Tuesday’s analyst upgrades and downgrades

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

The sustained poor performance of Trican Well Service Ltd.'s (TCW-T) stock has led the Street to significantly undervalue the Calgary-based company, according to Raymond James analyst Andrew Bradford.

"Trican's stock (as a distinct notion from the company itself) has been the worst performing among the Canadian pressure pumpers over the last week, month, 90- days…etc," he said. "Indeed, it has been the worst performing stock within our OFS coverage universe, though still somewhat better than most dry-gas-weighted producers."

"The market rout has left TCW priced at just 2.7 times 2018 estimated EBITDA and 1.6 times 2019. Maybe more poignantly, TCW is now priced at 4.6-times trailing EBITDA – the lowest among our coverage group, micro-caps included."

That valuation led Mr. Bradford to upgrade his rating for Trican to "strong buy" from "outperform" and add it to the firm's "Canadian Analyst Current Favourites" list.

"The market is effectively valuing TCW's fracturing fleet at $600 (US$470) per unit horsepower (RJL estimate using Keane shares at Market Value) ," the analyst said. "The replacement cost of fracturing equipment is closer to $1,500/hp (C$, including ancillary equipment and infrastructure). In other words, the market is pricing TCW's equipment at 40 per cent of replacement cost.

"Looking at it another way, we estimate TCW will have generated $250 EBITDA per unit horsepower over the 12-months ended March 2018. This means the market is effectively pricing Trican's fracturing business at 2.4x trailing EBITDA. We estimate TCW's horsepower will generate $325 per unit horsepower through calendar 2018, implying 1.9 times forward fracturing EBITDA."

Mr. Bradford expects Trican to report fourth-quarter earnings before interest, taxes, depreciation and amortization (EBITDA) of $57-million, just below the consensus, when it reports financial results on Feb. 21.

"In short, top line fracturing demand dropped as much as 15 per cent to 20 per cent sequentially in 4Q," he said. "No doubt, this was in part a function an early completion of producer capital programs. But we are also suspicious that 3Q was sufficiently busy as to chew through most of the inventory of drilled-uncompleted wells. As such, the rig count is likely a much more reliable indicator of immediate future fracking demand.

"We are upping our 1Q. Last week we made adjustments to our Canadian oilfield forecasts based primarily on the growing contribution of condensate toward aggregate producer cash flows. We raised our producer capex and OFS estimates through much of 2018, and we are now considering the impact of this higher spending on Trican's own numbers. As a consequence, we are raising our 1Q18 estimate to $86-million from $78-million and our 2018 estimate to $300-million from $283-million."

Mr. Bradford maintained a $8 target for Trican shares. The analyst average target is currently $6.46, according to Thomson Reuters data.

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Obsidian Energy Ltd. (OBE-T, OBE-N) is currently oversold and undervalued, according to Canaccord Genuity analyst Sam Roach.

That led him to upgrade his rating for its stock to "speculative buy" from "hold."

"We believe OBE is oversold, and we see 60-per-cent upside potential from the current price," the analyst said. "Further, we believe OBE is undervalued versus its true net asset value. We estimate that OBE trades below the value of its production, meaning investors are effectively getting the company's deep inventory of land for very low cost.

"Obsidian's continued turnaround efforts and operating momentum in the Cardium could provide catalysts for OBE over the course of 2018; but we recognize that the company's restricted growth profile and third-quartile netbacks offer a narrow margin of safety, assuming status-quo."

Mr. Roach said the Calgary-based company's turnaround is "well under way," however he noted its stock has been lagging, presenting an opportunity for investors.

"Since new management stepped in, Obsidian has sold a $40-million royalty, shifted strategies in the Cardium, added new directors to the board, and disposed of legacy assets," he said. "Debt has been reduced to 2.5 times cash flow, and commodity prices have improved significantly. Going forward, we expect OBE shares to more accurately reflect the company's improving fundamentals.

"We see deep value in Obsidian's assets. The company has three dominant asset packages in at Peace River, the AB Viking and the Cardium, plus an emerging play in the Spirit River. While it is not part of Obsidian's current strategy, we think either selling or farming out of one or more plays could help reduce debt, improve growth prospects, and simplify the story – all of which we would view as positives for the stock."

