In this issue:

Next Update Edition: December 5

Next regular issue: December 19

PROFITS IN SASKATCHEWAN


By Gordon Pape, Editor and Publisher

There was a time when Saskatchewan was considered to be a have-not province. Not any more. The place is booming. Farmers are reporting record crops. Oil and gas production is on the rise thanks to new developments in the prolific Bakken field that extends into Saskatchewan.

Australian giant BHP Billiton has announced it will invest US$2.6 billion over the next five years to finish the excavation and lining of the province’s Jansen Potash project and to continue the installation of essential surface infrastructure and utilities. The company describes Jansen as “the world’s best undeveloped potash resource, capable of supporting a mine with annual capacity of 10 million tonnes for more than 50 years.”

All this economic activity is a catalyst for population growth. For years, the province suffered from net emigration as people went elsewhere in search of jobs. Now that pattern has been reversed. Over the year to June 30, Statistics Canada reported that Saskatchewan’s growth rate was 1.9%, well above the national average of 1.2%. Only Alberta and Nunavut did better.

So how can income investors benefit from the Saskatchewan boom? One way is to buy shares in a recently listed company called Information Services Corporation, which trades on the TSX under the symbol ISV. Here’s what you need to know.

Type: Common stock
Trading symbol: ISV
Exchange: TSX
Current price: $17.45
Entry level: Current price
Annual payout: $0.80
Yield: 4.58%
Risk Rating: Moderate risk
Recommended by: Gordon Pape
Website: www.isc.ca

The business: ISC is a provider of registry and information services to the Province of Saskatchewan. This means the company looks after the development, management and administration of registries such land titles; personal property; corporate and survey registries; geographic information; and access to government services for people and business.

The company’s customer base is comprised of individuals and businesses such as real estate agents, home builders, municipalities, governments, financial institutions, insurance companies, car and equipment dealers, land developers, and resource, utility and pipeline businesses. There are also established intermediary customers such as legal, survey and engineering firms.

The security: The company went public on July 9 at an initial public offering price of $14 a share. Prior to that, it was a Crown-owned entity and therefore did not have to pay federal or provincial taxes.

The IPO was relatively low-key with only about 12 million shares issued. As a result, the stock is quite thinly traded with volumes of less than 10,000 shares on some days.

Why we like it: This is a solid company with a monopoly in a key sector of the Saskatchewan economy. It benefits from every land transaction that takes place, which means that as long as the province continues to expand economically and attract new residents, ISC will do well.

The board of directors has established a policy of paying a quarterly dividend of $0.20 a share ($0.80 annually), which means the stock yields an attractive 4.58% at the current price. In a recent research report, the RBC Capital Markets team of analyst Steve Arthur and associate Anthony Jin described the dividend as “solid and sustainable” based on a healthy balance sheet and a relatively low payout ratio of approximately 60% of estimated 2014 free cash flow.

Financial highlights: The company released third-quarter results (to Sept. 30) on Nov. 13 and they were strong across the board. Total revenues were $20.8 million, an increase of $1.8 million or 9.5% compared to $19 million in the same period last year, when ISC was a private firm. Revenues, which exclude the Vital Statistics Registry revenue for the prior year’s period, increased across all three registries in the third quarter as compared to the same quarter last year.

EBITDA (earnings before interest, taxes, depreciation and amortization) was $9.5 million compared to $8.1 million a year ago and was up 17.6% quarter over quarter. ISC’s EBITDA margin for the quarter was 45.6% compared to 41.4% in 2012.

Net income for the quarter was $62.5 million or $3.57 per share but before you get too excited about that, note that this includes a $54.2 million income tax recovery. Excluding that, ISC’s net income was $6 million ($0.34 per share). In the third quarter last year, net income was $5.7 million. However, for comparative purposes, it is important to note that ISC was not subject to tax in 2012. Excluding this quarter’s tax expense and recovery, ISC generated an increase in income over the third quarter of 2012 of 46.1%.

For the first nine months of the 2013 fiscal year, total revenues were $59.1 million. That was an increase of increase of $2.2 million, or 3.8%, compared to $56.9 million for the nine-month period ended Sept. 30, 2012.

Adjusted EBITDA rose to $25.6 million, a 10.4% increase, compared to the $23.2 million generated in the first nine months of 2012. The Adjusted EBITDA margin was 43.3% compared to 40.7% in 2012.

Excluding the one-time tax recovery, ISC’s net income for the nine months after the current period income tax expense was $15.7 million ($0.90 per share) compared to 2012 net income of $16.2 million. Again, note that ISC was not subject to tax in 2012. Excluding the income tax expense and recovery, ISC’s income rose $1.8 million or 11.2% over the same period in 2012.

ISC’s cash position at the end of September was $23.9 million compared to $21.1 million at the same time in 2012. ISC had no short-term borrowings and $9.9 million of long-term debt on its balance sheet. This reflects a refinancing of $9.9 million in short-term debt that was previously in place and due to the Government of Saskatchewan in 2012.

"The results we announced today reflect ISC’s ability to generate strong cash flows and earnings while delivering essential services to Saskatchewan that support the continued economic prosperity of this Province," said CEO Jeff Stusek. "We are focused on continuing to increase our value proposition to Saskatchewan residents and businesses by expanding our services and offerings. At the same time, we have the balance sheet strength to grow beyond our provincial borders and provide solid dividend returns to shareholders."

Risks: Although Mr. Stusek raised the possibility of expanding ISC’s services to other provinces, as matters stand right now, the company’s financial health is closely tied to the economic well-being of Saskatchewan. As long as the province continues to expand and attract new population, the company should do well. Any slowdown in the housing market would impact earnings, however the dividend appears to be well protected.

According to BMO Capital Markets’ most recent economic forecast for Saskatchewan, the provincial economy is expected to post real gross domestic product (GDP) growth of 2.4% this year and 2.8% in 2014. BMO also projects the level of non-residential construction to remain firm.

It should be noted that the stock is looking a little pricey right now, having risen 20% from the IPO in July. Conservative investors may wish to take only a small position at this time or watch for a pullback to the $17 to $17.25 range.

Distribution policy: As mentioned, the stock will pay quarterly dividends of $0.20 a share. It is expected that the next dividend will be paid in mid-January.

Tax implications: Payments are eligible for the dividend tax credit for Canadians who hold the shares outside a registered plan.

Who it’s for: This stock is suitable for conservative investors who are looking for steady cash flow that is well protected.

How to buy: As mentioned, the shares tend to be thinly traded. Therefore I advise placing a limit order (i.e. don’t pay more than a specific price) and be patient. Note that the shares do not trade in the U.S. over-the-counter market so all purchases have to be done on the TSX.

Summing up: ISC offers a combination of decent yield, a sound business, a strong balance sheet and modest growth potential.

