Tuesday’s analyst upgrades and downgrades

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Inside the Market's roundup of some of today's key analyst actions

Though he thinks a premium valuation is warranted for Raging River Exploration Inc. (RRX-T) given its growth profile and the strength of its balance sheet, Canaccord Genuity analyst Anthony Petrucci is "taking a breather" from the stock following the release of its first-quarter results.

Upon taking over coverage of the company from colleague Dennis Fong, Mr. Petrucci downgraded it to "hold" from "buy."

"RRX has done a remarkable job of creating value over the last five years, perhaps not surprising given the enviable track record of management," he said. "With industry-leading netbacks, RRX's Viking remains highly economic, despite prevailing commodity prices. We believe, however, that RRX shares are currently fairly valued in the context of current commodity prices, when considering the company's higher than average decline rate and sustaining costs. That said … the company has initiatives at work (new play development and waterflood pilots) that could serve as significant catalysts for the stock."

On Monday, the Calgary-based company reported quarterly production of 22,775 barrels of oil equivalent per day, topping the Street's expectation of 22,300 boe/d. Cash flow per share of 31 cents met the consensus.

"RRX has shown the highest production per share growth amongst oil-weighted E&P peers over the last three years (2013 to 2016) with a CAGR [compound annual growth rate] of 47 per cent," said Mr. Petrucci. "We forecast that its growth will remain amongst the best in class over the next two years (CAGR of 20 per cent 2016 to 2018).

"RRX's ability to continue to add value at an accelerated pace is challenged by the higher decline of the company's current production (approximately 40 per cent). We calculate the company's half cycle capital efficiencies at $20,000/bbl, which is in line with the average for the oil weighted peer group."

Mr. Petrucci stressed that RRX is fairly valued based on the current market, but he pointed to a pair of events, beyond higher commodity prices, that could lead him to become more bullish. He's looking toward the company making "a favourable move into another economic play" with management hinting at a new play development as well as "demonstrated success in the company's waterflood efforts."

He lowered his target price for the stock to $10 from $11.50. The analyst consensus price target is $12.33, according to Thomson Reuters.

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InterRent Real Estate Investment Trust (IIP.UN-T) is poised to double up its peers on all growth metrics, according to Raymond James analyst Ken Avalos.

On Monday, the Ottawa-based REIT reported first-quarter funds from operations per unit of 9 cents, in line with expectations and up 11 per cent year over year.

Same property net operating income growth came in at 8.2 per cent. Mr. Avalos pointed out InterRent has averaged 7 per cent over the last 10 quarters, which is more than triple its Canadian peers.

"With an SP [same property] margin that is still 70-100 basis points below peers and 620 suites within their stabilized portfolio undergoing repositioning work that will yield 15-20-per-cent IRRs [internal rates of return], we think the REIT is poised to deliver 5-per-cent-plus SPNOI growth over the next two years at least."

Calling the acquisition market "frothy and shifting," he said: "Cap rates continue to work their way downwards, especially in Ontario where less-than 4-per-cent cap rates are now being seen in Hamilton. Though still on the lookout in the GTA, management is looking more closely at Montreal. In line with this, in March, InterRent completed the acquisition of 224 suites in Montreal for $24-million ($107,000 per suite), equating to a 5.3-per-cent cap rate. Rents were initially less-than $800 per suite, but management are already seeing 10-12-per-cent lifts, without any upfront capex."

Mr. Avalos did lower his FFO per unit projections for 2017 and 2018 to 42 cents and 46 cents, respectively, from 44 cents and 48 cents.

His target for the stock rose to $8.50 from $8.25. Consensus is $8.65.

"Over the last two years, InterRent has delivered SPNOI, FFO and NAV [net asset value] growth that have at least doubled up their Canadian apartment peer," he said. "We think this is likely to continue, at least through 2018, with rent growth and margin expansion potential left in the stabilized portfolio, repositioning work ongoing at 3,500 suites, and development poised to begin. We are maintaining our Outperform rating on the stock."

Elsewhere, Desjardins Securities analyst Michael Markidis raised his target to $8.75 from $8.50 with a "buy" rating.

"IIP's earnings and NAV growth potential are unparalleled in our coverage universe," said Mr. Markidis. "It is our pick in the multi-family residential segment."

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Industrial Alliance Securities analyst Blair Abernethy expects near-term weakness for Open Text Corp. (OTEX-Q, OTEX-T) stock following weaker-than-expected third-quarter financial results.

"Longer term, OpenText's recurring revenue base, cost discipline and active acquisition pipeline should enable the stock to recover," he said.

