Inside the Market's roundup of some of today's key analyst actions
Expecting its $2.85-billion (U.S.) acquisition by private investment firm Starwood Capital Group to close, Raymond James analyst Ken Avalos downgraded his rating for Milestone Apartments Real Estate Investment Trust (MST.UN-T).
On Thursday, the REIT announced Starwood will pay $16.15 (U.S.) in cash per Milestone Apartments unit. That equates to about $21.47 (Canadian), which represents a premium of 9.2 per cent to the unit's close of $19.66 on Wednesday.
"We think the deal will be approved by unitholders and closes," said Mr. Avalos. "Economically, management feels the deal post-capex reserve is really closer to the mid 5's per cent, in line with Real Capital Analytics estimate of 5.6 per cent on average for U.S. B class apartments."
Accordingly, Mr. Avalos lowered his rating to "market perform" from "strong buy."
"The offer equates to a 5.8-per-cent cap rate (versus a 6.1-per-cent implied cap rate at Wednesday's close and a 6.3-per-cent International Financial Reporting Standard cap rate) and implies an average price per apartment unit of $120,000 U.S. (versus a book value of $110,000 per unit)," said Mr. Avalos. "We would note that of the U.S. multi-family takeouts since mid-2013, this is the third-largest premium paid (on a 30-day volume weighted average price basis – 16 per cent). There is no change of control premium but the 5.3 million in Class B units that management received as part of the September 2016 internalization will all vest."
"There is a $53-million U.S. break fee payable to Starwood should Milestone accept a superior proposal. There is also a $100-million reverse break fee payable to Milestone should Starwood terminate the transaction. The offer has the full support of management, which owns 12 per cent of the REIT. The break fee would require a competing bidder to put at least 60 cents U.S. on top of the current bid just to get even, and more to sweeten the deal, which we think would be very unlikely."
Mr. Avalos had a target price of $21 for Milestone. The analyst consensus price target is $22.96, according to Thomson Reuters.
"At the current market price (which is slightly above the takeout price, we think due to the distributions to be received), Milestone trades at a 14-per-cent premium to our net asset value of $14.30 U.S. ($19 Canadian). With minimal upside from current levels, we are dropping Milestone to a Market Perform."
Elsewhere, several other analysts downgraded the stock in the wake of Thursday's announcement, including:
- CIBC World Markets' Dean Wilkinson to "neutral" from "outperform" with a target of $22 (down from $22.50).
"While we have held the view that Milestone could have been a candidate for M&A activity from a potential large U.S. based acquirer, we were admittedly somewhat surprised by the timing of the announcement, noting that the asset management function of the REIT was recently internalized at a cost to the REIT, generating an approximate $12.5-million annualized savings which only enured to the REIT's benefit for a limited period," said Mr. Wilkinson.
"Given the friendly nature of the offer, and Starwood's right to match any competing bid, we put the odds of an interloper bid as low at this point. While we suspect many investors would have preferred to see some reflection of the valuation of the platform (and recent internalization) in the offer we don't anticipate an increase thereto."
- Industrial Alliance Securities' Brad Sturges to "hold" from "strong buy" with a target of $22 (from $23.75).
- Laurentian Bank Securities' Ewa Kiwa to "hold" from "buy" with a target of $21.50 (from $21).
Though he admires its "premium assets, strong business model, and good track record," RBC Dominion Securities analyst Gary Bisbee said stock of Verisk Analytics Inc. (VRSK-Q) is now fairly valued.
Citing "recent organic growth deceleration and lingering concerns tied to its WoodMac acquisition," Mr. Bisbee initiated coverage of the Jersey City, N.J.-based data analytics provider with a "sector perform" rating.
"We believe that Verisk's data assets are among the most unique in the information services space and serve as a key competitive advantage," the analyst said. "Within its Insurance and Financial Services businesses, the company operates attractive contributory models where industry participants provide their data at little to no cost and then pay the company for the aggregated industry data and other offerings. Verisk's Energy & Specialized business leverages an extensive proprietary database and deep industry expertise to provide unique, high-valued offerings. In all businesses, the company's offerings are deeply embedded in customer workflows. We believe that Verisk's industry-leading 50-per-cent EBITDA margins and 95-per-cent-plus client retention rates are strong evidence of the value that its offerings provide to its customers."