Mr. Roach raised his 2017 and 2018 cash flow per share projections by 1 cent and 3 cents, respectively, to 39 cents and 30 cents.

He maintained his target for the stock of $1.80. The analyst average is $2.03.

"OBE is trading at an enterprise value of less than $1.0-billion, which is close to our estimate of the value of Obsidian's current production (conservatively priced at $35,000 per flowing barrel of oil equivalent)," he said. "This means investors are getting 450 sections of Cardium land, 235 sections at Peace River, 170 sections in the AB Viking, and 700 sections of Deep Basin-prospective land for under $50 million. We believe this is now a compelling valuation."

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Citing both the chance for outperformance from realized pricing and share price underperformance over the last four months, Canaccord Genuity analyst Dennis Fong upgraded Pengrowth Energy Corp. (PGF-T, PGH-N) to "hold" from "sell."

"Our Sell thesis on Pengrowth revolved around a run up in share price from an individual investor building a significant position in the company and exceeding our intrinsic value. PGF shares are down 33 per cent in the past four months," said Mr. Fong. "Given this underperformance, we believe the valuation has transitioned from overvalued to fairly-valued. We continue to believe the company's above-average leverage is a focal point for investors, but items like the physical contracts to sell its heavy oil at US$15 per barrel means that realized pricing and cash flow could outperform expectations."

"We estimate Pengrowth will show debt-to-cash flow of 7.9 times in 2018, above the group average of 2.9 times. Throughout 2017, management successfully lowered outstanding leverage through the disposition of Bernadet, Garrington/Olds, Swan Hills and the sale of a GORR on its Lindbergh asset. While we continue to believe Pengrowth will not breach its debt covenants the current leverage limits the company's options around further significant growth at Lindbergh. We expect Pengrowth will look towards small and phased bolt-on optimizations to further grow volumes at Lindbergh rather than a step change-like Phase 2 expansion."

Mr. Fong pointed to potential consolidation in the sector as a potential catalyst for investors moving forward. However, he does not think Pengrowth possess any more non-core assets to part with, adding "the acceleration of its de-leveraging is limited to its ability to generate free cash flow, curbing capital and/or an equity issuance."

"Further to asset divestitures and given the more recent waning interest in the mid-cap space, we believe a combination with another entity could provide size, scale and liquidity for investors," he said. "This is a theme that has come up in conversations with buyside clients about the sector in general (not specifically to Pengrowth)."

Mr. Fong's target for the stock remains $1 per share, which is 3 cents above the current average on the Street.

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ADT Inc. (ADT-N) is the "clear leader in a defensive and growing industry," said RBC Dominion Securities analyst Gary Bisbee.

Initiating coverage with an "outperform" rating, Mr. Bisbee emphasized both its "recurring and profitable" business model as well as its "strong" management team that is driving operational improvements.

"We find it attractively valued, and see potential for steady growth plus modest valuation expansion to drive healthy appreciation," said Mr. Bisbee.

He set a price target for ADT, which began trading on Jan. 19, of US$16.

"ADT has underperformed modestly since the IPO, which we believe creates an attractive opportunity for patient investors," he said. "The stock currently trades at calendar year 2018-2019 price-to-free cash flow and enterprise value-to-EBITDA multiples of 22 times/13 times and 7.8 times/7.4 times, or a 15 per cent discount to the cable/broadband peers, and a more meaningful discount to leading outsourced services stocks. We believe the discount can narrow over time as ADT proves out its ability to drive further operational improvements, ramp cash flow, and deliver more capital efficient growth than its predecessor company."

Several other analysts initiated coverage of the stock on Tuesday, including Credit Suisse's Anjaneya Singh, who gave ADT a "neutral" rating and US$14.

"ADT is a provider of monitored security and associated products and services in the US and Canada to residential and commercial customers," he said. "While we appreciate the visibility and resilience of the business model, we are less optimistic on growth acceleration given slow-moving industry penetration rates and the potential threat of new entrants. Our $14 target price is based on 13 times our 2019 free cash flow (FCF) estimate, which screams cheap vs. business services peers, but seems justified owing to lower top-line growth and more significant competition."

