Inside the Market’s roundup of some of today’s key analyst actions
Seeing it “positioned to execute,” iA Capital Markets analyst Matthew Weekes raised his recommendation for Pembina Pipeline Corp. (PPL-T) to “buy” from “hold” in response to a nearly 8-per-cent drop in share price last week, which he thinks has resulted in a “good entry point into the stock.”
In a research note released Monday, he said the Calgary-based company is “well positioned” to execute on its organic growth initiatives to serve “growing supply-push and demand-pull for western Canadian gas and liquids while delivering solid returns on capital and maintaining financial strength.”
“Customer demand for PPL’s infrastructure is supported by demand-pull for heavy and synthetic crude oil to meet local refining and diluent blending needs or to connect to further downstream transportation; condensate to feed oil sands bitumen blending; natural gas to support domestic coal displacement and cogeneration, future export capacity, and blue hydrogen; and NGLs to feed exports and growing domestic petrochemical production,” he said. “From a supply-push perspective, we anticipate strong activity from well-capitalized producers in PPL’s footprint and note that Canadian rig counts are trending near post-2014 highs.”
Mr. Weekes called Pembina’s growth, which has led to two guidance raises in 2022, as a “disciplined” while maintaining a “strong” balance sheet.
“PPL expects to exit 2022 with net debt/Adj. EBITDA at the low end of its target range, providing flexibility to pursue growth opportunities,” he said. “We anticipate that PPL will achieve 4.0-per-cent AFFO [adjusted funds from operations] per share CAGR [compound annual growth rate] from 2019-2023 while maintaining FFO/debt of more than 22 per cent and achieving ROIC [return on invested capital] above pre-COVID levels. PPL’s executive compensation structure is well-aligned with balanced shareholder objectives, with key performance indicators including ROIC, commercial opportunity development, maintenance of financial guardrails, and ESG, people and community objectives.”
Mr. Weekes trimmed his target for Pembina Pipeline shares by $1 to $49. The average target on the Street is $52.38, according to Refinitiv data.
“Patience will be required, as out-performance could/should be back-end loaded,” he said. “We offer no elaborate multi-pronged thesis to our upgrade; it’s fairly straightforward: valuation has moved so far offside from fair value, MEOH is no longer pricing in a reasonable bear case. We argue that mid-cycle fair value implies 70-per-cent upside from here, or 150-per-cent upside when including G3. Commissioning of G3 is scheduled for Q4/23, and therefore should start to be priced into the stock over the next few months, as the Street rolls its valuation to ‘24 estimates. Pushback to our upgrade is easy: there are no data points (macro, methanol, feedstock, etc.) yet to suggest the market has turned. Also, with the CEO transition and a 5% buyback now known, we see no immediate company-specific catalysts to break the stock out of the downward spiral most cyclicals have fallen victim to.”
Raising his rating to “sector outperform” from “sector perform,” Mr. Isaacson acknowledge he had no plan to upgrade Methanex so quickly after a May downgrade, however a drop of almost 40 per cent over the past four months “on little more than macro warnings” forced a change.
“During this time, the spot methanol market has hung in very well, still averaging $350/mt on a MEOH-volume weighted basis,” he said. “This is important to note, as $350 is both our assessment of mid-cycle pricing and the 10-year average price. In other words, while the stock has recently collapsed from mid-cycle valuation levels, the methanol market hasn’t ... at all.
“As volatile as MEOH is day-to-day, the stock is actually fairly predictable on a through-cycle basis. That said, at times it can overshoot to the upside or downside, depending on where we are in the cycle + investor sentiment. But, rather than guess when the cycle will turn, we rather demonstrate how meaningful the turn should be for shareholders when it does turn. Let’s start with the 10-year average EBITDA, which is $750-million if we exclude 2020 for COVID. Another way to estimate mid-cycle EBITDA is to consider the 10-year average EBITDA margin per produced tonne sold, which is $120/mt. Using the approximately 6.6M mt of produced volume sold annually over the past few years, we derive mid-cycle EBITDA closer to $800-million. Therefore, we will use $750-million to be conservative. Over the past decade, the weighted-average methanol ASP associated with the $750-million of EBITDA is $350/mt. Turning to the multiple, the five-year average forward EV/EBITDA for MEOH is 7.3 times, and is fairly similar on a 10- and 20-year basis, too. So, a conservative $750-million of mid-cycle EBITDA, at 7.3 times, leads to a price value of $49, or 70-per-cent upside from here.”
