in inventory for years and are currently far more profitable than developing natural gas. The company exited the first quarter with a 17 percent boost in output from its fourth-quarter 2010 exit rate. And liquids production was 6.4 percent of that, up from zero in past years.

Spiking fuel and energy costs have emerged as a major concern for many companies, including one of April’s High Yield of the Month selections, Colabor Group Inc (TSX: GCL, OTC: COLFF). I re-review Colabor in this month’s Portfolio Update.

Neither EnerCare nor Perpetual has much to worry about on that score. In fact both stand to profit from higher energy prices going forward, Perpetual as a producer, EnerCare from consumers’ growing focus on efficient usage.

We’ll know more about the first quarter when the pair reports results on May 10. Indications are that numbers will confirm the trend. EnerCare reported last month that it had achieved record expansion of submetering connections, with over 9,000 individual suites signed on.

It 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.

Perpetual, meanwhile, has announced plans to buy back up to 5 percent of its common shares over the next year–the result of what management believes is severe undervaluation. That will no doubt prove an understatement if the company is successful with even a portion of its strategic game-changer efforts.

The company’s wholly owned Warwick Gas Storage unit completed its first test cycle, with performance, in management’s words, “exceeding preliminary expectations.” The facility commenced its second commercial storage cycle, and the company plans to drill two additional wells to “further enhance the working gas capacity.”

In the natural gas liquids project, the company reported successful first-quarter completion of two wells drilled in the fourth quarter with positive results. The wells are linked to the company’s now-expanded compressor station in the Edson area of west central Alberta, for total current production of 18.2 thousand cubic feet of gas equivalent per day, along with 8,156 barrels per day of condensate and natural gas liquids. Perpetual has also identified an additional 44 locations for wells “similar in caliber” to the seven currently in operation, output of which it can also run through the Edson facility.

The company has drilled four horizontal wells at Carrot Creek in the Cardium light oil play. Production now stands at 580 barrels of oil equivalent per day, with potential for much more.

Finally, Perpetual owns 30,720 hectares of oil sands leases in the Liege area and 41,400 hectares in the greater Panny area of Alberta.

Oil sands development is still very much in the exploratory stages and would almost certainly require more capital to develop than Perpetual is able to raise at this point.

But it does increase the value of the company to investors–as well as would-be suitors–particularly with the stock selling at a steep discount to any reasonable valuation of its varied reserves in the ground.

The company also still owns reserves it’s being paid by government entities not to develop, as such activity would potentially impede oil sands development. That provides a nice cash cushion not shared by rivals.

What could go wrong at EnerCare and Perpetual in 2011? The past few years have already given us a pretty fair indication of where risk lies.

Both companies did survive the 2008-09 credit crunch and market crash despite severe business challenges. And both actually were able to convert to corporations and absorb new taxes without cutting distributions to compensate.

As I pointed out when I bought EnerCare back in November 2010 (it was still Consumers’ Waterheater at the time), however, the company was forced to cut its payout nearly in half in autumn 2009. That was the result of Ontario regulators ordering it to suspend submetering operations while they deliberated new industry rules, even as EnerCare continued to absorb the cost of purchasing those operations.

With Ontario regulation now settled, that problem is unlikely to be repeated. In fact, submetering operations are now growing rapidly. The company still faces growing competition in its core waterheater rental business.

And there are two large debt maturities coming up–CAD275 million in 2013 and CAD270 million in 2014–that combined are more than 1.4 times EnerCare’s market capitalization.

As long as business remains brisk and interest rates reasonably under control, it should be no problem refinancing at rates comparable to the 5.25 percent (2013) and 6.75 percent (2014) attached to the debt. But a spike in rates or downswing in the business would severely crimp EnerCare’s financial flexibility, and the CAD0.054 monthly dividend would almost surely be the first casualty.

Perpetual’s principal risk is always crystal clear: another steep plunge in natural gas prices. Despite its initiatives in natural gas liquids, light oil, energy storage and oil sands, the company remains dependent on producing natural gas for more than 95 percent of revenue, and will be for the foreseeable future.

