Last week COS.UN (Canadian Oil Sands Trust) announced as it was converting to a corporation, and it would be cutting its dividend some 60%. This essentially reduced its effective dividend yield to 3%. As a result, the share price of COS has plunged some 15% as investors dumped their shares. Is COS the new future and landscape of Income Trusts, which convert to corporations?
For investors who love high dividend yields, Income Trusts have been a gigantic cash-cow. Generating staggering yields of 7% to 13%, with a hefty return on share price, these Income Trusts have paid dividend investors more than handsomely. But are the good times over? Are Income Trusts another bubble waiting to pop?
Everyone is aware of the looming January 1st, 2011 deadline when Income Trusts must convert to corporations, excluding REITs which are exempt. But some Trusts haven’t converted, some have kept their unsustainable high yields, and yet others are going to experience what COS experienced last week – a plunge in share price when the dividend is cut. For investors who are still holding a portfolio of Income Trusts with those high dividend yields, it may be time to sell and take profits, and avoid surprises.
Some analysts believe the trust to corporation conversion has already been factored in the share price, but in reality that’s excluding a lower dividend yield. If it wasn’t for the high income yield that many of these trusts offer, then it is unlikely investors would have flocked to these companies in the first place. Under the corporate tax rules, these recently converted corporations won’t be able to pass the taxes they pay onto shareholders, as they did under Income Trusts. So they will really have no choice but to cut their dividend yield to keep their cash flow. That means investors will question the fundamentals of these companies, or more than likely sell and move to larger blue-chip stocks.
Some examples of the post Income Trust landscape:
BA.UN – Bell Aliant Communications
Bell Aliant has declared it will be converting to a corporation on January 1st. As per info on their website they will be cutting the dividend from its current $2.90 per share to $1.90 per share. That 34.5% decline will result in a dividend yield being lowered from 10.9% to 7.15%. That’s definitely a high dividend yield, but with its excellent balance sheet may keep its current investors loyal.
COS.UN – Canadian Oil Sands Trust
COS hasn’t exactly been a great stock to invest in, other than the 8.10% yield which it provides. Once COS stated it was cutting its dividend, shareholders obviously realized the 17.7% P/E ratio and other problems the company was experiencing wasn’t worth the $28.41 per share price tag, or a 3% dividend yield. This stock will likely continue to decline with its Price to Book ratio of 3.03. Obviously the only value in this company was the dividend yield, but time will tell.
DHF.UN – Davis & Henderson Income Fund
Another cash-cow is the Davis and Henderson Income Fund. This is the company that causes you grief when you order new cheques at the bank, since the company has a monopoly on the cheque printing business in Canada. DHF proposes to cut their dividend from $1.84 to $1.20 per share, a 34.7% decline, or drop in yield from 9.40% to 6.1%. The company does have an excellent balance sheet however, so as with BA.UN that may keep its current investors loyal.
SCU.UN – Second Cup Income Fund
Second Cup has also declared they will be converting to a corporation at the beginning of 2011, and that they will also be keeping the current dividend yield of 8 cents per share until year end. With a current dividend yield of 11.30%, which is unsustainable as a corporation, you can most certainly expect a dividend cut in 2011. The company does have an excellent balance sheet however, so it’s worth buying if and when the share price declines.
YLO – Yellow Media
When Yellow Media converted to a corporation on Nov. 1st, 2010, a statement was made that the dividend would be cut some 40% from $0.80 to $0.65 per share in January 2011. That essentially creates about a 6% to 5.5% dividend yield – which I’m sceptical is sustainable. Come January, we will see how YLO does on the lower dividend payout. While the company has a low PE Ratio and low debt to equity ratio, many analysts and investors question its ability to be a viable business in the post Yellow Pages era. That along with a lower yield come January may be enough to send investors running for the door.