Clarity from Yellow Pages
Thursday, Feb 18, 2010
Gordon Pape

We finally have a definitive statement from Yellow Pages on management's plans to convert to a corporation. The trust announced on Feb. 11 that, assuming a favourable vote by unitholders, it will become a corporation by year-end. Distributions will remain at the current level of $0.0667 per unit monthly ($0.80 annualized) until December. Starting in 2011, the newly-created corporation will pay a monthly dividend of $0.0542 per share ($0.65 annualized).

In a statement, management said that the planned dividend is consistent with the preliminary policy announced last May and reflects a payout ratio of 60 per cent to 70 per cent of cash earnings per share.

"We believe the initial dividend will enable us to offer a sustainable return to our investors," said CEO Marc P. Tellier. "Furthermore, our new product initiatives should allow us to re-acquire growth in the future as we extend our market leadership to new segments."

The 18.75 per cent distribution cut will be fully felt by Canadians who hold Yellow Pages units in registered plans (e.g. RRSPs, RRIFs, TFSAs) and by American and foreign investors. However, Canadians who own shares in a non-registered account will actually be better off in most cases on an after-tax basis because of the effect of the dividend tax credit.

For the 2009 tax year, 95 per cent of the trust's distribution was fully taxable. Only 5 per cent qualified for the dividend tax credit. Let's look at an example using an Ontario resident with taxable income of $75,000 who owns 100 shares and receives distributions in a non-registered account. Using the current annualized distribution of $0.80 per share, this person will receive $80 from his Yellow Pages holdings in 2010. Assuming no change in rates, tax on that will be $27.34 for an after-tax return of $52.66.

Under the conversion plan, the same investor will receive $65 a year gross as a dividend. Applying 2009 tax rates and using the dividend tax credit, the tax bill on this amount in 2011 would be $7.11 for an after-tax return of $57.89. (In several provinces, the tax will be even lower; in Alberta and B.C., for example, the tax rate on dividends at that income level is only 4.4 per cent.)

If Yellow Pages is able to maintain the $0.65 dividend going forward, this looks like a good deal for yield-seeking investors as long as they can hold the shares in a non-registered account. The units closed on Friday at $5.67, up $0.28 on the day. At that price, a $0.65 dividend would translate into a yield of 11.5 per cent.

I've maintained for a long time that the market is undervaluing Yellow Pages. Yes, there is risk here but it is not a speculative security by any stretch of the imagination. The current and future high yield makes this a good buy. Ask your financial advisor if it is right for you.
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