Action now: Buy. – G.P.

Gordon Pape’s new book, RRSPs: The Ultimate Wealth Builder, can be pre-ordered now at 28% off the suggested retail price. Go to http://astore.amazon.ca/buildicaquizm-20

 

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GLOBAL INTEREST RATE PRESSURES

By Tom Slee, Contributing Editor

My recent trip to Europe was primarily for pleasure but also an opportunity to get some firsthand impressions of the European recovery. Unfortunately, the news is not good. Contrary to a lot of reports the Europeans are still in serious trouble.

Germany continues to do well but most of the other countries are struggling. Italy in particular has major problems with no solutions in sight. Most discouraging is the fact that the central bankers seem unable to stimulate business activity. I found it all a far cry from our relatively stable North American markets where most of the numbers are looking better and Fed Chairman Bernanke is toying with higher interest rates. As matter of fact, Mr. Bernanke’s mixed signals are doing more damage in Europe than in Canada and the U.S.

Perhaps my biggest surprise was the gloom. European economists and commentators seemed downbeat. Because we live in a global economy, I thought that the markets and general tone would resemble our own but that was not the case. There seemed to be a sense of lingering crisis made worse by the fact that many European publications are far more international in scope than our own. These pubs reflected increasing difficulties in the emerging nations due to fears that America may raise interest rates. Tighter money would dampen the progress being made in Sub Saharan countries and snuff out their spluttering recoveries.

Of course, my research was superficial – almost anecdotal – but the pessimism was unmistakable. What does this mean as far as Canadian investors are concerned? We have a tendency to base our investment decisions almost entirely on North American forecasts. For example, the discussion about quantitative easing always revolves around U.S. unemployment. But the U.S. Federal Reserve and the Bank of Canada are not operating in a vacuum. They have to factor in international considerations when setting policy. Whether we like it or not, the situation in Europe and elsewhere affects the outlook for Canadian interest rates.

Because of prolonged market distortions caused by the financial collapse, it’s easy to forget that inflation and higher interest rates are directly linked. Yields climb as the cost of living goes up. Yet there is very little inflation anywhere right now. In Europe, officials are worried about deflation (prices spiraling downward) rather than inflation. In August the Euro zone jobless rate touched 12%. More than 19.5 million people are unemployed.

Governments are desperately trying to stimulate their economies. With inflation at a miniscule 0.7%, the European Central Bank (ECB) cut its interest rate to a record low on November 7. There is great concern that increasing U.S. interest rates could filter into the system and undo these efforts.

There are other worries. The International Monetary Fund (IMF) is alarmed that emerging nations, which have benefitted from cheap money, are now being starved of capital as investors divert funds to the U.S. In Germany, huge cash positions have been assembled as institutions await higher rates as resulting from the Fed’s half-hearted decision to taper its bond-buying program.

I came away with the impression that the IMF and ECB are going to try and pressure Mr. Bernanke to factor international considerations into his decisions. Countries like Japan, with 0.7% inflation and 10-year benchmark interest rates in the 0.6% range, need easy money as a stimulus, not higher global interest rates. The Chairman and his successor will also have to weigh the impact of capital flows into the U.S. as investors take advantage of higher rates. These will bolster the American dollar, already strong as a result of the energy surge, and make U.S. exports less competitive.

Will Europe and Japan dictate Canadian interest rates in 2014? No, but they do form part of the overall picture. The North American recovery seems much more advanced than European countries except perhaps Germany. Stimulus is still the name of the game for most countries. We should assume that quantitative easing and cheap money are going to be around far longer than many pundits think.

Turning to the here and now, our own bond market yields have been gradually dropping as it becomes apparent that the Fed intends to remain an active player. Some analysts were expecting a reduction in the Fed’s buying program once the debt ceiling problem was resolved but that was not the case. Ten-year Government of Canada yields have dropped nearly 30 basis points from their September highs and are now close to 2.6%. The Bank of Canada has downgraded its 2013 GDP to the 2% to 2.5% range, which means that short-term rates are going to remain unchanged for the foreseeable future. In the U.S. 10-year Treasuries have been trading at 2.75%, only 15 basis points higher than levels in May when Mr. Bernanke started sending his mixed signals.

The result is investors seeking interest income are still being forced to extend term or resort to junk bonds to earn an acceptable return. For example, the Royal Bank 3.66% bonds due January 25, 2017, an issue that would normally be suitable for defensive investors, trade at $104.94 to yield 2.07%. After allowing for the current 1.1% inflation rate, the bonds provide almost no return even in tax- sheltered registered accounts. There are, however, some good values around if you shop carefully.

Tom Slee managed millions of dollars in pension money during his career and is an expert in fixed income securities.

 

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NOVEMBER’S TOP PICK

Here is our Top Pick for this month. Prices are as of close of trading on Monday, Nov. 24 unless otherwise indicated.

Premium Brands Holding Corporation 5.5% Convertible Unsecured Subordinated Debentures (TSX: PBH.DB.C)

Type: Convertible subordinated debentures
Symbol: PBH.DB.C
Exchange: TSX
Current price: $100
Conversion premium: 39%
Yield to maturity: 5.5%
Entry level: Current price
Risk rating: Moderate risk
Recommended by: Tom Slee

The business: Premium Brands Holding Corporation was formed in July 2009 as the successor to Premium Brands Income Fund. Based in Richmond, British Columbia, the company owns a broad range of specialty food manufacturing and food distribution businesses across the country. It sells both its own products and those of third parties to approximately 25,000 customers including convenience stores, hotels and small grocery chains. Revenues of almost $1 billion last year generated an operating profit of $72 million. Market capital now exceeds $400 million.

The security: The subordinated convertible debentures bear interest at 5.5% per annum and mature on June 30, 2019. They are convertible at any time into common shares of Premium Brands at a price of $29.25. In other words, you receive $34.188 common shares for every $1,000 debenture. The company can pay the holder cash instead of stock at conversion based on the market price of the shares. It can also redeem the debentures on and after June 30, 2016 at $100 if the common shares are trading at 125% of the conversion price.

Why we like it: Premium Brands is a defensive, well-managed company and these debentures offer a yield of 250 basis points more than comparable five-year corporate bonds. They also provide the chance of capital gains as the underlying stock moves higher.

Financial highlights: Premium Brands’ recent third-quarter earnings of $0.41 a share were slightly below consensus forecasts but up sharply from $0.30 the previous year. The company has announced plans to build a $21 million state-of-the-art sandwich facility in the U.S. with the capacity to support $150 million in sales. Earnings of $1.15 a share are expected in 2013 with a jump to about $1.50 next year.

