BUY THE PIPES

	Roger Conrad Utility Forecaster.com
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In the next decade, America will consume 25 percent more natural gas and oil and 18 percent more coal than it does today. And most will be pumped and mined right here in North America.

The Growth and Income Portfolios feature several companies that produce energy, from Canadian royalty trusts Advantage Energy, Bonterra and Vermilion to big oils BP and ChevronTexaco and utility/gas producer Dominion Resources. Another way to play: Buy the owners of pipelines.

Pipelines are the critical link between energy resources—most of which are located in remote areas—and the industry, utilities and consumers that need them. Most pipeline systems garner a fee whenever their pipes, storage and processing facilities are used.

Lightly regulated by the authorities in the US and Canada, those fees tend to stay steady, regardless of whether oil and gas prices are advancing or retreating.

And because environmental and safety concerns generally restrict construction of new systems, supply is limited and meaningful competition practically nonexistent. That adds up to exceptionally steady and usually rising revenue streams for pipeline owners, and big dividends for investors.

There are basically three ways to invest in North American pipelines: Common stock in corporations that own them, units of US-registered master limited partnerships (LPs) and selected Canadian income trusts. Each method has advantages and drawbacks.

In the first group, Income Portfolio pick NiSource, which owns the Columbia Gas system, is our top choice. The Columbia system is comprised of 11,604 miles of pipe and related storage systems that connect the Midwest and Northeast with the gas-rich Gulf Coast.

During the past two years, NiSource has scaled back its plans to be an all-energy provider and is now a conservative, purely regulated utility. Roughly a third of profits come from Columbia, 25 percent from electric utility Northern Indiana Public Service and the balance from gas utilities it owns in nine states.

As a result of its efforts, NiSource's bond rating has stabilized and profits are again on the rise. That plus a price just 1.2 times book value has made the stock a solid takeover candidate, which pays you a generous dividend while you wait for the inevitable offer. Buy NiSource up to 21.

In the LP category, our favorite is still TEPPCO Partners, which owns a network of pipelines, storage and processing facilities for oil and natural gas and derivative products.

Fee-based assets contribute more than 90 percent of partnership revenue and cover everything from oil and gas gathering, transportation and storage to natural gas liquids fractionation and transportation, storage and terminaling of refined petroleum products. The package produces exceptionally steady cash flows that management has augmented with valuable acquisitions in recent years.

In the last 12 months, TEPPCO has boosted its payout twice for a total increase of 6 percent per share. It's also trimmed interest expense by 27 percent in the past 12 months by conservatively financing expansion by issuing units, rather than new debt.

TEPPCO's major risk going forward is the cost of its ongoing pipeline "integrity" program. But costs are still well within projections and should level off later this year.

Also, as an LP, a percentage of TEPPCO's dividends are considered a "return of capital" and are not taxed. Owners must file a K-1, which is mailed by the LP early in the year. TEPPCO is a buy up to 40.

Much of the growth in North American pipelines will happen north of the border, particularly as the Canadian oil sands are tapped. As the owner of the Alberta Oil Sands Pipeline (AOSPL) system—the exclusive transporter for the Syncrude project—Pembina Pipeline Income Fund is uniquely positioned to profit.

AOSPL has a cost of service agreement until 2035 with Syncrude, the primary developer of the oil sands. As Pembina builds out the system, that arrangement is expected to ensure annual dividend growth of at least 3 to 5 percent. The trust also has a high level of flexibility to raise its fees, should system throughput slip for any reason.

Pembina's position is underscored by its solid "Stability Rating" of "2" according to the Dominion Bond Rating Service (DBRS), which assesses stability on a variety of factors from extremely stable "1" to unstable "7." DBRS is the primary credit rater of Canada.

As a Canadian income trust, Pembina like TEPPCO pays dividends from cash flows, but there are several key differences. First, as far as the IRS is concerned, Canadian trusts' distributions are "qualified dividends," taxed at a maximum rate of 15 percent regardless of how much is return of capital. Second, brokers are withholding 15 percent of the distribution for the Canadian government, which US investors can reclaim when they file their own taxes.

Under a current treaty, dividends aren't supposed to be withheld from trusts held by US investors in IRA accounts, though some brokers may do so anyway. To avoid confusion, we suggest using a brokerage skilled in Canadian markets, like www.penntrade.com (see back page article, August 25 PF). Pembina is a buy up to 10.

Roger Conrad will be available to take your questions until Monday, October 11. Please use the form below to submit your questions.