He maintained a US$46 target for Methanex shares. The current average is US$47.64.
National Bank Financial analyst Maxim Sytchev thinks WSP Global Inc. (WSP-T) should abandon its pursuit of British environmental consulting firm RPS Group PLC.
Late Friday, Tetra Tech Inc. (TTEK-Q), a California-based consulting and engineering services firm, announced an agreement with RPS on an all-cash acquisition worth 636 million pounds, an increase of approximately 7.8 per cent over WSP’s offer.
In a research note titled Litmus test of M&A discipline, Mr. Sytchev thinks TTEK’s deal, which has been unanimously recommended by the Board of Directors of RPS, is “superior” and sees it having the “upper hand” given its higher trading multiple.
“It was curious to note that RPS shares were trading above WSP’s offer since August 23,” he said. “TTEK is paying 16.0 times EV/EBITDA (pre-IFRS) vs. 14.9 times that WSP was offering at the time and even more importantly, TTEK shares preannouncement were trading at 17.9 times 2023 forecasts vs. 13.2 times for WSP ... providing a buffer in favor of TTEK.”
He added: “Letting go is never easy but is probably the right thing to do here.”
“Even though accretion math for Wood/RPS was double-digit on EPS, the latter asset would have needed more integration care given its declining revenue profile (that appears to have stabilized late last year),” said Mr. Sytchev. “WSP management is also in constant discussions with multiple targets, and we have no doubt it will be able to achieve its growth objectives without RPS. We also think that having an even cleaner balance sheet (with the recent equity offering, we are in 1.0-tiemes leverage territory) is not a bad thing given the likely macroeconomic calamity upon us.”
Removing RPS from his estimates, he cut his target for WSP shares to $181 from $188, keeping an “outperform” rating. The average is $181.08.
“WSP remains a favoured asset to benefit from continued infra spending in key geographies, while under-levered balance sheet will be accretively deployed towards other potential deals,” he said.
Touting the potential of its Eagle Gold mine in the Yukon as it nears full production, H.C. Wainwright analyst Heiko Ihle initiated coverage of Victoria Gold Corp. (VGCX-T) with a “buy” rating on Monday.
“Victoria Gold’s Eagle mine maintains a strong resource base that is estimated to provide a 13-year mine life based on an average production rate of 200,000+ ounces (oz) of gold per year,” he said. “Notably, we view this production rate as the baseline given meaningful property-wide potential at Dublin Gulch, as Victoria has targeted growth expansion projects going forward. Longer-term, Victoria expects to increase production to 250,000 ounces of gold by late 2023, while management has also reiterated its intention to grow the project’s mine life by 10 years to 2040. This expansion is expected to come from additional ounces below the currently planned pit, while margins of the Eagle deposit have also indicated the existence of easily accessible ore.”
Though he cautioned Victoria remains a single-asset company. Mr. Ihle views the mineral endowment at the Dublin Gulch property as “robust” and stressed “the underlying geology is offering extensive near-and-long-term potential.”
Seeing sufficient liquidity to continue its exploration focus while incorporating satellite targets that “should add asset longevity,” he set a target of $23 per share. The average is currently $18.31.
Canaccord Genuity analyst Doug Taylor expects the “exceptional” growth to continue for Kneat.com Inc. (KSI-T), projecting positive EBITDA in 2023.
Calling the business model for the Ireland-based developer of software for data and document management solutions for the life sciences industry “attractive,” he initiated coverage with a “speculative buy” recommendation.
“Kneat’s direct competition is limited to a handful of vendors that do not share its niche life science focus,” he said. “As such, Kneat has grown quickly within penetrated accounts through its land-and-expand model, as evidenced by a 245-per-cent net dollar retention rate in 2021 with zero logo churn. We view robust life sciences VC investment, industry efforts to shorten development cycles through digitization and automation, and optionality from extending into adjacent regulated verticals (e.g., CPG) as additional growth catalysts.”