Risks: An economic downturn could reduce corporate revenues because most of Premium Brands’ products are specialty and discretionary foods. However, the debentures are well protected. There is some concern that with the stock at $21 the $29.25 conversion price represents a substantial 39% premium. The debentures’ capital growth is likely to be steady and measured rather than dramatic.

Distribution policy: Semi-annual interest payments of $27.50 per $1,000 of debentures are made on June 30 and Dec. 31 of each year.

Tax implications: The interest income is fully taxed if the debentures are held in a non-registered account. Any profit or loss on maturity, sale or redemption, is treated as a capital gain or loss at the time.

Who it’s for: These securities are suitable for investors seeking secure well-above-average income plus some growth who are capable of assuming some risk. So there is no misunderstanding, Gordon has the Premium Brands common shares as a Buy for high-yield growth on our Recommended List. These convertible debentures are suitable for more defensive investors who would prefer a guaranteed income and some eventual growth.

How to buy: These are listed securities that you can buy through any broker.

Summing up: These good quality debentures straddle our turbulent bond and stock markets by providing steady income and a growth hedge against rising interest rates. – T.S.

 

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GAVIN GRAHAM’S UPDATES

Diageo plc (NYSE: DEO)

Type: Common stock
Symbol: DEO
Exchange: TSX
Current price: US$128.90
Originally recommended: Jun. 22/11 at US$81.25
Annual payout: $3.15
Yield: 2.4%
Risk Rating: Moderate risk
Recommended by: Gavin Graham
Website: www.diageo.com

Comments: Diageo has been up over 50% since we first recommended it in 2011. The company saw its revenues increase 6% to $18.3 billion for the year ending June 30. Its operating profit is up 9% to $5.4 billion and net profit up 28% to $4 billion. That gives it a price/earnings ratio of 20 times of 2012 to 2013’s earnings. The company also raised its dividend 9%, giving it a yield of 2.4%.

It now derives 42% of its revenues from emerging and frontier markets. Although it is not cheap, Diageo continues to deliver mid- to-high single digit revenue and operating income growth. That’s due to its growing exposure in emerging markets and upgrading by its customers in developed markets.

Action Now: Diageo remains a Buy. – G.G.

Johnson & Johnson (NYSE: JNJ)

Type: U.S. common stock
Symbol: JNJ
Exchange: NYSE
Current price: US$95.63
Originally recommended: Oct. 27/10 at US$63.81
Annual payout: $2.64
Yield: 2.7%
Risk Rating: Conservative risk
Recommended by: Gavin Graham
Website: www.jnj.com

Comments: J&J is a well-diversified business that benefits from the aging population in developed markets and its pipeline of new drugs. The company reported third quarter sales to Sept. 30 of $17.6 billion, up 3.1%, making it the 11th straight quarter of growth. Net earnings were $3.9 billion ($1.36 per share), an 8.8% increase from the same period in 2012.

This month, J&J announced two large legal settlements, one for incorrectly marketing Risperdal and other drugs, and the other for the failures of ASR hip joints manufactured by its DePuy subsidiary. Up over 50% since my first recommendation in 2010, J&J remains reasonably valued at 17.3 times 2013’s estimated earnings and a 2.7% yield.

Action Now: Buy. – G.G.

Sherritt (TSX: S, OTC: SHERF)

Type: Common stock
Symbols: S, SHERF
Exchanges: TSX, Pink Sheets
Current price: C$3.53, US$3.27
Originally recommended: Oct. 24/12 at C$4.87, US$4.90
Annual payout: $0.17
Yield: 4.8%
Risk Rating: Higher risk
Recommended by: Gavin Graham
Website: www.sherritt.com

Comments: Sherritt’s third-quarter results ending Sept. 30 saw revenue fall 16% to $286 million.

The company’s net cash flow is trending downward at $0.20 per share, compared to $0.30 a share in 2012. This reflected the lower prices it received for nickel produced from its Cuban operations and lower thermal coal production from its domestic mines due to the end of contract mining.

The major uncertainty for Sherritt remains its 40% ownership of the world’s biggest nickel mine at Ambatovy in Madagascar. Ambatovy came into production a year ago, but has not yet been declared in commercial production, despite production of 7,369 tonnes of nickel and 672 tonnes of cobalt and commercial revenues of over $250 million this year. Sherritt defines commercial production as throughput equivalent to 70% of the pressure acid leach circuit, which extracts the nickel from the ore over a 30-day period.

The company expects commercial production to start at Ambatovy by the end of this year. The $2.1 billion of debt which Sherritt incurred building the mine and refinery is non-recourse to the company and does not have to start being repaid from Ambatovy’s revenues until September 2015, a two-year extension of the original date.

Sherritt remains cash-flow generative, has reduced its cost of nickel produced in Cuba by 8% over the last year, and is still rated BB by S&P. Despite its 30% decline since being recommended a year ago, we believe things will change once Ambatovy becomes commercial. Also rising domestic coal prices, stabilization in nickel prices and a 4.8% dividend yield don’t hurt either.

Action Now: Buy. – G.G.

Liquor Stores (TSX: LIQ)

Type: Common stock
Symbol: LIQ
Exchange: TSX
Current price: $14.77
Originally recommended: Feb. 17/06 at $20.30
Annual payout: $1.08
Yield: 7.3%
Risk Rating: Moderate risk
Recommended by: Gavin Graham
Website: www.liquorstoresgp.ca

Comments: One would imagine that selling liquor and wine to thirsty Albertans and Alaskans (as well as in British Columbia and Kentucky) would be a relatively straightforward business, but the stock has not been a strong performer since being recommended in 2006. LIQ cut its payout when it transformed from an income trust in 2010, but still provides a hefty 7.5% yield. However, in the last year the shares have slid 25% since new CEO Stephen Bebbis arrived in May. Bebbis was the founder and CEO of Golf Town.

The company’s directors felt an experienced retailer was needed to address its lacklustre same store sales growth (SSSG) numbers. In the third quarter ending Sept. 30, although LIQ’s revenues grew 5.1% to $173 million from its 246 stores, SSSG was down 1% in both Canada and the U.S. Why the disappointing SSSG numbers?

A few things. First, there was an increase in B.C.’s sales tax from 12% to 15%. LIQ also opened two Wine and Beyond stores in Edmonton last year, which affected its own existing sales. Finally, some neighbouring counties in Kentucky now permit the sale of liquor, which also reduced Liquor Stores’ sales.

LIQ’s cash flow was also down from $13 million ($0.57 per share) to $11.8 million ($0.51) in the third quarter against dividends of $0.27. With adjusted operating earnings down 8% to $31.6 million for the first nine months of the year and operating margin down to 25.3%, the investment in new stores, systems and training are eroding profitability at this point.

Action Now: Sell. – G.G.