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.

Of all my oil and gas producer picks in the Aggressive Holdings, Perpetual is perhaps the least well positioned on that score. Although it’s been extremely successful preserving profits and financial strength by hedging output, at the end of the day the weak price environment has taken a severe toll, most recently with a cut in the monthly distribution to CAD0.03 a share effective with the December 2010 payment.

One of the greatest features of Perpetual throughout its troubles is its extraordinary transparency. Management regularly keeps us apprised of what its cash flow, production levels, payout ratio and debt coverage will be for the year ahead depending on what the price of natural gas turns out to be.

According to most recent guidance, should the average monthly price of gas for 2011 at the AECO Hub by CAD3, Perpetual would pay out roughly 95 percent of distributable cash flow. It would also carry a very high net debt to funds flow ratio of 9.4-to-1, the result of lower cash flow as well as an inability to cut debt much further.

Management could sustain that but only for a very limited time. Things do brighten considerably at an average price of CAD4, which would produce a payout ratio of just 53 percent and a net debt to funds flow ratio of just 4.8-to-1. Finally, a recovery to CAD5 would bring the payout ratio down to 38 percent and allow for a reduction in net debt to CAD60 million by the end of the year, compared to CAD145 million under the CAD3 gas assumption.

Perpetual would certainly survive a drop to CAD3 gas, and that would be a steep drop from the current price of the fuel at AECO, which is around CAD4 now. But the big picture is clear: Returns on Perpetual depend on natural gas prices; “higher” is good, “lower” is bad.

Generally negative market perceptions about natural gas are well reflected in Bay Street views on Perpetual stock. Of the 11 analysts covering it, only one has a buy rating, with five holds and five sells. EnerCare fares slightly better, with one buy and two holds of the three analysts tracking it.

Probably the most bullish factor in Perpetual’s favor is those low expectations, which would be soundly beaten on virtually any good news. Skepticism surrounding EnerCare, meanwhile, is best expressed in its 9 percent-plus yield, which is higher than the vast majority of companies in How They Rate coverage.

Low expectations don’t take much to beat them and send stocks higher. Conversely, only a real business disaster is going to send these stocks meaningfully lower.

No one should make the mistake of assuming these stocks are absolutely safe, and the most conservative investors should probably shop elsewhere. That’s why they’re Aggressive Holdings.

On the other hand, both are certainly suitable for inclusion in a diversified portfolio, particularly one containing mostly stocks drawing higher scores under the CE Safety Rating System. If they can catch even a small break, both stocks 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.

Buy EnerCare up to USD8, Perpetual Energy up to USD5.

For more information on EnerCare and Perpetual, see How They Rate. Click on the trusts’ names to go directly to their websites. EnerCare is tracked under Gas/Propane, a sector of mostly fee-based businesses with some commodity price exposure, while Perpetual is covered under Oil & Gas. Click on their US symbols to see all previous writeups in Canadian Edge and CE Weekly. Click on the Toronto Stock Exchange (TSX) symbol to go to their Google Finance pages for a wealth of information, ranging from news releases to price charts.

Both companies are mid-cap stocks. Perpetual has a market capitalization of about CAD598 million, while EnerCare comes in at CAD384 million. Both stocks trade with good volume on their home exchange, the TSX. Trading is less brisk under the US over-the-counter (OTC) symbols but still more than adequate for any broker to buy and sell.

Note that EnerCare still trades under the same five-letter symbol it did when its name was Consumers’ Waterheater, CSUWF. That could change at some future date.

Distributions paid by both companies are 100 percent qualified for US tax purposes. Perpetual completed its conversion from an income trust to a corporation on Jul. 2, 2010. Dividends paid into IRAs from the Aug. 16, 2010, payment on aren’t subject to 15 percent Canadian withholding tax. EnerCare converted on Jan. 4, 2011. Dividend payments into IRAs from the Feb. 28 disbursement on aren’t subject to 15 percent Canadian withholding tax.

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 into taxable accounts. The tax can be recovered as a credit 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 generally be carried forward to future years.