Selling a longtime holding is rarely easy, particularly if the stock has consistently provided a generous source of income and is still growing as a business. That, however, is what I’m advising this month for PHX Energy Services Corp (TSX: PHX, OTC: PHXHF).

The reason: There’s a better choice now in the energy services sector, Poseidon Concepts Corp (TSX: PSN, OTC: POOSF).

Energy services is an extremely cyclical and highly competitive business that requires companies to be effective deployers of technology, savvy financial managers and opportunistic salesmen of their wares and services. And even companies that do all three tasks well can fail if they’re caught leaning the wrong way when industry conditions turn down.

That was the case for several Canadian services companies in 2008, when oil prices fell from a high of USD150 a barrel to barely USD30 in a matter of a few weeks.

It’s been the case for others the past couple years, as crashing natural gas prices brought the North American shale gas drilling boom to a screeching halt.

Energy services companies’ profits and therefore dividends are leveraged to energy prices in two ways.

First, when energy prices rise demand for their services and equipment does too, increasing utilization rates and sales.

And companies can also charge more for both, giving profits a further kick. Conversely, when energy prices drop demand for services and equipment slumps, and fees providers can charge do too.

Both PHX and Poseidon have managed to dodge the worst of the past few years’ downturns by locking in their customers to longer-term contracts as well as by expanding outside Canada. The difference is Poseidon’s primary niche of handling fracturing fluid has proven somewhat sturdier, as it relies far less on new drilling than PHX’ rigs and related services do.

In late 2009, for example, PHX was forced by a sharp reduction in drilling activity–due mostly to the drop in energy prices–to interrupt a string of dividend increases with a cut in its monthly dividend from CAD0.085 to CAD0.04. Management boosted the payout to CAD0.06 in March, reflecting the company’s growing global reach and generally solid conditions in North America. Forecasts going forward, however, are tempered by an apparent cooling of activity in Canada as well as the shift from deeper to more shallow drilling and compressed margins on international operations.

By contrast, not even unseasonably wet weather was able to hold back Poseidon’s second-quarter growth. In fact the company actually reported better numbers in every key area over the first quarter of 2012, despite a 38 percent year-over-year decline in western Canada well completion activity.

The key was an expanded share of a niche that’s growing rapidly. Poseidon utilizes storage tanks to help producers manage the water used for hydraulic fracturing, or “fracking,” the process now used to develop the vast majority of energy wells in North America.

Its process has a far less pronounced impact on the surrounding environment than the currently widely used strategy of using “lined pits” to store water. And tanks can be moved from well to well as needed.

Poseidon’s customers wind up renting multiple tanks to perform simultaneous well completions as well for the longer-term purpose of storing fluids in a central location to be re-used on successive wells. As a result they tend to generate a great deal of repeat business, which makes for stable cash flows even when new drilling is largely on hold.

The company currently has operations across Canada and in 19 US states, with a particular focus on capturing business in oil and liquids-rich basins. That puts it squarely in line to benefit from the expected doubling of US oil production by 2035, which is now forecast by US Energy Information Administration.

It’s also benefitting from the backlash against fracking in general. For example, North Dakota–hardly a tree-hugging, “blue” state–banned the use of lined pits as of April 2012. That’s forced developers of its prolific Bakken Shale reserves to seek alternatives for water treatment. And here too Poseidon comes out on top, as its modular tanks are far most cost effective than the 400- and 500-barrel steel tanks used for decades by industry.

Most exciting, the company currently has only a small portion of the fluid handling market, so there’s massive upside on both sides of the border.

And because it fundamentally operates a rental business, it has low fixed costs and generates a hefty level of free cash flow.

Poor drilling conditions may slow the adoption of its technology and services, and thus sales growth.

Management’s outlook issued last month was for its growth in western Canada to be challenged by this, though more than made up for by US growth.

And meanwhile, “revenue visibility” is high due to the high proportion on long-term contracts with large, well-hedged energy producers.

The full-year 2012 forecast is for cash flow of CAD210 million, based mainly on the continued growth of the tank fleet.

That equates to roughly CAD170 million of after-tax cash flow and comfortable coverage of both CAD87 million in dividends and CAD60 million in planned capital expenditures for the year.

With debt modest at 27.6 percent of assets (and nothing due before 2014), that’s a considerable cushion against unexpected loss of business, even as the company continues to lay the groundwork for long-run growth. And though management has yet to declare its intentions, it’s also a firm foundation for future dividend growth.

That also is my long-term expectation for PHX Energy Services. The difference is Poseidon’s road to get there seems to have far fewer obstacles, which is critical given what’s likely to be continued volatility in oil and gas prices for the next 12 to 18 months at least. PHX’ yield is slightly higher at its current price. But the benefit of reliability is worth the switch in my view.

Sell PHX Energy Services now and move the proceeds into Poseidon Concepts, which is a buy up to USD16 and also a potential takeover target.