The Keg Royalties Income Fund (TSX: KEG-UN, OTC: KRIUF)

Type: Common stock
Symbol: KEG-UN, KRIUF
Exchange: TSX, Pink Sheets
Current price: C$16, US$14.92
Originally recommended: Jun. 21/06 at C$13.38, US$12.08
Annual payout: $0.96
Yield: 6%
Risk Rating: Higher risk
Recommended by: Gavin Graham
Website: www.kegincomefund.com

Comments: The Keg has been a strong performer over the last year. Earlier this month, Prem Watsa took time off from restructuring BlackBerry to buy a controlling 51% stake in The Keg Restaurants operating company through Fairfax Financial Holdings (TSX: FFH), which pays the 4% revenue royalty that provides the Income Fund’s revenues. CEO David Aisenstat retains the remaining 49%. Mr. Aisenstat said, “Fairfax will bring additional expertise and resources to The Keg and we are excited at the opportunities available.”

The terms were not disclosed but Mr. Aisenstat and his team remain in operational control. While revenues were down 2.7% to $116 million for the third quarter ending Sept. 30, this reflected the closure of three corporate restaurants at the beginning of the year and an additional restaurant in the third quarter. SSSG was down 1.8% in Canada and 0.8% in the U.S., reflecting the continued pressures on consumer incomes. We’ll have to see what sort of initiatives Fairfax brings to The Keg.

Action Now: Hold until consumer spending picks up. – G.G.

 

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NOVEMBER UPDATES

Here are the updates for this issue. All prices are as of the close of trading on Monday, Nov. 24 unless otherwise indicated.

Manitoba Telecom Services (TSX: MBT, OTC: MOBAF)

Type: Common stock
Symbols: MBT, MOBAF
Exchanges: TSX, Pink Sheets
Current price: C$28.99, US$27.43
Originally recommended: Jun. 20/12 at $33.20, US$32.52
Annual payout: $1.70
Yield: 5.9%
Risk Rating: Moderate risk
Recommended by: Tom Slee
Website: www.mtsallstream.com

Comments: Manitoba Tel has been badly damaged by Ottawa’s decision to block the sale of its Allstream business to an Egyptian investment group. It’s a serious setback that casts a shadow over the company’s future.

The telecom operates a healthy residential and small business consumer operation in Manitoba. In 2004, however, it made a bad bet by paying $1.7 billion for Allstream, a seemingly sophisticated information technology company. The plan was to build a national telecom but it never worked. Ever since 2006, management has been trying to unload Allstream and this year a sale to Accelero Capital for $520 million was negotiated. Then, after five months of review, the Industry Minister rejected the deal because of national security concerns.

MBT is now back to square one and still saddled with Allstream. Only now there are no prospective buyers. The company’s third quarter earnings ($0.62 a share) were adversely affected by the disruptive regulatory process. The 2013 free cash flow projection has been reduced by $60 million. And there’s another problem: the company’s pension solvency deficit now stands at $350 million. To address this shortfall, MTL issued 8,855,000 new common shares on November 19 at a price of $28.10 each for a total of approximately $250 million. The proceeds will be used to fund the pension deficit but these new shares are bound to dilute future earnings.

This is a strong company that could earn as much as $1.75 a share next year. The stock, however, is likely to mark time or even come under pressure when the anticipated underwriting is announced.

Action now: Sell. – T.S.

CI Signature High Income Fund

Type: Mutual fund
Code: CIG686
Current price: $14.54
Originally recommended: May 23/12 at $13.78
Annual payout: $0.84
Yield: 5.8%
Risk Rating: Moderate risk
Recommended by: Gordon Pape
Website: www.ci.com

Comments: This fund continues to post decent numbers despite the fact that almost 41% of the portfolio is invested in bonds, which have been under pressure in recent months. Another 7.6% is being held in cash, which generates a very low return, with the balance in equities. The stock component includes several REITs, which have also taken a price hit as a result of higher interest rates.

Despite all this, the fund shows a respectable year-to-date gain of 7.6% and a one-year return to Oct. 31 of 8.9%. The monthly payment is $0.07 per unit ($0.84 annually).

This is a very good balanced fund but investors who want less bond exposure may wish to look for one that has a heavier equity weighting.

Action now: Buy. – G.P.

Franklin Bissett Canadian High Income Fund

Type: Mutual fund
Code: TML205
Current price: $16.01
Originally recommended: July 27/11 at $15.58
Annual payout: $0.74
Yield: 4.6%
Risk Rating: Higher risk
Recommended by: Gordon Pape
Website: www.franklintempleton.ca

Comments: This is an all-equity fund that is fully invested. The management team of Leslie Lundquist and Lee Stelmach focuses on high-yield small- to mid-cap stocks, many of which are former income trusts. As a result, this is a higher risk portfolio but one which offers more return potential than either of the balanced funds we have looked at in this issue.

The fund is enjoying a strong year with a gain of 14.2% since Jan. 1. The two-year average annual compound rate of return is 13.9% (we recommended the fund in mid-2011).

The distributions vary – two months at $0.055 per unit, then one month at $0.075 per unit. Over a year, that works out to $0.74 for a yield of 4.6% based on the current price. However, the fund also makes a special capital gains distribution in December, which last year was $0.415, bringing the 12-month trailing total to $1.155.

Action now: I will continue to rate this fund as a Buy but a word of caution. Do not purchase any new units in a non-registered account until after this year’s capital gains distribution (assuming there will be one) has been paid out. Otherwise, you could be hit with an unwanted tax bill. – G.P.

Templeton Global Balanced Fund

Type: Mutual fund
Code: TML3240
Current price: $13.05
Originally recommended: June 27/07 at $10.80
Annual payout: $0.1885
Yield: 1.4%
Risk Rating: Moderate risk
Recommended by: Gordon Pape
Website: www.franklintempleton.ca

Comments: This was originally recommended as the Templeton Global Income Fund. It changed its name and its mandate last year and is now a global balanced fund with about two-thirds of the assets in stocks and the rest in bonds and cash.

It has been performing well in its new guise with a one-year gain to Oct. 31 of 19.9%. The problem is that unless you buy the T-series units you won’t get any regular cash flow. The A units pay only one capital gains distribution per year, in December, and it was only $0.1885 per unit in 2012.

The T units, code TML2036, do offer regular monthly distributions of $0.036 a unit so if you want to stick with this fund and receive steady cash flow, they would be the ones to choose. The current price is $8.20 a unit.

There is nothing wrong with this fund but it is not the one I originally recommended and the standard A units don’t offer the cash flow we look for in this newsletter, so I am removing it from the Recommended List.

Action now: Switch to T units or Sell. We will no longer track this fund. – G.P.

 

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That’s all for this issue. Look for your next Update Edition on Dec. 5. The next regular issue will be published on Dec. 19.

