Inside the Market’s roundup of some of today’s key analyst actions
“Challenging” market conditions and near-peak valuation for some stocks could bring a rise to elevated share price volatility in the TSX consumer sectors in the new year, according to Desjardins Securities analyst Chris Li.
In a research report released Friday, Mr. Li assumed coverage of eight consumer stocks and initiating coverage of George Weston Inc. (WN-T).
“Year-to-date, the consumer staples and consumer discretionary sectors have underperformed the S&P/TSX by 400 basis points and 300 basis points, respectively,” he said. “Among the stocks in our coverage, DOL is the best performer (up 46 per cent year-to-date), driven by renewed confidence in the company’s ability to drive same-store sales growth, while GIL is the worst performer (down 13 per cent year-to-date) following the company’s sales guidance cut in October (from mid-single-digit growth to low-single-digit decline in 2019).”
Calling it a “quality compounder,” Mr. Li initiated coverage of Alimentation Couche-Tard Inc. (ATD-B-T) with a “buy” rating and $49 target. The average target on the Street is $49.05, according to Thomson Reuters Eikon data.
“While the shares have reacted favourably following the company’s recent announced proposal to acquire Caltex Australia, we believe there is potential for longer-term share price appreciation as ATD continues to work toward its goal of doubling profitability by FY23,” he said.
"As structural pressures gradually increase, ATD is well-positioned to benefit from consolidation in the highly fragmented industry, supported by its strong free cash flow and balance sheet (1.8 times adjusted leverage ratio and more than US$7-billion of debt capacity). We expect ATD to remain a disciplined acquirer, which has served the company so well for so many years. While the market tends to focus on large acquisitions, we believe smaller ones with sizeable reverse synergies are equally important in creating shareholder value. Holiday is an excellent example as ATD gets set to scale its highly successful foodservice model to other business units next year. In the near term, ATD will be lapping two more quarters of high year-ago merchandise SSSG, as well as facing some volatility from a potential e-cigarette ban and IMO 2020 regulations ... We would view any weakness as a good buying opportunity for long-term investors.”
Mr. Li also gave Canadian Tire Corporation Ltd. (CTC-A-T) a “buy” rating with a target of $175, which exceeds the average of $173.08.
“Following two straight years of organic retail EBITDA decline, largely due to growth investments, we expect an inflection point next year with organic EBITDA growth turning positive,” he said. “This is supported by a combination of sales initiatives (eg outsized growth of owned brands, Triangle Rewards loyalty program and enhanced data analytics, digital engagement, SportChek transformation, etc) and the early benefits of the recently announced operational efficiency improvement program ($200-million of cost savings by 2022)."
He initiating coverage of Dollarama Inc. (DOL-T) with a “hold” rating and $51 target price, which matches the consensus.
“Against the backdrop of limited inflation, DOL has done an excellent job stimulating same-store sales growth (SSSG) through effective merchandising tactics, resulting in improved traffic and higher unit count,” said Mr. Li. “We expect this to continue and view consensus SSSG of 3.4 per cent next fiscal year as reasonable (we believe consensus may be slightly conservative). DOL is up 46 per cent year-to-date (vs 18 per cent for the S&P/TSX) as the Street already expects a strong recovery in EPS growth from 8 per cent in FY20 to 18 per cent in FY21. This should support valuation, which we find attractive relative to US dollar store peers."
"The lack of near-term catalysts and only mid-single-digit potential returns keep our rating at Hold for now.”
Mr. Li said Empire Company Ltd. (EMP-A-T) “has the best self-help story in our coverage,” pointing to “at least $250-million of cost savings and productivity benefits from category resets, indirect sourcing and store improvement projects.”
He gave it a “buy” rating and $39 target. The average on the Street is $39.78.
“The company plans to provide details on its strategic plan for the next three years by mid-2020, with a focus on narrowing the margin gap (150–200 basis points) vs L and MRU,” he said. “This is a potential catalyst. However, we do not believe much of this is currently reflected in the share price as it is not clear whether management will quantify the expected benefits as it did with Project Sunrise. Also, management commentary suggests that while there are still cost reduction opportunities beyond Project Sunrise, the focus will shift to improvement in sales productivity. In our view, the latter is less predictable and more challenging to achieve as it is exposed to external factors which are often beyond the company’s control."
Mr. Li initiated coverage of a Metro Inc. (MRU-T) with a “hold” rating and $59 target. The average on the Street is $57.40.
“In our view, MRU’s industry-leading same-store sales growth (SSSG), consistent execution and shareholder-friendly capital allocation strategy support its premium valuation (17.8 times next 12-month vs 15.3 times for L and 15.7 times for EMP.A),” he said. “We believe MRU’s dominant food & drug retail position in Quebec enhances its defensive appeal against potential new entrants (eg Amazon rolling out fresh grocery delivery, German discounters Aldi/Lidl, etc) as Quebec is typically the last market for new entrants due to the province’s distinct culture.”
“Our only reservation is MRU’s premium valuation, which leaves little upside unless macro conditions deteriorate (funds flow) and/or the company is able to generate EPS growth above its long-term target of 8–10 per cent. We believe the latter is possible from Jean Coutu synergies.”
