"Post Traumatic" Buys

10/21/2005 12:00 am EST

Focus:

Richard Band

Editor, Profitable Investing

"My heart goes out to those whose lives have been wrenched by the disaster in the Gulf," notes Richard Band. "Yet it’s precisely in such traumatic situations—where fear and uncertainty temporarily get the upper hand— that the market reveals the occasional bargain."

"One interesting value that has emerged from the recent crisis is Enterprise Products Partners (EPD NYSE), a master limited partnership (MLP) which is already in our model portfolio. EDP operates a network of 32,500 miles of onshore and offshore pipelines for transporting oil and natural gas. It also gathers and processes natural gas from producers, some of whom work in the Gulf of Mexico. During the hurricane, flooding knocked three of EPD’s processing plants out of service.While the partnership says the plants don’t appear to have sustained significant damage, the delay in bringing them back on line has put a lid on EPD’s share price—for the moment.

" I advise you to take advantage of this lull to fill your shopping bag. EPD has raised its quarterly distribution 60% over the past five years—a superb record for a steady, utility-like business. The balance sheet is also markedly improving, with interest expense shrinking as a percentage of cash flow. Once the three processing plants are up and running again, I suspect the shares will bounce—and you’ll no longer be able to grab EPD at today’s juicy 6.5% yield (mostly tax-deferred). Buy under $28.

"Bear in mind that publicly traded partnerships like Enterprise aren’t appropriate for IRAs or other tax-sheltered pension plans. Uncle Sam treats MLP income inside a retirement account as ‘unrelated business taxable income’. If you earn more than $1,000 a year of UBTA, you owe taxes—even though the account is supposedly tax sheltered. Madness, I agree. But I don’t make the rules. Therefore, I recommend that you only buy Enterprise Products within a taxable account.

"Among Canadian oil and gas royalty trust, Enerplus Resources Fund (ERF NYSE) is arguably the safest of them all. Like other Canadian trusts, ERF constantly acquires new properties, in addition to sinking new wells on properties it already owns. (US trusts generally are prevented from adding properties to their portfolio once the trust is set up.) Also in common with its Canadian brethren, Enerplus pays monthly distributions, which are remitted in US dollars. What distinguishes ERF most from the pack is that it operates on sounder business principles than some of the other outfits you hear touted in the frantic ‘oil is going to $100’ tipsheets. Enerplus keeps its debt low. In addition, it trades on the New York exchange.

"The trust also retains a fair amount of cash for expansion (during the first half of 2005, ERF paid out just 74% of its cash flow). Besides enhancing growth, a modest payout ratio makes the dividend more secure. Finally, ERF maintains a long-lived portfolio of properties. At current production rates, the trust’s proven and probable reserves of oil and gas will last for approximately 14 years—considerably longer than the industry median of about ten years. Greenhorn investors often gravitate to the shorter-lived trusts, which offer higher current dividend yields. But what good is a high yield if the oil and gas will vanish in a few years?

"After an August increase in the monthly distribution to 37 cents Canadian (31.3 cents US), ERF is yielding 8.7%. I suggest buying the stock at $41.70 or less, where the yield crosses 9%. I'd add that cash distributions from Enerplus are nearly all taxable. However, the taxable portion is treated as a dividend under US law. Thus, you’ll pay US income tax at a favorable rate of no more than 15%. Canada also withholds 15% of your dividend at the source, but you can take a credit against this withholding tax if the trust shares are held in a taxable account."

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