Best regards,
Gordon Pape, editor-in-chief

In this issue:

Next Update Edition: December 5

Next regular issue: December 19

PROFITS IN SASKATCHEWAN


By Gordon Pape, Editor and Publisher

There was a time when Saskatchewan was considered to be a have-not province. Not any more. The place is booming. Farmers are reporting record crops. Oil and gas production is on the rise thanks to new developments in the prolific Bakken field that extends into Saskatchewan.

Australian giant BHP Billiton has announced it will invest US$2.6 billion over the next five years to finish the excavation and lining of the province’s Jansen Potash project and to continue the installation of essential surface infrastructure and utilities. The company describes Jansen as “the world’s best undeveloped potash resource, capable of supporting a mine with annual capacity of 10 million tonnes for more than 50 years.”

All this economic activity is a catalyst for population growth. For years, the province suffered from net emigration as people went elsewhere in search of jobs. Now that pattern has been reversed. Over the year to June 30, Statistics Canada reported that Saskatchewan’s growth rate was 1.9%, well above the national average of 1.2%. Only Alberta and Nunavut did better.

So how can income investors benefit from the Saskatchewan boom? One way is to buy shares in a recently listed company called Information Services Corporation, which trades on the TSX under the symbol ISV. Here’s what you need to know.

Type: Common stock
Trading symbol: ISV
Exchange: TSX
Current price: $17.45
Entry level: Current price
Annual payout: $0.80
Yield: 4.58%
Risk Rating: Moderate risk
Recommended by: Gordon Pape
Website: www.isc.ca

The business: ISC is a provider of registry and information services to the Province of Saskatchewan. This means the company looks after the development, management and administration of registries such land titles; personal property; corporate and survey registries; geographic information; and access to government services for people and business.

The company’s customer base is comprised of individuals and businesses such as real estate agents, home builders, municipalities, governments, financial institutions, insurance companies, car and equipment dealers, land developers, and resource, utility and pipeline businesses. There are also established intermediary customers such as legal, survey and engineering firms.

The security: The company went public on July 9 at an initial public offering price of $14 a share. Prior to that, it was a Crown-owned entity and therefore did not have to pay federal or provincial taxes.

The IPO was relatively low-key with only about 12 million shares issued. As a result, the stock is quite thinly traded with volumes of less than 10,000 shares on some days.

Why we like it: This is a solid company with a monopoly in a key sector of the Saskatchewan economy. It benefits from every land transaction that takes place, which means that as long as the province continues to expand economically and attract new residents, ISC will do well.

The board of directors has established a policy of paying a quarterly dividend of $0.20 a share ($0.80 annually), which means the stock yields an attractive 4.58% at the current price. In a recent research report, the RBC Capital Markets team of analyst Steve Arthur and associate Anthony Jin described the dividend as “solid and sustainable” based on a healthy balance sheet and a relatively low payout ratio of approximately 60% of estimated 2014 free cash flow.

Financial highlights: The company released third-quarter results (to Sept. 30) on Nov. 13 and they were strong across the board. Total revenues were $20.8 million, an increase of $1.8 million or 9.5% compared to $19 million in the same period last year, when ISC was a private firm. Revenues, which exclude the Vital Statistics Registry revenue for the prior year’s period, increased across all three registries in the third quarter as compared to the same quarter last year.

EBITDA (earnings before interest, taxes, depreciation and amortization) was $9.5 million compared to $8.1 million a year ago and was up 17.6% quarter over quarter. ISC’s EBITDA margin for the quarter was 45.6% compared to 41.4% in 2012.

Net income for the quarter was $62.5 million or $3.57 per share but before you get too excited about that, note that this includes a $54.2 million income tax recovery. Excluding that, ISC’s net income was $6 million ($0.34 per share). In the third quarter last year, net income was $5.7 million. However, for comparative purposes, it is important to note that ISC was not subject to tax in 2012. Excluding this quarter’s tax expense and recovery, ISC generated an increase in income over the third quarter of 2012 of 46.1%.

For the first nine months of the 2013 fiscal year, total revenues were $59.1 million. That was an increase of increase of $2.2 million, or 3.8%, compared to $56.9 million for the nine-month period ended Sept. 30, 2012.

Adjusted EBITDA rose to $25.6 million, a 10.4% increase, compared to the $23.2 million generated in the first nine months of 2012. The Adjusted EBITDA margin was 43.3% compared to 40.7% in 2012.

Excluding the one-time tax recovery, ISC’s net income for the nine months after the current period income tax expense was $15.7 million ($0.90 per share) compared to 2012 net income of $16.2 million. Again, note that ISC was not subject to tax in 2012. Excluding the income tax expense and recovery, ISC’s income rose $1.8 million or 11.2% over the same period in 2012.

ISC’s cash position at the end of September was $23.9 million compared to $21.1 million at the same time in 2012. ISC had no short-term borrowings and $9.9 million of long-term debt on its balance sheet. This reflects a refinancing of $9.9 million in short-term debt that was previously in place and due to the Government of Saskatchewan in 2012.

"The results we announced today reflect ISC’s ability to generate strong cash flows and earnings while delivering essential services to Saskatchewan that support the continued economic prosperity of this Province," said CEO Jeff Stusek. "We are focused on continuing to increase our value proposition to Saskatchewan residents and businesses by expanding our services and offerings. At the same time, we have the balance sheet strength to grow beyond our provincial borders and provide solid dividend returns to shareholders."

Risks: Although Mr. Stusek raised the possibility of expanding ISC’s services to other provinces, as matters stand right now, the company’s financial health is closely tied to the economic well-being of Saskatchewan. As long as the province continues to expand and attract new population, the company should do well. Any slowdown in the housing market would impact earnings, however the dividend appears to be well protected.

According to BMO Capital Markets’ most recent economic forecast for Saskatchewan, the provincial economy is expected to post real gross domestic product (GDP) growth of 2.4% this year and 2.8% in 2014. BMO also projects the level of non-residential construction to remain firm.

It should be noted that the stock is looking a little pricey right now, having risen 20% from the IPO in July. Conservative investors may wish to take only a small position at this time or watch for a pullback to the $17 to $17.25 range.

Distribution policy: As mentioned, the stock will pay quarterly dividends of $0.20 a share. It is expected that the next dividend will be paid in mid-January.

Tax implications: Payments are eligible for the dividend tax credit for Canadians who hold the shares outside a registered plan.

Who it’s for: This stock is suitable for conservative investors who are looking for steady cash flow that is well protected.

How to buy: As mentioned, the shares tend to be thinly traded. Therefore I advise placing a limit order (i.e. don’t pay more than a specific price) and be patient. Note that the shares do not trade in the U.S. over-the-counter market so all purchases have to be done on the TSX.

Summing up: ISC offers a combination of decent yield, a sound business, a strong balance sheet and modest growth potential.