“Following 109-per-cent revenue growth in F2021 (56-per-cent recurring SaaS mix), we expect growth of 51 per cent in 2022 and 41 per cent in 2023, driven by 68 per cent and 50 per cent respective annual SaaS ARR growth rates from new customers and incremental expansions with existing customers. We see this rapid organic ARR and revenue build leading to adj. EBITDA of negative $2.1-million (Street negative $3.0-million) in F2022 and positive $0.4-million (Street negative $0.7-million) in F2023, following a sustained EBITDA inflection in Q3/23.”
With its shares having recently retreated alongside software peers, Mr. Taylor sees a compelling entry point” with a current valuation of 5.3 times enterprise value to 2023 sales.
“Life sciences peers PTC and Veeva Systems trade at 6.7 times and 10.0 times consensus NTM [next 12-month] sales, respectively,” he said. “While both peers exhibit robust, positive EBITDA and FCF, Kneat features a significantly stronger expected growth profile over our forecast period. Including other peers with life sciences exposure, the group trades at 4.1 times NTM EV/Sales; Canadian tech peers trade at 2.9 times on average. Precedent M&A underscores strong premiums paid for industry assets, including Hexagon’s ETQ purchase at 16 times 2022 estimated sales, PTC’s Arena takeover at 14.3 times ARR, and most recently HgCapital acquisition of Ideagen at 12.5 times trailing revenue. Kneat currently trades at 5.3 times F2023E. At this level, we believe KSI’s current valuation presents upside as it continues to outpace major peers and transitions into a positive FCF generator.”
He set a target of $3.75 per share. The average is $4.07.
Scotia Capital analyst Kevin Krishnaratne thinks long-term investors could be rewarded by showing patience with Canadian software companies, which are battling through a difficult stretch.
“So far, 2022 has been a challenging year for the Canadian Tech sector, with the S&P/TSX Capped Information Technology Index down 40 per cent versus much more modest 9-per-cent declines for the S&P/TSX, with the stocks in our coverage down 47 per cent as a group,” he said.
“We can’t say whether we’re at or near a bottom for Tech, given the prospect of evolving interest rate moves and recessionary fears, which may continue to weigh on multiples, which for the Canadian Software sector are down 60 per cent on a NTM [next 12 month] EV/sales basis since September 2021. However, we think there are many opportunities for investors with a longer-term view, supported by strong business fundamentals.”
In a research report released Monday, Mr. Krishnaratne assumed coverage of nine companies and initiated coverage of one other.
He gave eight stocks “sector outperform” recommendations and emphasized three as his top picks in the sector. They are:
* Kinaxis Inc. (KXS-T) with a $203 target. The average on the Street is $217.50.
“Kinaxis is perfectly positioned to benefit in an environment of increasing uncertainty and complexity, which we think is driving a higher level of IT budget being allocated toward the digitization of supply chains,” he said. “Momentum has been accelerating, with Kinaxis adding record new client wins, seeing an increasing pace of discussions with C-suite executives, and experiencing a shrinking of its sales cycle, unlike many other Enterprise Software firms that have recently discussed more cautious buying patterns and elongated deal dynamics given macro softness. Metrics are moving in the right direction too, with SaaS growth accelerating into the mid-20-per-cent range (constant currency) and EBITDA margins expanding into the high teens. We think multiple factors could drive upside to our and Street estimates in the coming quarters, including an expanded Partner channel (now including VARs and platform developers) and an acceleration in land-and-expand opportunities in the mid-market space. Kinaxis is a stock that we think can perform well in any market given its efficient revenue growth model, which balances strong subscription growth and high profitability, supported by a clean balance sheet (no debt).”
“Lightspeed is our top pick for growth-focused investors,” he said. “Management’s goal is to grow revenue organically by 35-40 per cent via a combination of location adds, Software ARPU gains and evolving Payments adoption. We see multiple levers driving outperformance given the size of the TAM (approximately 166,000 Lightspeed merchants versus a global opportunity of 6 million complex SMBs), software upside (monthly subscription ARPU [average revenue per user] of US$136 in Q1/23 versus top merchant ARPU of US$300), and higher Payments uptake (just 15-per-cent penetration in Q1). New revenue streams, such as the Lightspeed B2B supplier network, also add to upside not yet considered in our numbers. Meanwhile, we think Lightspeed should benefit from the economy’s return to in-person habits, perhaps more than any other stock in our coverage, given that most of its business is processed at physical locations. Importantly, we think management’s measured approach to customer acquisition and operating leverage in the model should start to drive profits in F2024.”