On Monday after market close, the Waterloo, Ont.-based tech company reported quarterly revenue of $593-million (U.S.), below the projections of both Mr. Abernethy ($614-million ) and the Street ($604-million). In explaining the miss, the analyst pointed to issues surrounding the integration of Dell EMC's Enterprise Content Division (ECD), which was acquired in transaction that closed in February.

OpenText reported adjusted earnings per share of 45 cents, also below the 52-cent expectation of both Mr. Abernethy and the Street.

"In our view, license revenue underperformed in Q3 coming in at $87-million versus our $98-million estimate, down sequentially from $98-million in Q2 (prior to ECD), leading us to view the ECD license contribution as very weak in Q3," said Mr. Abernethy. "Professional services of $65-million was also below our $75-million estimate, with much lower margins due underperforming contracts at ECD."

"Gross margins were lower as service margins and lower than modeled licenses weighed. On its call, management commented that the ECD business had low teens margins in this transitional quarter, well below expected margins in excess of 20 per cent. As the integration and restructuring continues over the next few quarters, OpenText remains confident that the overall business will achieve its margin targets for F17."

In response to the results, Mr. Abernethy lowered his fourth-quarter and fiscal 2018 estimates "marginally." However, he said OpenText will "quickly" complete the ECD integration and drive improved margins.

His 2017 adjusted EPS projection is now $1.91, down from $2.08. His 2018 estimate is $2.32, from $2.51.

Maintaining a "buy" rating, his target for the stock fell to $35 (U.S.) from $37. Consensus is $37.94.

"In terms of valuation, OpenText is trading at 18.3 times fiscal 2017 estimated Adj. EPS," he said. "Comparable Enterprise Software companies are generally trading in the low to upper teens price-to-earnings range. We believe a 13-16 times P/E is appropriate for OpenText at this time given its profitability, market position, high level of recurring revenue, and low organic growth rate. OpenText is trading at 6-7 times enterprise value/recurring revenue, which in our view is a significant premium for the Company given its organic growth rate. We remind investors that OpenText has an ongoing tax dispute with the IRS, and have increased the potential liability to $575-million this quarter to reflect the passage of time (as of July 2015); on the call management noted that it does not have any material updates on this matter."

Meanwhile, BMO Nesbitt Burns analyst Thanos Moschopoulos lowered his target by a dollar to $38 (U.S.) with an "outperform" rating.

"Open Text reported Q3/17 results that were light," he said. "In our view, the miss stemmed primarily from lower-than-expected margins at the acquired ECD business, and a license shortfall at the pre-existing Open Text business. We wouldn't read too much into either, given that the former seems to be transient while the latter seems to be a recurring issue every March quarter (perhaps indicating a growing level of seasonality in the business?)."

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Credit Suisse analyst Michael Nemeroff raised his target for Shopify Inc. (SHOP-N, SHOP-T) after hosting several institutional investor meetings with its management.

He said the meetings reinforced his positive view on the Ottawa-based software maker's "strong" business momentum and its "leadership position" in the commerce platform market.

"Most of the questions were centered on the company's 'real' addressable market opportunities and near-term/long-term growth drivers," said Mr. Nemeroff. "We continue to believe that 2017 revenue growth guide of 58-62 per cent year over year could prove to be conservative as the company has yet to fully monetize/capitalize on many growth initiatives, including: (1) Shopify Plus (raised pricing + stronger retention rates = much higher Monthly Recurring Revenue - MRR); (2) Shopify Capital (increases stickiness of SHOP's platform); (3) Shopify Shipping (still early innings of penetration given compelling cost savings to merchants); and (4) Shopify Wholesale (newly introduced channel addressing the large B2B market)."

"Our Outperform rating on SHOP shares is due to: (1) the company's leading integrated cloud-based commerce platform; (2) the secular trend towards eCommerce and convergence of multiple retail sales channels (digital and brick-and-mortar); (3) its highly extensible platform with a large third-party ecosystem; (4) significant technological advantages over peers; (5) a unique pricing model that scales with its customers' success; and (6) numerous growth initiatives (Shopify Plus, Capital, Shipping, wholesale, international opportunity), which we believe position the company for sustainable strong revenue growth over the next several years, at least."

Mr. Nemeroff's target rose to $95 (U.S.) from $90. Consensus is $90.38.

"Our new $95 target price implies 2018 enterprise value/sales of 11 times (which could be lower if SHOP continues to grow revenues above expectations)," he said. "We believe a premium multiple to the subscription software peer group is warranted given SHOP's unique cloud-based commerce platform and high value proposition as evidenced by its significant merchant/MRR momentum."

