Inside the Market's roundup of some of today's key analyst actions
In upgrading his rating to "buy" from "hold," Mr. Yaghi pointed to several key factors, including:
-The stock's underperformance (up 5 per cent in the last three months versus 12 per cent for its peers in U.S. dollar terms).
Mr. Yaghi said: "Since we downgraded the name on April 13, CGI's stock has significantly underperformed its peers and the overall market. During this period, the stock lost 4.6 per cent while the TSX gained 3.4 per cent. … CGI's stock has gained 5.3 per cent over the last three months, while IT outsourcing companies, IT consultants and hardware/IT companies have gained 23.1 per cent, 11.5 per cent and 15.2 per cent, respectively. These movements in relative valuation lead us to believe that the recent underperformance of CGI's shares leaves room for better relative price performance going forward."
-Expansion in its EBITDA multiple discount versus Accenture (enterprise value/EBITDA multiple is now 3.2 times from 2.4 times in April). The analyst said there is not "any apparent reason to justify such a gap."
-The expectation of the resumption of organic revenue growth in the third quarter.
Mr. Yaghi said: "Following 2Q FY16 results, consensus expectations of 3.0-per-cent organic revenue growth for 3Q FY16—which we viewed as aggressive—has now been reduced to 0.3 per cent; we see this as achievable and increases the odds of CGI meeting or beating expectations. We continue to forecast 0.5-per-cent organic growth."
Mr. Yaghi said the assumption that organic revenue growth will occur increases the probability for M&A activity, adding that probability "can't be ignored anymore."
"Historically, we have tended to assign our target and recommendation solely on the basis of our organic FCF [free cash flow] generation estimate for the company and have assumed cash would be allocated to buying back shares," the analyst said. "However, a few factors need to be considered at this point. First, given we anticipate CGI will begin to generate organic revenue growth in 3Q FY16, we believe management is in a much more comfortable position to be more aggressive in looking for targets as operations have now been stabilized and show a trend toward improving growth in FY17. Second, CGI's stock valuation multiple has improved over the last few years, making it more attractive to look for targets, especially in the European market where companies trade at a lower valuation than in North America. Third, CGI's balance sheet has been significantly delevered in recent years, with current net debt to EBITDA at a very comfortable 1.0x, leaving management with more than enough room to roll out its build-and-buy strategy. All this considered, and given the underlying improvement in the company's operations, we believe investors now need to be more willing to pay up for future acquisitions as the probability that acquisitions will occur later this year has increased."
He maintained his price target for the stock of $66.50. The analyst consensus price target is $62.08, according to Thomson Reuters.
Despite another "solid" quarter from Descartes Systems Group Inc. (DSGX-Q, DSG-T), Beacon Securities analyst Gabriel Leung said it's "time for a breather pending additional catalysts."
With the stock trading around his target price, Mr. Leung downgraded his rating to "hold" from "buy" as he awaits an acceleration in organic growth as well as the possibility of the execution of a "more substantial acquisition."
On Thursday, the Waterloo, Ont.-based global provider of on-demand, cloud-based software-as-a-service (SaaS) solutions reported first-quarter 2017 revenue and EBITDA of $48.9-million and $16.6-million, respectively. Both results topped Mr. Leung's forecast of $48.6-million and $16.2-million.
Overall, he said the results held no surprises, emphasizing the company's "tight cost discipline" as seen in its "strong" 34-per-cent EBITDA margins and free cash flow of $14.6-million.
"Recall that the company did recently increase its credit facility to $150-million from $77-million (now $10.9-million drawn) and it did file a new shortform base shelf prospectus (to replace an existing one that was set to expire in May 2016)," the analyst said. "Bottom-line, the company has sufficient liquidity to maintain its base operations and to augment it with acquisitions."
He raised his price target to $21 (U.S.) from $20. The analyst average target price is $21.92, according to Bloomberg.
"In our opinion, the company remains a safe bet for investors looking for stable business that should continue to benefit from M&A activity," he said.
Elsewhere, Industrial Alliance analyst Blair Abernethy also downgraded the stock to "hold" from "buy" while maintaining his $21 target.
Credit Suisse analyst Kevin Choquette raised his target prices for a trio of Canadian banks in reaction to their second-quarter financial results.
1. Royal Bank of Canada (RY-T) to $96 from $95. The analyst average is $81.04, according to Bloomberg.
He maintained his "outperform" rating for the stock and its place on Credit Suisse's focus list, citing "strength of operating platforms, particularly in capital markets and Canadian Bbanking, earnings leverage from City National as well as high profitability and modest valuation premium."
2. Canadian Imperial Bank of Commerce (CM-T) to $112 from $108. Average is $101.83.
He kept his "underperform" rating "based on high exposure to unsecured consumer credit, slowing earnings and dividend growth and lower growth profile."
3. Toronto-Dominion Bank (TD-T) to $68 from $65. Average is $58.36.
He did not change his "outperform" rating, "based on earnings growth expected from higher interest rates in the U.S., U.S. business lending, moderate expansion in capital markets platform and strong North American retail franchise with best in class retail deposit base."
Advantage Oil & Gas Ltd. (AAV-T, AAV-N) has a "simple but powerful ground game," said Raymond James analyst Kurt Molnar.
He initiated coverage of the stock with an "outperform" rating.