“Open Text is a name that we think should appeal to investors seeking a more defensive position in Tech given its high recurring revenue mix (80 per cent), strong EBITDA margin profile (+35 per cent), shareholder-friendly initiatives (dividend, buybacks) and discounted valuation (7.1 times pro forma F2024E EBITDA),” he said. “While the market didn’t like the deal for Micro Focus, which elevates leverage (3.8-times pro forma net debt to EBITDA post close) and tilts Open Text’s mix back toward lower-growth Maintenance revenues, we think the sell-off creates a unique opportunity to own a strong FCF-generating Software leader at an attractive valuation. Micro Focus had already been showing signs of stabilization, which we expect management to accelerate by employing its proven best practices and leveraging the cloud. We also think Open Text stands to benefit from digital transformation tailwinds given its broad portfolio of services used by many of the world’s top firms to save costs and drive new revenue opportunities in an increasingly complex and resource-constrained world.”
Others receiving “sector outperform” are:
* Dye & Durham Ltd. (DND-T) with a $31 target. Average: $42.50.
* Enthusiast Gaming Holdings Inc. (EGLX-T) with a $5 target. Average: $6.52.
These companies received “sector perform” ratings:
* Altus Group Ltd. (AIF-T) with a $58 target. Average: $66.29.
“We note that while we are quite enthusiastic on the company’s Analytics practice, which is market leading and has been posting mid-20-per-cent organic recurring revenue growth at high- to mid-teen EBITDA margin, we place lower relative value on its Property Tax consulting business,” he said. “Trading at 19 times calendar 2023 estimated EBITDA, AItus looks reasonably priced, but there are many initiatives being undertaken by the company that could lead to a valuation re-rate and a more positive view on the stock, including a higher mix of Tech and recurring revenue within Property Tax and the full transition of its Analytics user base to the cloud.”
* MDF Commerce Inc. (MDF-T) with a $3 target. Average: $3.60.
“Despite the stock’s low relative valuation (1.2 times C2023 estimated sales), we would rather wait for signs of faster growth in e-commerce and better results at Periscope, in addition to evidence of a clearer path to profitability (we expect this in late F2023) before getting more constructive,” he said. “We also think the high leverage (net debt to 2023E EBITDA of more than 9 times) is a likely an overhang on the stock.”
In other analyst actions:
* With Alberta’s power market continuing to “surprise to the upside,” Scotia Capital’s Robert Hope raised his target for Capital Power Corp. (CPX-T) to $54 from $59 with a “sector perform” rating and TranAlta Corp. (TA-T) to $17 from $16.50 with a “sector outperform” rating. The averages on the Street are $52.73 and $16.54, respectively.
“In Alberta, Q3 is shaping up to be a record quarter in terms of power pricing, and we have also seen a more constructive ancillary services market,” he said. “While pricing is expected to moderate as we enter the fall and into 2023/2024, we note that our annual power price outlook has strengthened by $10/MWh in part due to improved demand and higher gas prices. This is a positive for both Capital Power and TransAlta, and we move up our estimates and target prices for both companies. While we have a preference for TransAlta, we also expect to see continued share price strength for Capital Power heading into the quarter.”
* RBC Dominion Securities’ Geoffrey Kwan cut his AGF Management Ltd. (AGF.B-T) target to $6.50 from $7 with an “underperform” rating, while CIBC World Markets’ lowered his target to $6.75 from $7.25 with a “neutral” rating. The average on the Street is $7.50.
* TD Securities’ David Kwan initiated coverage of Lifespeak Inc. (LSPK-T) with a “hold” rating and $2.25 target. The average on the Street is $3.02.
“OVV’s top-tier FCF and payout yield are too good to ignore. There’s enough FCF to go around to both reward equity shareholders and continue to meaningfully reduce net debt. Refocusing the market perception on the Montney helps chip away at the bear thesis,” she said.