Action now: Buy. – G.P.

Gordon Pape’s new book, RRSPs: The Ultimate Wealth Builder, can be pre-ordered now at 28% off the suggested retail price. Go to http://astore.amazon.ca/buildicaquizm-20

 

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GLOBAL INTEREST RATE PRESSURES

By Tom Slee, Contributing Editor

My recent trip to Europe was primarily for pleasure but also an opportunity to get some firsthand impressions of the European recovery. Unfortunately, the news is not good. Contrary to a lot of reports the Europeans are still in serious trouble.

Germany continues to do well but most of the other countries are struggling. Italy in particular has major problems with no solutions in sight. Most discouraging is the fact that the central bankers seem unable to stimulate business activity. I found it all a far cry from our relatively stable North American markets where most of the numbers are looking better and Fed Chairman Bernanke is toying with higher interest rates. As matter of fact, Mr. Bernanke’s mixed signals are doing more damage in Europe than in Canada and the U.S.

Perhaps my biggest surprise was the gloom. European economists and commentators seemed downbeat. Because we live in a global economy, I thought that the markets and general tone would resemble our own but that was not the case. There seemed to be a sense of lingering crisis made worse by the fact that many European publications are far more international in scope than our own. These pubs reflected increasing difficulties in the emerging nations due to fears that America may raise interest rates. Tighter money would dampen the progress being made in Sub Saharan countries and snuff out their spluttering recoveries.

Of course, my research was superficial – almost anecdotal – but the pessimism was unmistakable. What does this mean as far as Canadian investors are concerned? We have a tendency to base our investment decisions almost entirely on North American forecasts. For example, the discussion about quantitative easing always revolves around U.S. unemployment. But the U.S. Federal Reserve and the Bank of Canada are not operating in a vacuum. They have to factor in international considerations when setting policy. Whether we like it or not, the situation in Europe and elsewhere affects the outlook for Canadian interest rates.

Because of prolonged market distortions caused by the financial collapse, it’s easy to forget that inflation and higher interest rates are directly linked. Yields climb as the cost of living goes up. Yet there is very little inflation anywhere right now. In Europe, officials are worried about deflation (prices spiraling downward) rather than inflation. In August the Euro zone jobless rate touched 12%. More than 19.5 million people are unemployed.

Governments are desperately trying to stimulate their economies. With inflation at a miniscule 0.7%, the European Central Bank (ECB) cut its interest rate to a record low on November 7. There is great concern that increasing U.S. interest rates could filter into the system and undo these efforts.

There are other worries. The International Monetary Fund (IMF) is alarmed that emerging nations, which have benefitted from cheap money, are now being starved of capital as investors divert funds to the U.S. In Germany, huge cash positions have been assembled as institutions await higher rates as resulting from the Fed’s half-hearted decision to taper its bond-buying program.

I came away with the impression that the IMF and ECB are going to try and pressure Mr. Bernanke to factor international considerations into his decisions. Countries like Japan, with 0.7% inflation and 10-year benchmark interest rates in the 0.6% range, need easy money as a stimulus, not higher global interest rates. The Chairman and his successor will also have to weigh the impact of capital flows into the U.S. as investors take advantage of higher rates. These will bolster the American dollar, already strong as a result of the energy surge, and make U.S. exports less competitive.

Will Europe and Japan dictate Canadian interest rates in 2014? No, but they do form part of the overall picture. The North American recovery seems much more advanced than European countries except perhaps Germany. Stimulus is still the name of the game for most countries. We should assume that quantitative easing and cheap money are going to be around far longer than many pundits think.

Turning to the here and now, our own bond market yields have been gradually dropping as it becomes apparent that the Fed intends to remain an active player. Some analysts were expecting a reduction in the Fed’s buying program once the debt ceiling problem was resolved but that was not the case. Ten-year Government of Canada yields have dropped nearly 30 basis points from their September highs and are now close to 2.6%. The Bank of Canada has downgraded its 2013 GDP to the 2% to 2.5% range, which means that short-term rates are going to remain unchanged for the foreseeable future. In the U.S. 10-year Treasuries have been trading at 2.75%, only 15 basis points higher than levels in May when Mr. Bernanke started sending his mixed signals.

The result is investors seeking interest income are still being forced to extend term or resort to junk bonds to earn an acceptable return. For example, the Royal Bank 3.66% bonds due January 25, 2017, an issue that would normally be suitable for defensive investors, trade at $104.94 to yield 2.07%. After allowing for the current 1.1% inflation rate, the bonds provide almost no return even in tax- sheltered registered accounts. There are, however, some good values around if you shop carefully.

Tom Slee managed millions of dollars in pension money during his career and is an expert in fixed income securities.

 

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NOVEMBER’S TOP PICK

Here is our Top Pick for this month. Prices are as of close of trading on Monday, Nov. 24 unless otherwise indicated.

Premium Brands Holding Corporation 5.5% Convertible Unsecured Subordinated Debentures (TSX: PBH.DB.C)

Type: Convertible subordinated debentures
Symbol: PBH.DB.C
Exchange: TSX
Current price: $100
Conversion premium: 39%
Yield to maturity: 5.5%
Entry level: Current price
Risk rating: Moderate risk
Recommended by: Tom Slee

The business: Premium Brands Holding Corporation was formed in July 2009 as the successor to Premium Brands Income Fund. Based in Richmond, British Columbia, the company owns a broad range of specialty food manufacturing and food distribution businesses across the country. It sells both its own products and those of third parties to approximately 25,000 customers including convenience stores, hotels and small grocery chains. Revenues of almost $1 billion last year generated an operating profit of $72 million. Market capital now exceeds $400 million.

The security: The subordinated convertible debentures bear interest at 5.5% per annum and mature on June 30, 2019. They are convertible at any time into common shares of Premium Brands at a price of $29.25. In other words, you receive $34.188 common shares for every $1,000 debenture. The company can pay the holder cash instead of stock at conversion based on the market price of the shares. It can also redeem the debentures on and after June 30, 2016 at $100 if the common shares are trading at 125% of the conversion price.

Why we like it: Premium Brands is a defensive, well-managed company and these debentures offer a yield of 250 basis points more than comparable five-year corporate bonds. They also provide the chance of capital gains as the underlying stock moves higher.

Financial highlights: Premium Brands’ recent third-quarter earnings of $0.41 a share were slightly below consensus forecasts but up sharply from $0.30 the previous year. The company has announced plans to build a $21 million state-of-the-art sandwich facility in the U.S. with the capacity to support $150 million in sales. Earnings of $1.15 a share are expected in 2013 with a jump to about $1.50 next year.

