The initial prospects for Eagle Energy Trust were promising. When the company went public in 2010, investors piled in, lured by its hefty distributions. The same was true for Parallel Energy Trust, an oil and gas developer that also pays out solid distributions.
But lately their juicy yields can't offer much comfort.
In the past year Eagle Energy shares plummeted 37 per cent, and Parallel's dropped 39 per cent. Both stocks now pay yields in the mid-double digits.
Because of a quirk in Canadian tax laws, both companies operate much the same way as the old income trusts but skirt the federal government's ban on this structure because they hold U.S. assets. For investors starving for yield, they were lucrative opportunities to earn some decent returns. Given the heavy initial interest from the investor community, there's been much chatter of more energy trusts going public in Canada.
However, Eagle and Parallel's sudden misfortunes should serve as glaring reminders that risk and return are inextricably linked. You can't earn a 10.5 per cent yield without incurring some risk.
For both companies, operational issues are the root problem. Eagle and Parallel are developing oil and gas assets in the U.S. and they hoped to quickly ramp up production. Things looked good at first, and Eagle's shares climbed nearly 20 per cent from their IPO price. But then the company hit some snafus, and late last year things quickly fell apart.
First Eagle announced quarterly results below expectations and then lowered its production guidance for the full year. Though this happens to all sorts of resource companies, it's particularly troubling for energy trusts because their distributions are their lifeblood. Investors get worried when there's even the slight chance that the payout could be cut.
The numbers give them reason to be cautious. Even though Eagle recently boosted its expected reserve figures, its expected 2013 payout ratio is still supposed to be about 120 per cent, meaning its paying out more than it brings in, according to National Bank Financial. And the company is running out of room on its credit facility that it could use to fund any near-term cash shortfalls.
This doesn't mean all energy trusts are bad news. Both Crius Energy Trust and Argent Energy Trust, which both went public more recently, have held in near their IPO prices.
But Eagle and Parallel's production problems are a reminder that in the markets, there's no such thing as a free lunch.
(Tim Kiladze is a Globe and Mail Reporter.)
Return to Streetwise home page.