"Verisk's organic revenue growth has slowed in the last year to [about] 5 per cent from the more typical 7–8 per cent. Factors that have impacted growth include some softness and consolidation in reinsurance markets, quiet storm seasons in recent years, delayed implementations of select new business (Q3/16), and weak energy market demand at Wood Mackenzie. Though modest insurance reacceleration is possible, we see WoodMac revenue lagging the rebound in oil prices, and we forecast flattish growth from this business in 2017. As a result, we forecast that the recent 5-per-cent pace of organic revenue growth will continue through 2017, which is likely to keep a lid on organic profit growth and also valuation in the near term. Looking beyond 2017, we believe that modest reacceleration is likely assuming that energy markets continue to rebound."
Mr. Bisbee touted the company's "disciplined" capital allocation strategy, which he said prioritizes capital expenditures as well as "strategic" acquisitions while also repurchasing its shares. He called its acquisition strategy "a big success" with purchasing broadening its offering its offerings and expanding its market.
"Verisk has also earned attractive financial returns on M&A, which has driven healthy shareholder value creation," he said.
"While it remains early, the significant 2015 acquisition of Wood Mackenzie appears to be an exception to the company's disciplined history, as the high price paid (17.3x EBITDA), poor timing relative to energy end-markets, and resulting lack of growth through ~18 months of ownership would indicate. Our analysis of the acquisition economics indicates that Verisk will struggle to earn its cost of capital even assuming a strong rebound in growth and margins over time. Verisk remains bullish on the long-term potential for the business to grow above the corporate average, and also for the WoodMac team and infrastructure to help it scale its insurance business into overseas markets. While this bullishness may prove accurate, we believe a modest valuation discount versus Verisk's history is appropriate to account for the weaker returns this acquisition will likely deliver."
Mr. Bisbee set a price target of $88 (U.S.) for the stock. Consensus is $87.27.
"Our neutral view on Verisk shares is driven by our view that it is fairly valued amid a slowdown in growth that is likely to persist throughout 2017," he said. "As a result, factors that could get us more positive on the stock include: 1) a faster than expected rebound in WoodMac growth; 2) evidence of increased success in expanding the insurance business overseas; or 3) well received future scale M&A."
After better-than-expected fourth-quarter 2016 financial results, RBC Dominion Securities analyst Walter Spracklin raised his target for shares of Union Pacific Corp. (UNP-N).
"Despite continued degradation in pricing and forecast for further pressure into 2017, UNP delivered a solid Q4 on improved O/ R [operating ratio]," said Mr. Spracklin. "Looking to 2017, management did not provide EPS guidance and was muted on the guidance they did provide (low double digit volumes and (unquantified) O/R improvement). Accordingly, we see 10-per-cent EPS growth as reasonable, and at a 16.9 times multiple, the shares as fairly valued."
On Thursday, the Omaha-based railway reported quarterly earnings per share of $1.39 (U.S.), topping the projections of both Mr. Spracklin and the Street of $1.33. He pointed to the company's operating ratio, which was 98 basis points better than he anticipated, as the chief factor in the variance.
"Based on the better than expected Q4 / 16 EPS and guidance that points to improving 2017 demand, pricing and O/R, we would characterize these as overall positive results," he said. "We do caution however that the positive guidance is contingent on a strong 2H17. Accordingly, we are modeling in-line with this view and in the remainder of this report detail guidance and our outlook."
"Though an explicit 2017 O/R target was not provided, management is guiding for an improvement, driven by productivity improvements of $350-million to $400-million. Combined with guidance for positive full-year volume growth, we think a full-year O/R improvement is achievable. However, we expect the improvement over 2017 will be lumpy given management's comments that 1H17 will still be challenging in terms of pricing and demand. As such, we are modeling for the most significant O/R gains during 2H17. For the full-year, we are now forecasting for a 62.9-per-cent O/R (from 63.2 per cent)."
Citing a "more positive outlook" on volume, pricing and operating ratio, Mr. Spracklin raised his 2017 and 2018 EPS estimates to $5.67 (U.S.) and $6.30 from $5.50 and $6.05.