My other Best Buy this month, Student Transportation Inc (TSX: STB, NSDQ: STB) operates in a considerably less economically sensitive business, operating school buses. In fact the company has consistently taken advantage of the current slow/jagged growth environment in North America to convince more cash-crunched state and municipal governments to either outright sell or outsource their school bus systems.

As I reported in last week’s Flash Alert, the company posted another strong round of numbers for fiscal 2012, which ended Jun. 30. Highlights included 20 percent-plus growth for revenues and cash flows, the account from which dividends are paid.

Distributable cash flow coverage of the dividend topped expectations, with the full-year payout ratio falling to 79.9 percent versus management’s previously stated target of 82 percent to 85 percent. That’s probably not enough to induce the company to raise its dividend, particularly since it hasn’t done so for several years.

But coupled with no debt maturities before October 2014, the numbers were an effective answer to critics who had stirred fears of an impending threat to the payout.

To be sure, critics of Student’s business model are still out there. A recent article posted on the very useful web service Seeking Alpha, for example, took issue with a range of internal numbers.

Items cited included higher compensation granted to bus drivers last year, and particularly management’s focus on growing revenue to the detriment of conventional financial metrics like net income.

Countering that, of course, are the company’s executives, who have been consistent buyers of Student Transportation stock this year. During the fourth-quarter and full-year conference call last week CEO Denis Gallagher defended the company’s now eight-year-old growth strategy as being able to simultaneously expand its market reach and fund dividends.

As in past years, Mr. Gallagher set a baseline for revenue growth of 15 percent in fiscal 2013, based on seven acquisitions closed in the prior fiscal year and nine new bid contracts to manage systems that are still government-owned. Six of the bid contracts and two of the acquisitions were “tuck ins,” involving territories where the company can immediately realize advantages of scale.

Mr. Gallagher also cited additional business that could provide another three percentage points of growth but stressed the company’s main focus this year would be on “the integration of our new operations,” with an emphasis on costs. Cutting cost of capital is one major area where it’s already enjoyed success, including successful equity and convertible debt offerings this year that have enabled retirement of higher-cost debt.

The company also has just CAD15 million drawn on potential capacity of CAD240 million under its current credit agreement, which won’t mature until February 2016. And there are no debt maturities before a CAD23 million convertible bond issue comes due Oct. 31, 2014. This security is already well in the money–meaning investors are more likely to convert it to stock than ask for cash at redemption–and in any case its 7.25 percent interest could be easily refinanced at a much lower rate.

Managing fuel costs effectively is a huge part of the deal for any company operating transportation assets. The company’s same terminal fuel costs hit 9.2 percent of revenue in fiscal 2012, up from 7.9 percent in 2011. Student has managed its exposure through a combination of automatic recovery in its contracts and by inking fixed price fuel contracts. The result is overall expenses have remained in line with revenue growth, keeping cash flow coverage of dividends high.

Over the longer term, Student Transportation has a partnership with T. Boone Pickens’ Clean Fuel Energy to provide infrastructure for its alternative fuel buses.

That’s based on use of CNG, or compressed natural gas, and it’s a major boost for margins in several states already.

The company should also be able to realize huge benefits from using LPG, or liquefied petroleum gas, in coming years. All three of the company’s biggest bus manufacturers have said they’ll have systems for LPG available by 2014.

Operating costs of running buses with LPG are barely half that of running them on conventional fuels.

As for contracts, the company’s 15-year renewal rate is at the top of the industry at better than 95 percent. Student Transportation also renewed 100 percent of expiring contracts in fiscal 2012 for another three to five years.

One key advantage: The company’s bus fleet is extremely young for its industry at just 5.7 years.

This average is kept consistently low because Student Transportation always brings in new vehicles when it wins new contracts or makes acquisitions. This has the advantage of allowing the company to enter extended contracts, knowing that most of the costs are borne up front. And it makes the company’s service all the more attractive to outsourcing governments, as buses almost immediately become more efficient and safe.

Some critics have charged these capital costs are evidence of poor cash management. One could just as easily argue they’re the result of extremely conservative and prudent management, using today’s low cost for new buses and a rock-bottom cost of capital to lock in future growth under long-term contracts.

Like everything else in investing, it all boils down to the numbers. So long as dividends are being as well covered with cash flows, as they were in fiscal 2012, there’s little reason to doubt management’s strategy is working and that eventually we’ll see dividend growth in addition to the generous current yield.

We’ve got to watch the numbers each and every quarter to ensure nothing has gone awry beyond what’s normal and ultimately manageable. But Student Transportation remains a solid buy up to USD7 for those who don’t already own it.

What can go wrong at these companies? In the case of Poseidon Concepts, the biggest long-term threat is someone invents a better mousetrap. That could be a better way to store liquids used in hydraulic fracturing, or even some new method that eliminates or severely limits the water component of fracturing.

Offsetting this risk is the fact that the company’s contracts lock in its revenue. And, even if some other method was to pop up to deal with water in shale drilling, those would still have to be honored.