Risks: An economic downturn could reduce corporate revenues because most of Premium Brands’ products are specialty and discretionary foods. However, the debentures are well protected. There is some concern that with the stock at $21 the $29.25 conversion price represents a substantial 39% premium. The debentures’ capital growth is likely to be steady and measured rather than dramatic.

Distribution policy: Semi-annual interest payments of $27.50 per $1,000 of debentures are made on June 30 and Dec. 31 of each year.

Tax implications: The interest income is fully taxed if the debentures are held in a non-registered account. Any profit or loss on maturity, sale or redemption, is treated as a capital gain or loss at the time.

Who it’s for: These securities are suitable for investors seeking secure well-above-average income plus some growth who are capable of assuming some risk. So there is no misunderstanding, Gordon has the Premium Brands common shares as a Buy for high-yield growth on our Recommended List. These convertible debentures are suitable for more defensive investors who would prefer a guaranteed income and some eventual growth.

How to buy: These are listed securities that you can buy through any broker.

Summing up: These good quality debentures straddle our turbulent bond and stock markets by providing steady income and a growth hedge against rising interest rates. – T.S.

 

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GAVIN GRAHAM’S UPDATES

Diageo plc (NYSE: DEO)

Type: Common stock
Symbol: DEO
Exchange: TSX
Current price: US$128.90
Originally recommended: Jun. 22/11 at US$81.25
Annual payout: $3.15
Yield: 2.4%
Risk Rating: Moderate risk
Recommended by: Gavin Graham
Website: www.diageo.com

Comments: Diageo has been up over 50% since we first recommended it in 2011. The company saw its revenues increase 6% to $18.3 billion for the year ending June 30. Its operating profit is up 9% to $5.4 billion and net profit up 28% to $4 billion. That gives it a price/earnings ratio of 20 times of 2012 to 2013’s earnings. The company also raised its dividend 9%, giving it a yield of 2.4%.

It now derives 42% of its revenues from emerging and frontier markets. Although it is not cheap, Diageo continues to deliver mid- to-high single digit revenue and operating income growth. That’s due to its growing exposure in emerging markets and upgrading by its customers in developed markets.

Action Now: Diageo remains a Buy. – G.G.

Johnson & Johnson (NYSE: JNJ)

Type: U.S. common stock
Symbol: JNJ
Exchange: NYSE
Current price: US$95.63
Originally recommended: Oct. 27/10 at US$63.81
Annual payout: $2.64
Yield: 2.7%
Risk Rating: Conservative risk
Recommended by: Gavin Graham
Website: www.jnj.com

Comments: J&J is a well-diversified business that benefits from the aging population in developed markets and its pipeline of new drugs. The company reported third quarter sales to Sept. 30 of $17.6 billion, up 3.1%, making it the 11th straight quarter of growth. Net earnings were $3.9 billion ($1.36 per share), an 8.8% increase from the same period in 2012.

This month, J&J announced two large legal settlements, one for incorrectly marketing Risperdal and other drugs, and the other for the failures of ASR hip joints manufactured by its DePuy subsidiary. Up over 50% since my first recommendation in 2010, J&J remains reasonably valued at 17.3 times 2013’s estimated earnings and a 2.7% yield.

Action Now: Buy. – G.G.

Sherritt (TSX: S, OTC: SHERF)

Type: Common stock
Symbols: S, SHERF
Exchanges: TSX, Pink Sheets
Current price: C$3.53, US$3.27
Originally recommended: Oct. 24/12 at C$4.87, US$4.90
Annual payout: $0.17
Yield: 4.8%
Risk Rating: Higher risk
Recommended by: Gavin Graham
Website: www.sherritt.com

Comments: Sherritt’s third-quarter results ending Sept. 30 saw revenue fall 16% to $286 million.

The company’s net cash flow is trending downward at $0.20 per share, compared to $0.30 a share in 2012. This reflected the lower prices it received for nickel produced from its Cuban operations and lower thermal coal production from its domestic mines due to the end of contract mining.

The major uncertainty for Sherritt remains its 40% ownership of the world’s biggest nickel mine at Ambatovy in Madagascar. Ambatovy came into production a year ago, but has not yet been declared in commercial production, despite production of 7,369 tonnes of nickel and 672 tonnes of cobalt and commercial revenues of over $250 million this year. Sherritt defines commercial production as throughput equivalent to 70% of the pressure acid leach circuit, which extracts the nickel from the ore over a 30-day period.

The company expects commercial production to start at Ambatovy by the end of this year. The $2.1 billion of debt which Sherritt incurred building the mine and refinery is non-recourse to the company and does not have to start being repaid from Ambatovy’s revenues until September 2015, a two-year extension of the original date.

Sherritt remains cash-flow generative, has reduced its cost of nickel produced in Cuba by 8% over the last year, and is still rated BB by S&P. Despite its 30% decline since being recommended a year ago, we believe things will change once Ambatovy becomes commercial. Also rising domestic coal prices, stabilization in nickel prices and a 4.8% dividend yield don’t hurt either.

Action Now: Buy. – G.G.

Liquor Stores (TSX: LIQ)

Type: Common stock
Symbol: LIQ
Exchange: TSX
Current price: $14.77
Originally recommended: Feb. 17/06 at $20.30
Annual payout: $1.08
Yield: 7.3%
Risk Rating: Moderate risk
Recommended by: Gavin Graham
Website: www.liquorstoresgp.ca

Comments: One would imagine that selling liquor and wine to thirsty Albertans and Alaskans (as well as in British Columbia and Kentucky) would be a relatively straightforward business, but the stock has not been a strong performer since being recommended in 2006. LIQ cut its payout when it transformed from an income trust in 2010, but still provides a hefty 7.5% yield. However, in the last year the shares have slid 25% since new CEO Stephen Bebbis arrived in May. Bebbis was the founder and CEO of Golf Town.

The company’s directors felt an experienced retailer was needed to address its lacklustre same store sales growth (SSSG) numbers. In the third quarter ending Sept. 30, although LIQ’s revenues grew 5.1% to $173 million from its 246 stores, SSSG was down 1% in both Canada and the U.S. Why the disappointing SSSG numbers?

A few things. First, there was an increase in B.C.’s sales tax from 12% to 15%. LIQ also opened two Wine and Beyond stores in Edmonton last year, which affected its own existing sales. Finally, some neighbouring counties in Kentucky now permit the sale of liquor, which also reduced Liquor Stores’ sales.

LIQ’s cash flow was also down from $13 million ($0.57 per share) to $11.8 million ($0.51) in the third quarter against dividends of $0.27. With adjusted operating earnings down 8% to $31.6 million for the first nine months of the year and operating margin down to 25.3%, the investment in new stores, systems and training are eroding profitability at this point.

Action Now: Sell. – G.G.