His target jumped to $115 from $111 with a "sector perform" rating. Consensus is $110.36.
"Our constructive outlook on the rail sector is based on the industry's unique characteristics: 1) limited and rational competition; 2) high barriers to entry; and 3) sustainable demand," said Mr. Spracklin. "We expect these attributes to drive real rate increases, volume growth, and margin expansion over the long-term supported by service improvements, efficiency initiatives, and the implementation of smart technology. With stable capital expenditure requirements and clean balance sheets, we believe that the industry is positioned to generate increasing free cash flow that will in turn drive up shareholder returns through sustained growth in dividends and share repurchases."
Elsewhere, Credit Suisse analyst Allison Landry maintained an "outperform" rating for the stock and raised her target to $118 from $117.
"Management's low-single digit volume growth outlook confirmed our expectation for a return to growth in 2017, and the reiteration of inflation-plus pricing assuaged concerns (though the progression of core price remains unclear, we suspect it will rise with volumes)," she said. "We also anticipate the $350-million to $400-million of targeted productivity savings will drive solid incremental margins on the back of an improved volume environment. Layering in buybacks, we expect double-digit EPS growth at UNP this year. Further, the company's modest capex forecast sets the stage for FCF [free cash flow] conversion to remain in the 90-per-cent range in 2017 (we note that our estimate implies a FCF yield of 5 per cent on the current share price), and .... we think lower capex intensity at UNP can be sustained."
Touting its "premium" growth and "compelling" valuation, Credit Suisse analyst Omar Sheikh reinstated coverage of CBS Corp. (CBS-N) with an "outperform" rating.
Mr. Sheikh said: "We are bullish on CBS given: (1) superior structural positioning, with zero exposure to generalist domestic cable networks and control over 'must-have' premium serialized drama and comedy content; (2) strong growth in retransmission/reverse compensation fees, driven by the consumer value of CBS broadcast network content and its low price relative to cable networks; (3) growth potential in content licensing revenues, particularly in non-US markets where OTT [over-the-top content] customers are proliferating and where US content remains in high demand; and (4) we are constructive on TV advertising at least maintaining its current share of advertising over the long term, given its reach and effectiveness for brand advertising."
He raised his 2017 earnings per share estimate to $4.13 (U.S.) from $4.09, but his 2018 and 2019 projections fell to $4.49 and $5.31, respectively, from $4.67 and $5.50. He cited "slightly reduced ad growth expectations due to weak NFL ratings and slightly higher programming costs due to the slate of planned originals for CBS All-Access."
His target price for the stock remains $75 (U.S.). Consensus is $67.38.
In other analyst actions:
Mr. Gerdes also upgraded Devon Energy Corp. (DVN-N) to "buy" from "accumulate" with a target of $53 (U.S.), rising from $50. The average is $52.74.
Alacer Gold Corp. (ASR-T) was downgraded to "neutral" from "outperform" at Macquarie by analyst Michael Gray. His target rose to $2.35 from $2.25. The average is $3.21.
Goldman Sachs Group Inc. (GS-N) was raised to "market outperform" from "market perform" at Vining Sparks by analyst Marty Mosby. His target remains $255 (U.S.), compared to the average of $250.25.
Aegis Capital Corp. analyst Victor Anthony initiated coverage of Amazon.com Inc. (AMZN-Q) with a "buy" rating and $953 (U.S.) target. The average is $945.23.
Sandler O'Neill & Partners, LP analyst R. Scott Siefers downgraded KeyCorp (KEY-N) to "hold" from "buy" and lowered his target by a dollar to $19 (U.S.). The average is $19.81.
Cowen analyst Steven Scala downgraded Bristol-Myers Squibb Co. (BMY-N) to "market perform" from "outperform." He lowered his target to $65 (U.S.) from $85. The average is $60.23.
RBC Capital Markets analyst David Palmer upgraded General Mills Inc. (GIS-N) to "outperform" from "sector perform" with a target of $68 (U.S.). The average is $63.31.
Buckingham Research Group analyst Joshua Pokrzywinski upgraded Rockwell Automation Inc. (ROK-N) to "buy" from "neutral" with a target of $162 (U.S.), up from $130. The average is $136.39.