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TD Securities analyst Shahin Amini said he's attracted to International Petroleum Corp. (IPCO-T) because of its "exceptional" leadership and management.

He initiated coverage of the stock with a "buy" rating.

IPC is a spin-off by Lundin Petroleum AB of its non-Norwegian producing assets. On April 24, all of the common shares of IPC were distributed to the shareholders of Lundin Petroleum and commenced trading that day on the TSX and Nasdaq First North.

"In our opinion, the rationale for the spin-off was simple and sound," said Mr. Amini. "IPC's assets were no longer material to Lundin Petroleum given the scale of its Norwegian operations. However, they still constitute a quality asset portfolio that generated $100-million of free cashflow last year, and is estimated to generate around $100-million in 2017 (TD's estimate) net of capital investments.

"IPC's producing fields provide a strong platform for a highly-experienced team, one with a demonstrated track-record of substantial shareholder value creation, to pursue near-term organic growth opportunities as well as execute an acquisition-led strategy. The company's objective of growth through acquisitions may not be viewed as unique in the current market, with many other management teams seeking opportunities in what is perceived as the downward part of the commodity cycle."

Mr. Amini said IPC differentiates itself by being a member of the Lundin Group. Accordingly, it also "benefits from strong shareholder support, and an extensive and diverse network of industry and capital market relationships."

"Investors have the opportunity to back this team at the genesis of the company, with the benefit of existing positive cash-flow operations and a strong balance sheet," he said.

Mr. Amini set a target of $7.50.

"In our opinion, IPC's last closing share price presents a valuation that is attractive relative to the company's peers," he said. "IPC is trading at 2.1 times 2017 estimated enterprise value/debt-adjusted cash flow, which compares to an average of 4.0 times for its closest peer group, despite our view of its lower country risk profile and concentration of 2P value in de-risked producing assets. In summary, we recommend IPC as an investment opportunity based on our view of the quality of its leadership team, assets, our belief that the management will secure accretive deals and for its existing shareholder support."

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Secular pressures are likely to leave Cisco Systems Inc. (CSCO-Q) stock in a near-term trading range, said BMO Nesbitt Burns analyst Tim Long.

"While Cisco has made progress in generating an increasing percentage of revenue from recurring sources, the shift will likely take a long time to play out," he said. "The stock has had a good run over the past few years, and we now see the risk reward as balanced."

Expecting its "evolution to a recurring revenue model" to take longer than expected to develop, he downgraded the stock to "market perform" from "outperform."

"Cisco has clearly articulated its vision to derive a greater percentage of its business from software and to increase recurring revenues," said Mr. Long. "Nearly all of the acquisitions the company has made over the past few years fit this profile, and recurring revenues have increased from around 25 per cent of sales in 2015 to 31 per cent in its most recent quarter. Currently, most of Cisco's recurring revenues are related to its Services segment, although the company's primary focus is to increase the percentage of product revenue that is recurring. While that transition is still in the early stages, Cisco's recurring product revenue has grown to 10 per cent of product sales versus roughly 5 per cent exiting fiscal year 2015. The side effect of this transition is that revenues are somewhat depressed in the near term, with Cisco estimating a 1.5-2-per-cent headwind to total revenue. While the headwinds should moderate and recurring revenues will continue to increase as a percentage of sales, the pace of the transformation implies a slow but steady build that will take multiple years to play out. Thus, we do not believe the transformation is a reason to be buying CSCO shares today."

He lowered his target to $35 (U.S.) from $37. Consensus is $35.66.

"Cisco's valuation is still reasonable, particularly on an EV/FCF [enterprise value to free cash flow] basis," said Mr. Long. "That said, we do not expect further multiple expansion and believe the company's growth prospects are inferior to those of many of its large-cap tech peers. Separately, Cisco remains one of the only large-cap tech companies to still exclude options from its non-GAAP results. Therefore, we will now include options in our price target."

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In other analyst actions:

National Bank Financial analyst Dawoon Chung initiated coverage of Automotive Properties Real Estate Investment Trust (APR.UN-T) with an "outperform" rating and $11.75 target. The analyst average is $11.58, according to Bloomberg data.

Laurentian Bank Securities analyst Barry Allan initiated coverage of Klondex Mines Ltd. (KDX-T) with a "buy" recommendation and target of $6.15. The average is $6.66.

Dundee Securities Corp analyst Stephen Theriault upgraded National Bank of Canada (NA-T) to "buy" from "neutral" with a target of $60. The average is $59.50.

Brookfield Renewable Partners LP (BEP-N, BEP.UN-T) was rated new "outperform" at Wells Fargo Securities by analyst Glen Pruitt with a target of $35 (U.S.). The average is $31.16.