The Keg Royalties Income Fund (TSX: KEG-UN, OTC: KRIUF)

Type: Common stock
Symbol: KEG-UN, KRIUF
Exchange: TSX, Pink Sheets
Current price: C$16, US$14.92
Originally recommended: Jun. 21/06 at C$13.38, US$12.08
Annual payout: $0.96
Yield: 6%
Risk Rating: Higher risk
Recommended by: Gavin Graham
Website: www.kegincomefund.com

Comments: The Keg has been a strong performer over the last year. Earlier this month, Prem Watsa took time off from restructuring BlackBerry to buy a controlling 51% stake in The Keg Restaurants operating company through Fairfax Financial Holdings (TSX: FFH), which pays the 4% revenue royalty that provides the Income Fund’s revenues. CEO David Aisenstat retains the remaining 49%. Mr. Aisenstat said, “Fairfax will bring additional expertise and resources to The Keg and we are excited at the opportunities available.”

The terms were not disclosed but Mr. Aisenstat and his team remain in operational control. While revenues were down 2.7% to $116 million for the third quarter ending Sept. 30, this reflected the closure of three corporate restaurants at the beginning of the year and an additional restaurant in the third quarter. SSSG was down 1.8% in Canada and 0.8% in the U.S., reflecting the continued pressures on consumer incomes. We’ll have to see what sort of initiatives Fairfax brings to The Keg.

Action Now: Hold until consumer spending picks up. – G.G.

 

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NOVEMBER UPDATES

Here are the updates for this issue. All prices are as of the close of trading on Monday, Nov. 24 unless otherwise indicated.

Manitoba Telecom Services (TSX: MBT, OTC: MOBAF)

Type: Common stock
Symbols: MBT, MOBAF
Exchanges: TSX, Pink Sheets
Current price: C$28.99, US$27.43
Originally recommended: Jun. 20/12 at $33.20, US$32.52
Annual payout: $1.70
Yield: 5.9%
Risk Rating: Moderate risk
Recommended by: Tom Slee
Website: www.mtsallstream.com

Comments: Manitoba Tel has been badly damaged by Ottawa’s decision to block the sale of its Allstream business to an Egyptian investment group. It’s a serious setback that casts a shadow over the company’s future.

The telecom operates a healthy residential and small business consumer operation in Manitoba. In 2004, however, it made a bad bet by paying $1.7 billion for Allstream, a seemingly sophisticated information technology company. The plan was to build a national telecom but it never worked. Ever since 2006, management has been trying to unload Allstream and this year a sale to Accelero Capital for $520 million was negotiated. Then, after five months of review, the Industry Minister rejected the deal because of national security concerns.

MBT is now back to square one and still saddled with Allstream. Only now there are no prospective buyers. The company’s third quarter earnings ($0.62 a share) were adversely affected by the disruptive regulatory process. The 2013 free cash flow projection has been reduced by $60 million. And there’s another problem: the company’s pension solvency deficit now stands at $350 million. To address this shortfall, MTL issued 8,855,000 new common shares on November 19 at a price of $28.10 each for a total of approximately $250 million. The proceeds will be used to fund the pension deficit but these new shares are bound to dilute future earnings.

This is a strong company that could earn as much as $1.75 a share next year. The stock, however, is likely to mark time or even come under pressure when the anticipated underwriting is announced.

Action now: Sell. – T.S.

CI Signature High Income Fund

Type: Mutual fund
Code: CIG686
Current price: $14.54
Originally recommended: May 23/12 at $13.78
Annual payout: $0.84
Yield: 5.8%
Risk Rating: Moderate risk
Recommended by: Gordon Pape
Website: www.ci.com

Comments: This fund continues to post decent numbers despite the fact that almost 41% of the portfolio is invested in bonds, which have been under pressure in recent months. Another 7.6% is being held in cash, which generates a very low return, with the balance in equities. The stock component includes several REITs, which have also taken a price hit as a result of higher interest rates.

Despite all this, the fund shows a respectable year-to-date gain of 7.6% and a one-year return to Oct. 31 of 8.9%. The monthly payment is $0.07 per unit ($0.84 annually).

This is a very good balanced fund but investors who want less bond exposure may wish to look for one that has a heavier equity weighting.

Action now: Buy. – G.P.

Franklin Bissett Canadian High Income Fund

Type: Mutual fund
Code: TML205
Current price: $16.01
Originally recommended: July 27/11 at $15.58
Annual payout: $0.74
Yield: 4.6%
Risk Rating: Higher risk
Recommended by: Gordon Pape
Website: www.franklintempleton.ca

Comments: This is an all-equity fund that is fully invested. The management team of Leslie Lundquist and Lee Stelmach focuses on high-yield small- to mid-cap stocks, many of which are former income trusts. As a result, this is a higher risk portfolio but one which offers more return potential than either of the balanced funds we have looked at in this issue.

The fund is enjoying a strong year with a gain of 14.2% since Jan. 1. The two-year average annual compound rate of return is 13.9% (we recommended the fund in mid-2011).

The distributions vary – two months at $0.055 per unit, then one month at $0.075 per unit. Over a year, that works out to $0.74 for a yield of 4.6% based on the current price. However, the fund also makes a special capital gains distribution in December, which last year was $0.415, bringing the 12-month trailing total to $1.155.

Action now: I will continue to rate this fund as a Buy but a word of caution. Do not purchase any new units in a non-registered account until after this year’s capital gains distribution (assuming there will be one) has been paid out. Otherwise, you could be hit with an unwanted tax bill. – G.P.

Templeton Global Balanced Fund

Type: Mutual fund
Code: TML3240
Current price: $13.05
Originally recommended: June 27/07 at $10.80
Annual payout: $0.1885
Yield: 1.4%
Risk Rating: Moderate risk
Recommended by: Gordon Pape
Website: www.franklintempleton.ca

Comments: This was originally recommended as the Templeton Global Income Fund. It changed its name and its mandate last year and is now a global balanced fund with about two-thirds of the assets in stocks and the rest in bonds and cash.

It has been performing well in its new guise with a one-year gain to Oct. 31 of 19.9%. The problem is that unless you buy the T-series units you won’t get any regular cash flow. The A units pay only one capital gains distribution per year, in December, and it was only $0.1885 per unit in 2012.

The T units, code TML2036, do offer regular monthly distributions of $0.036 a unit so if you want to stick with this fund and receive steady cash flow, they would be the ones to choose. The current price is $8.20 a unit.

There is nothing wrong with this fund but it is not the one I originally recommended and the standard A units don’t offer the cash flow we look for in this newsletter, so I am removing it from the Recommended List.

Action now: Switch to T units or Sell. We will no longer track this fund. – G.P.

 

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That’s all for this issue. Look for your next Update Edition on Dec. 5. The next regular issue will be published on Dec. 19.

Best regards,
Gordon Pape, editor-in-chief