One Good Idea: Buy Black Diamond units

Generous payouts, predictable earnings make income trust attractive

By Dianne Maley
Globeinvestor Magazine Online, Oct. 2, 2008

Source: Alex Sasso, vice-president of equities, Hesperian Capital Management Ltd., Toronto, and manager of the Norrep family of mutual funds.

The idea: Buy units of Black Diamond Income Fund.

Black Diamond supplies temporary housing for workers in Alberta's oil sands industry on three-year leases, giving it a fairly predictable revenue stream. The bulk of its equipment is leased to the Canadian Natural Resources Horizon oil sands project north of Fort McMurray.

Demand for its modular units outstrips supply, Mr. Sasso says, so the trust is able to generate significant margins on the leases. Gross and EBITDA margins for the second half of the year are forecast at 60 per cent and 48 per cent, respectively, the fund said in a Sept. 22 update. Revenue is forecast to rise as new units are bought and leased.

Black Diamond pays out less than 35 per cent of its earnings - a relatively small proportion for a trust - so even if it decides to convert back to a corporate structure when the tax holiday for income trusts expires, it will not have to cut its payout, Mr. Sasso said in an interview.

Black Diamond, which trades at about $10 on the Toronto Stock Exchange, has a strong balance sheet and generates "significant" cash flow. Notes Mr. Sasso: "It's rare to get a company trading at a low multiple with a high return on equity and great earnings momentum in this kind of market environment."

The payoff: A risk-reward radio that one can be comfortable with, a generous 9 per cent distribution, fairly predictable earnings and potential capital gain given the trust's low price. At $10, it trades at a price/earnings multiple of 6.5 times.

The big risk: The price of oil could drop below $70 (U.S.) a barrel and work could be halted on the oil sands. As well, the Canadian dollar could shoot up against the greenback, hurting U.S. dollar-denominated earnings of the oil companies.

Why listen to Alex Sasso?

Norrep owns more than 10 per cent of Black Diamond, so Mr. Sasso is "talking his book." But the Norrep Fund has chalked up an average annual return for the past five years of 20.8 per cent. Even after a devastating September, the fund is doing better than its benchmark, the BMO Small Cap Total Return Index. The Norrep Fund is down 20 per cent this year, the benchmark 30 per cent.

Special to The Globe and Mail