The analyst pegged Saputo Inc. (SAP-T) a “hold” with a $43 price target. The average is $44.44.
“Following two years of very challenging commodity market conditions, SAP’s latest strong quarterly results are a clear sign that conditions are improving and that the company is doing a good job controlling the controllable,” he said. “A better supply and demand balance should support continuing improvement in some commodity prices (eg U.S. cheese), and competitive intensity in Canada is starting to ease as other key players are struggling. However, we believe these positives are balanced against several lingering issues that could limit earnings visibility in the near term, including (1) severe drought conditions in Australia getting worse especially as we head into the low season (summer) for milk production, which will further pressure SAP’s margins; (2) potential implementation of export taxes in Argentina as the newly elected government tries to control its spiralling finances; (3) ongoing trade wars resulting in overcapacity and affecting global prices; (4) deteriorating economic and political situations in countries with growing dairy demand; and (5) rising costs as SAP continues to roll out its new ERP program.”
Mr. Li also initiating coverage of Loblaw Companies Ltd. (L-T) with a “hold” rating and $76 target. The average is $77.60.
“Looking past the near-term headwinds, we believe L’s leading market share and scale, strong pipeline of process and efficiency improvement initiatives, rich data-driven insights, and solid FCF and balance sheet should enable the company to create shareholder value by consistently growing earnings (8–10-per-cent EPS growth target) and returning capital,” he said. “But with only 7-per-cent potential total return, we prefer to wait for a more attractive entry point.”
Mr. Li initiating coverage of Gildan Activewear Inc. (GIL-T) with a “buy” rating and $42 target price, exceeding the $40 consensus.
“With only one other Buy rating as per Bloomberg (10 Holds and 2 Sells), this is a contrarian view,” he said. “While it is possible we are too early on our call as sales visibility remains low and the stock will likely be range-bound until 2020 guidance in February, we believe the recent multiple contraction (to 15 times NTM P/E [next 12-month price-to-earnings] from 19 times) following the company’s guidance cut in October largely reflects the elevated risks.”
“Despite the recent missteps, we believe GIL is well-positioned to leverage its low-cost, large-scale vertically integrated manufacturing platform and strong balance sheet to create shareholder value through organic growth and acquisitions.”
Mr. Li initiated coverage of George Weston Ltd. (WN-T) with a “buy” rating and $118 target price. The average is $119.80.
“The near-term catalyst is continuing improvement at Weston Foods,” he said. “Recent results suggest it is on track, with positive momentum. After lapping some significant customer losses last year, Weston Foods is winning new business (eg foodservice channel) and expanding product lines that are in demand (eg donuts in the U.S.), supported by optimized capacity. At the same time, it is moving into the final year of its three-year transformation program, resulting in additional operational efficiencies. While Weston Foods accounts for a miniscule portion of our NAV, we believe an improvement in profitability is critical to give investors confidence in management’s ability to execute and that additional acquisitions will create value.”
GDI Integrated Facility Services Inc.'s (GDI-T) proposed $73.5-million acquisition of ESC Automation Inc. should result in better margins and the ability to bid on contracts that competitors are not equipped to manage, said Industrial Alliance Securities analyst Neil Linsdell.
Montreal-based GDI and its wholly-owned subsidiary Ainsworth Inc. announced the deal for the privately held building automation control solutions company on Thursday. It includes the acquisition of ESC’s U.S.-based subsidiaries Delta Connects Inc. and New Patriot Energy Inc.
“The acquisition strategically positions Ainsworth as a provider of a full suite of integrated services (i.e., cross-selling to existing clients, bundling services etc.), by offering one-stop, value added services to its customers with the ability to maintain, repair, and replace all of the systems and equipment in a facility,” the analyst said. “ESC’s strength in building automation systems in Western Canada complements Ainsworth’s strong HVAC, mechanical and electrical platform, while Ainsworth’s considerable presence in Ontario and Eastern Canada will help ESC expand geographically. The combined entity will have 2,400 employees located in every province and five U.S. states.”
“Acquisitions continue to remain a focus, after making six acquisitions in 2018 and another six so far in 2019, with four in Technical Services and two in Janitorial USA.”
Maintaining a “buy” rating for GDI shares, Mr. Linsdell increased his target to $38 from $34. The consensus target is $39.08.
In other analyst actions:
* National Bank Financial analyst Richard Tse raised Real Matters Inc. (REAL-T) to “outperform” from “sector perform” with a $17 target, rising from $13. The average on the Street is $14.07.
* CIBC World Markets analyst Raphael de Souza raised his target for Ero Copper Corp. (ERO-T) after adjusting his financial model in the wake of the release of its latest technical report for its Vale do Curaçá property in Brazil.
With a "neutral" rating, the analyst hiked his target to $21 from $18.50. The average on the Street is $21.98.
Mr. De Souza said: “Above-average profitability and successful operating execution could support such premium valuation. However, in our view, potential future returns remain well balanced with risks of a premium valuation, challenging macro environment and resource-reserve conversion risk.”