Moreover, one of the reasons the analyst community is so high on the stock is that the company really is cutting edge here–and there isn’t anything better on the horizon. That gives management a big head start to keep its edge, which it’s pursuing with a vigorous research and development program.

The second risk to Poseidon–as with every energy services company–comes from energy prices. Unlike PHX and other drilling-focused companies, Poseidon’s revenue doesn’t depend so much on producers’ plans for new drilling. But a prolonged slowdown in the energy patch caused by retrenching oil and gas prices would almost surely cut drilling activity further and limit opportunities to expand the business.

A brief look at Poseidon’s stock chart points out very clearly that investors have a “sell-first, ask questions later” mentality with this sector. And the damage can come swiftly if the mood strikes and selling momentum picks up. The stock also has a very limited trading and dividend-paying history.

On the plus side, recovery has been equally swift during this company’s relatively brief tenure. And it’s hard to argue the stock is anything but cheap right now, selling for only about 10 percent above its initial public offering price of CAD13 per share and with a yield well over 7 percent. Insiders have continued to add to their stakes in the company the past six months, now at 6.7 percent of total shares outstanding.

The bottom line: Buyers of Poseidon should be ready for volatility if energy prices move sharply lower in coming months. But the key numbers to watch in coming quarters will be those concerned with the company’s ability to expand its contract-focused business. So long as those are anything close to as favorable as second-quarter 2012 numbers were, any stock price dip will be a great buying opportunity.

As for Student Transportation, if the run-up to the recent earnings announcement is any guide we can expect the stock to remain a target of short-sellers that want to convince others its unconventional business model can’t work over the long term. That means there will almost certainly be negative opinions published that will stir selling of the stock, even if there’s no hard news to back them up. And the stock will only recover when the company answers forcefully by releasing more great numbers, announcing accretive growth initiatives and/or reiterating previous positive guidance.

In a very real sense, almost every high-yield company in today’s fearful market is at risk to this sort of thing, particularly if they’ve chosen to peg dividends to distributable cash flow rather than conventional earnings per share. Investors are trained to look at earnings per share, a point reinforced by the proliferation of standardized data bases. And the result is a whole host of stocks from corporations to master limited partnerships are undervalued.

We can’t do anything about that. But so long as Student Transportation is locking in long-term cash flow, there’s no reason to doubt it won’t be able to maintain and even increase its dividend over time. And that means any setback due to investor misunderstanding will be reversed in time, just as the rumor-fueled late July slide was.

Maintaining this momentum depends on controlling costs, particularly for fuel. And there is competition for Student Transportation, both from many government entities who don’t want to give up school bus system control and from other private companies. Based on numbers we have, however, the company is proving up to the task of locking in long-term business. And so long as that’s the case, it’s a great stock.

For more information on Poseidon Concepts, go to How They Rate under Energy Services. Student Transportation is tracked under Transports, the final group listing in How They Rate.

Click on their US symbols to see all previous writeups in Canadian Edge and Maple Leaf Memo. Click on the Toronto Stock Exchange (TSX) symbol to go to their Google Finance pages for a wealth of information, ranging from news releases to price charts. Click on their names to go directly to company websites.

Both of these companies are squarely in the mid-cap category. Eight months after its initial public offering, Poseidon’s market capitalization is roughly CAD1.2 billion. Student Transportation’s is a bit less than half that at CAD550 million. But it is directly traded in the US on the Nasdaq. There’s plenty of liquidity on both sides of the border for these stocks.

Research houses on both Bay Street and Wall Street also decently cover them. Student Transportation has six followers, with two “buy,” three “holds” and one “sell” rating among them. Poseidon, meanwhile, has already attracted coverage from 12 houses, 11 of which rate it a “buy.” That means plenty of visibility for both companies. Note the only house to rate either stock a sell is EVA Dimensions, which is known mostly as a short seller and has a wide range of such recommendations.

As is the case with all stocks in the Canadian Edge coverage universe, you get the same ownership whether you buy in the US or Canada. These stocks are priced in and pay dividends in Canadian dollars. Appreciation in the loonie will raise dividends as well as the value of your shares.

Dividends of both companies are 100 percent qualified for US income tax purposes. Neither was ever an income trust. Poseidon Concepts was spun out of a company that has now merged with Aggressive Holding Peyto Exploration and Development Corp (TSX: PEY, OTC: PEYUF).

Student Transportation, meanwhile, traded for many years as an income participating security (IPS), which combines debt and equity into a single high-yielding security. Management elected to buy back the bond portion of the IPS over a transition period that began in 2007 and has paid a single common stock dividend since.

Canadian investors enjoy favorable tax status for both companies, as they do for all Canadian corporations. For US investors, dividends paid by either company into a US IRAs aren’t subject to 15 percent Canadian withholding tax, though they are withheld at a 15 percent rate if held outside of an IRA.