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Canaccord Genuity Eric Zaunscherb lowered his rating for eCobalt Solutions Inc. (ECS-T) to reflect a "balance of risk" as it updates the feasibility study on its Idaho Cobalt Project.

"eCobalt offers exposure to one of the only primary cobalt development projects globally while situated in low sovereign risk Idaho," said Mr. Zaunscherb. "In September 2017, eCobalt released the results of a feasibility study for the wholly owned Idaho Cobalt Project. The US$187-million project consisted of an 800 ton per day underground mine and associated mill in central Idaho, and hydrometallurgical processing facility in southeast Idaho to produce a weighted average annual production of 2.4 million lbs of cobalt, 3.3 million pounds of copper and 3,000 oz of gold over a 12.5 year mine life.

"Over the last few months, the premium for cobalt sulphate has dramatically declined as cobalt metal pricing has firmed well beyond the Canaccord Genuity forecast deck. Management has shifted its focus to production of a clean cobalt-copper concentrate with attendant savings in initial capex and timelines, targeting completion of an updated feasibility study we expect in Q2/18. Targeted drilling in late 2018 and early 2019 facilitated a new resource estimate, which upped contained M&I cobalt by 12 per cent at similar grade."

Moving the Vancouver-based company to "hold" from "speculative buy," his target rose by 20 cents to $1.50. The average is $2.

"From our perspective, eCobalt offers a balanced risk/reward outlook, consistent with our HOLD rating and making the upcoming feasibility study outcome crucial to further investment decisions," he said.

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Beacon Securities analyst Doug Cooper initiated coverage of Hamilton Thorne Ltd. (HTL-X), a provider of precision laser devices and advanced image analysis systems for the fertility, stem cell and developmental biology research markets, with a "buy" rating.

"From a valuation perspective, we believe the shares of Hamilton Thorne are undervalued and the current price neither reflects the positive macro dynamics of the industry nor the growth we anticipate in its business," said Mr. Cooper.

He set a $1.40 target.

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Better-than-anticipated fourth-quarter financial results led RBC Dominion Securities analyst David Palmer to raised his target price for shares of Restaurant Brands International Inc. (QSR-N, QSR-T).

"We continue to believe that Restaurant Brands' highly visible unit growth and SSS drivers should support long-term revenue growth of 7 per cent, which, with leverage, should ladder up to a 15-per-cent-plus total return after considering the company's extraordinary cash flow generation prospects and now 3-per-cent dividend yield," he said. "Using this growth rate, RBI's current 2018 estimated price-to-earnings multiple of 22 times implies a 2018 P/E to growth ratio of 1.5 times. Lastly, the company's 5-per-cent free cash flow yield (2018E) and 3-per-cent dividend yield stack up well against peers when considering the outsized growth we expect in 2018 and potential for future concept growth through M&A."

On Monday, the parent company of Tim Hortons and Burger King reported earnings per share, excluding one-time items, of 66 US cents, exceeding analysts' average estimate of 57 US cents.

"We highlighted what we thought were the six reasons that RBI stock has underperformed since last fall: 1) tax rate uncertainty; 2) aggressive competition from a more modern McDonald's; 3) negative publicity in Canada; 4) revenue recognition changes; 5) supply chain margin downside; and 6) rising interest rates," said Mr. Palmer. "Some clarity was given, including that management was 'happy' with the current level of Tim Hortons margins and that it expects a 'low 20's tax rate,' which we suspect may be conservative. In addition, further clarification of the impact of revenue recognition may come with the release of the 10-K filing. That said, while competition in Canada from McDonald's and others could continue to pressure Tim's lunch daypart, we are hopeful that new leadership, including the addition of former BK North America President Alex Macedo as President of Tim Hortons, will help move the chain in the right strategic direction. Lastly, the market seems to be reacting favorably to the company's dividend announcement, which raised its annual payout to $1.80 per share, bringing RBI's yield to 3 per cent —well above that of peers. We look forward to discussing these and other 'big picture' items during our meetings with RBI management next month."

