This Will Only Hurt a Bit

10/27/2009 11:25 am EST


Roger Conrad

Chief Analyst/Managing Partner, Capitalist Times

This strong trust's pending distribution cut represents a buying opportunity, writes Roger Conrad in Canadian Edge.

Dividend cuts are always best avoided. But as experienced income investors have learned, they can also be compelling buying opportunities, provided they mark a true bottom for the underlying business.

Cutting saves cash flow in the near term, but it also triggers selling that drives down share prices and pushes up the cost of capital. Credibility and value can only be restored by proving a turnaround is in progress, which can take months or even years.

Fortunately, unit holders of Macquarie Power & Infrastructure Income Fund (TSX: MPT-U, OTC: MCQPF) won’t have to wait nearly that long. That’s because [its] recent dividend cut had little or nothing to do with underlying business health and everything to do with 2011, when [the company will] convert from trust to corporation and begin paying taxes.

Macquarie's plan is to maintain the current dividend rate of 8.75 cents Canadian per month through the end of 2009, fulfilling a pledge management made repeatedly this year. Then, beginning Jan. 1, 2010, the distribution will be cut to 5.5 cents per month.

[Macquarie plans] to use the roughly C$20 million in cash saved from the dividend cut for a combination of debt reduction, acquisitions and upgrades to the Cardinal power plant. [The] cash savings in 2010 alone are enough to pay off roughly half the convertible debt coming due in 2010, dramatically strengthening the balance sheet while avoiding dilution. Alternatively, coupled with C$85 million in available liquidity, they can speed acquisitions of cash-generating assets. Potential targets include renewable power plants, electricity transmission and distribution assets, transportation/road networks, long-term care facilities to complement the Leisureworld investment, and other essential infrastructure, ranging from hospitals to water distribution.

The objective is to increase the size of the trust’s base of essential-service infrastructure that faces little or no competition and thereby generates exceptionally steady cash flows. That’s the strength of all of Macquarie’s existing assets, demonstrated clearly by its ability to generate steady cash flows throughout this recession and credit crunch.

Management’s targeted payout ratio for the next five years is 70% to 75% of distributable cash flow generated by the trust’s assets. The reduced dividend rate, which at the trust’s current unit price is more than 11%, falls well within that range.

These strategic moves mark a commitment to asset growth that will drive Macquarie’s future returns. The shares are up roughly 46% in US dollar terms thus far in 2009. But after the one-day drop that followed the distribution cut, they’re at barely half the all-time high reached in mid-2007 and trade for just 97% of book value.

Throw in the fact that 2011 taxation is no longer an issue for Macquarie units and you’ve got a tremendous amount of up side for what’s basically a very conservative, high-yielding play on essential services.
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