"In marathon tennis matches the term 'advantage' can swing back and forth repeatedly in a final game to decide a match," Mr. Molnar said. "Often the winner of such matches is the player that is in the best condition, not necessarily the player with the most skill. In this regard, we believe Advantage Oil & Gas has engineered a very strong business model that is both 'skilled and conditioned.' In short, if we are entering a time where the sheer abundance of natural gas in North America presents a scenario with modest upside potential in the commodity price strip, along with the ongoing potential for Mother Nature derived down-cycles in natural gas, then a lean gas business model must be: very low cost (both PDP capital costs and cash costs); strong financially (balance sheet ratios and liquidity); well hedged (both percentage of production and at prices at or above the current strip); and most importantly, with real marginal economics that compete with the best of the lean gas peers."
Mr. Molnar said the company's ownership of its growing plant and pipe infrastructure has been key to its ability to maximize shareholder leverage to its "relatively" diverse and large resource base.
"With lean gas, economies of scale that can be achieved through ownership in infrastructure are critical to maintaining maximum leverage to reduced operating costs," he said. "While virtually all lean gas producers have had leverage to gains in capital efficiency as frack methods improved, only those that have retained their ownership in plant infrastructure have retained the potential for sustaining a meaningful reduction in cash costs."
He added: "The Advantage story is easy to consider. They have a great asset with a very deep drilling inventory and incremental blocks of land that add to less defined inventory (in terms of marginal returns) but also offering intriguing potential for improved marginal returns. Retained ownership of infrastructure has allowed the company to simultaneously maximize control of their assets, and deliver results in line with guidance they have given the market. The company has coupled all that with very conservative balance sheet management, a capital program that often reaches out 12- 18 months in operational relevance and an active hedging approach to minimize exposure to a natural gas price curve that is too commonly dominated by negative volatility more than positive volatility."
He set a price target of $9.25. Consensus is $9.31.
"We think Advantage can claim all these strengths and therefore has the potential to earn 'match point' for its equity investors in a natural gas macro that may remain a gruelling match in the short to medium term (modest natural gas prices)," the analyst said. "However, in our opinion, those that stay in the game the longest have the potential for greatest reward if they make it through to a scenario where natural gas prices can climb to higher sustained levels."
Shares of U.S. tech company Splunk Inc. (SPLK-Q) are poised for a breakout after 420 days "in the dunk tank," according to Canaccord Genuity analyst Richard Davis.
He called the San Francisco-based cybersecurity firm one of his favourite mid-cap growth names, and suggested investors use any derivative-driven weakness to add positions.
"Investors are gradually coming around to our supposition that Splunk 1) is the leader in a comparatively less competitive segment, 2) the security push should keep revenue growth above 30 per cent and, therefore, 3) our FCF [free cash flow] estimates are probably pretty close to reality – and that means SPLK has an EV [enterprise value]/FCF of about 26x on 2017, which is less than 1.0x the firm's growth rate," he said. "In our experience buying a software stock for less than 1.0x EV/FCF/G is frequently a precursor to above market stock price returns. As often happens with good companies whose valuations get too high, SPLK has marked time since late September 2014, the company has grown, and the multiple has compressed to an attractive level. Investors understandably move on and lose interest during these adjustment periods, but we believe the company and stock are worth looking at, and well, buying again."
On Thursday, Splunk reported first-quarter 2017 financial results with revenue, operating margins and FCF exceeding Mr. Davis's projections. He called it a "strong" quarter overall.
"Splunk raised full year revenue guidance by $16-million to $896-million at the high end," he said.
"Despite the revenue increase, non-GAAP operating margins were maintained at 5%, which represents a 120 basis points [bps] improvement year over year. Operating cash flow is still expected to be roughly 23 per cent of revenue for the year, or $206-million based on the revised high-end of guidance. We remind investors that Splunk is expecting elevated capex levels this year, which will keep FCF margin expansion to a modest 120 bps by our estimates. We expect over 400 bps of FCF margin improvement in F2018 as FCF returns to more normalized levels."
He maintained a "buy" rating and raised his target price to $65 (U.S.) from $60. The analyst average is $67.03.
In other analyst actions:
CAE Inc (CAE-T) was raised to "outperform" from "neutral" at Macquarie by equity analyst Konark Gupta. The 12-month target price is $18 (Canadian) per share.
Enerflex Ltd (EFX-T) was rated new "outperform" at National Bank by equity analyst Greg Colman. The 12-month target price is $12.70 (Canadian) per share.
EMC Corp (EMC-N) was downgraded to "neutral" from "buy" at Longbow Research by equity analyst Joe Wittine. The 12-month target price is $28 (U.S.) per share.
Guess? Inc (GES-N) was raised to "hold" from "sell" at Miller Tabak + Co by equity analyst Rick Snyder. The 12-month target price is $15 (U.S.) per share.
Monsanto Co (MON-N) was downgraded to "neutral" from "overweight" at Atlantic Equities by equity analyst Colin Isaac. The 12-month target price is $105 (U.S.) per share.
Patterson Cos Inc (PDCO-Q) was downgraded to "hold" from "buy" at Evercore ISI by equity analyst Ross Muken. The 12-month target price is $48.50 (U.S.) per share.
PayPal Holdings Inc (PYPL-Q) was rated new "hold" at Needham & Co. by equity analyst Mayank Tandon.
Ritchie Bros Auctioneers Inc (RBA-N) was rated new "sector weight" at KeyBanc by equity analyst Joe Box.
Terex Corp (TEX-N) was downgraded to "hold" from "buy" at Evercore ISI by equity analyst David Raso. The 12-month target price is $21 (U.S.) per share.
Workday Inc (WDAY-N) was downgraded to "underperform" from "neutral" at Wedbush by equity analyst Steven Koenig. The 12-month target price is $63 (U.S.) per share.
With files from Bloomberg News