In reaction to the results, Mr. Palmer hiked 2018 and 2019 EPS estimates to US$2.74 and US$3.10, respectively, from US$2.71 and US$3.06, citing "stronger" Burger King same-store sales trends in the U.S. as well as "stable" Tim Hortons Canada SSS and margin trends.

With an "outperform" rating, his target increased by US$1 to US$78. The average is $71.67.

Elsewhere, CIBC World Markets analyst Mark Petrie lowered his target to US$73 from US$75 with an unchanged "outperformer" rating.

"We value the balanced approach QSR takes to multiple aspects of its business, from menu innovation to unit growth strategies to capital allocation," said Mr. Petrie. "In our view, it is this balance, and the attendant discipline around spending of all kinds, that supports a premium earnings multiple and positive view on the shares overall. Our price target is reduced modestly ... but we maintain our Outperformer rating, and QSR remains one of our top picks in the Consumer Discretionary space."
Credit Suisse analyst Jason West lowered his target to US$71 from US$74 with an "outperform" rating.

Mr. West said: "As usual, QSR provided limited forward guidance with 4Q results. However, commentary around tax reform impact and Tim Horton's Canada were better than feared. We believe shares may continue to recover as investors revisit the name given improved understanding and visibility around some of the key concerns in the story. Despite the 6-per-cent relief rally on Monday, QSR remains one of the cheapest names among franchised restaurants on cash flow metrics. We also continue to see optionality with the balance sheet, as net debt/EBITDA should approach 4.5 times by year-end 2018 vs. as high as 7 times in recent years."

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Cormark Securities analyst Maggie MacDougall initiated coverage of luxury retailer LXRandCo Inc. (LXR-T) with a "buy" rating.

"We believe that LXR is a compelling investment idea in the fast growing market of pre-owned personal luxury goods, with this niche having almost doubled in size to a €16 BB global market in a few years," she said. "LXRandCo is capitalizing on this emerging market with its store-within-a-store, omni-channel retail model, which it has been rolling out rapidly, opening 87 stores in 2017, with another 167 stores slated to open this year. Management believes it can get to 500 stores by 2021, and we believe that outside this time frame, the store count could be in the thousands depending on opportunities for international growth.

"In addition to growth in store count, over the next several years we expect growth in e-commerce revenue to 20 per cent of total revenue from 5 per cent currently, and EBITDA margin expansion to 12-15 per cent as revenue ramps at open stores, e-commerce business builds and LXR lowers COGS via increased buying direct from the consumer."

Ms. MacDougall's target was set at $8.

"At the current share price, it appears as though investors are paying for about half of the planned growth in store count to 300 doors this year, and nothing for growth thereafter," she said.

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In other analyst actions:

Echelon Wealth Partners analyst Douglas Loe moved Sernova Corp. (SVA-X), a London, Ont.-based clinical stage, regenerative medicine company, to "speculative buy" from an idea of interest with a $1 target.

"We remain positive on medical prospects for the firm's Cell Pouch platform, with clear visibility on utility of the device in facilitating regenerative medicine initiatives in Type I diabetes, hemophilia A, and hyperthyroidism, each of which contributes value to our SVA model; though, with type I diabetes representing the most lucrative initial target market for the firm and the market for which preclinical device-validating data (in the journal Transplantation in Nov/15) are already published in peer-reviewed form," said Mr. Loe.

Goldman Sachs analyst Matt Reustle upgraded Canadian Pacific Railway Ltd. (CP-N, CP-T) to "buy from "neutral." He raised his target to US$213 from US$186. The average is US$242.66.

National Bank Financial downgraded New Flyer Industries Inc. (NFI-T) to "sector perform" from "outperform" with a $61 target, down a loonie. The average target is $64.29.

Vishal Shreedhar of National Bank initiated coverage of Roots Corp. (ROOT-T) with an "outperform" rating and $13.50 target, which sits just below the consensus of $13.81.

Eight Capital cut Crew Energy Inc. (CR-T) to "neutral" from "buy" with a $2.75 target, down from $4.25. The average is $3.57.