Inside the Market’s roundup of some of today’s key analyst actions
Though he remains "structurally positive" on industrial commodities moving forward in 2019, Canaccord Genuity analyst Dalton Baretto is advocating investors take a "more defensive and value-oriented bent," pointing to both ongoing macro uncertainty and the strong performance of a number of equities thus far.
“In our 2019 Outlook titled March Madness, our base case forecast assumed a partial solution to the U.S.-China conflict and Brexit, along with an ongoing Chinese stimulus ‘put’ and major influence on commodity prices from US$ movements, global economic performance, and general underlying sentiment,” said Mr. Baretto in a research note released Monday. "So far in 2019, this thesis has played out as predicted. Both the U.S.-China trade deadline and the Brexit deadline have been extended, and we saw the announcement of an 2 trillion CNY Chinese stimulus package. Perhaps the biggest influence on sentiment, however, was a significantly less hawkish tone set by the U.S. Federal Reserve, with no new rate hikes planned for this year. Offsetting this, however, has been rising concerns around global economic conditions.
“Looking out into the rest of 2019, we believe this paradigm will begin to reverse in Q2 following stimulative action from both China and the U.S., along with seasonal upswings in economic activity and a potential conclusion to the trade-war at the June 28-29 G20 summit in Osaka. We do, however, acknowledge a number of risks, chief among these being a synchronized global slowdown coupled with elevated negative sentiment and a flight to safety into the USD. Given that our macro thesis appears to be unfolding as predicted and that physical markets for the industrial commodities remain resilient, we have made very limited changes to our industrial commodity price forecasts.”
Based on that backdrop, Mr. Baretto said investors should be seeking a combination of “commodity diversification, cash flow generation, strong and flexible balance sheets, company-specific catalysts and attractive relative valuations.”
He added: “We take a similar view on the precious metals equities; we focus on cash flow generation going forward along with strong balance sheets as strategic assets as we wait for improving precious metals prices and the fall-out from the recent large-scale M&A activity in the sector.”
Pointing to its 43-per-cent jump in share price year-to-date and a limited 8-per-cent implied return to his revised target, Mr. Baretto downgraded his rating for First Quantum Minerals Ltd. (FM-T) to “hold” from “buy” with a target of $16. The average on the Street is $19.07, according to Bloomberg data.
He also lowered Imperial Metals Ltd. (III-T) to “hold” from “buy,” pointing to its “substantial” cash consumption in the fourth quarter of 2018. His target dipped to $2.75 from $4, which falls below the consensus of $3.30.
Mr. Baretto named the following stocks as his top picks among base metals equities:
Teck Resources Ltd. (TECK-B-T, “buy”) with a $39 target, down from $40. Average: $38.61.
Ero Copper Corp. (ERO-T, “buy”) with a $20 target, rising from $16.50. Average: $18.10.
Lundin Mining Corp. (LUN-T, “buy”) with a $8 target. Average: $8.50.
Ivanhoe Mines Ltd. (IVN-T, “speculative buy”) with a $7.50 target, up from $7. Average: $6.55.
Among precious metals equities, his top picks are:
Centerra Gold Inc. (CG-T, “buy”) with a $9 target. Average: $8.75.
SSR Mining Inc. (SSRM-T, “buy”) with a $21.50 target. Average: $21.04.
Seabridge Gold Inc. (SEA-T, “speculative buy”) with a $26 target. Average: $24.55.
Canadian auto suppliers continue to struggle through a “challenging environment,” according to CIBC World Markets analyst Kevin Chiang, who is projecting a 4-per-cent year-over-year decline in earnings per share for the group in the first quarter.
“We expect Q1 results will continue to weigh on valuations for the auto sector as they reinforce the bear thesis that the cycle is rolling over faster than OEMs are forecasting,” said Mr. Chiang in a research report previewing the coming earnings season.
However, Mr. Chiang sees a more favourable set-up for the second half of the year, noting: "A lot is weighing on a better H2 for the auto sector as it laps easier comps in China and we move past WLTP (Worldwide Harmonized Light Vehicle Test Procedure) issues in Europe. But other data points suggest the auto sector outlook is too bearish, such as a healthy employment backdrop in Canada and the U.S., a more dovish Fed, and progress on U.S./China trade talks.
“All three Canadian auto suppliers are positioned to generate strong FCF in 2019. We see a growing emphasis towards returning cash to shareholders, maintaining a strong balance sheet, and remaining on the hunt for opportunistic acquisition opportunities.”
Citing “more consistent execution,” Mr. Chiang upgraded Martinrea International Inc. (MRE-T) to “outperform” from “neutral” with a target of $17.50, which matches the current consensus.
“Looking back the last eight quarters, the company’s share price is up on average 7 per cent on the day it reports,” he said. “As well, despite the company posting consistent earnings growth, strengthening its balance sheet (leverage ratio is 1.45 times versus over 2 times three years ago), and accelerating its shareholder return program, it is trading significantly below its long-term average valuation. While this can be said for a lot of auto supplier equities, MRE has seen a significant improvement in its underlying capital structure and profitability which opens up the argument for a re-rating relative to where it has traded historically. We would also point out that it faces less technology risk as EV demand grows given its light weighting strategy is propulsion agnostic. We maintain our $17.50 price target (33-per-cent return to target).”
We remain positive on MGA’s long-term outlook and see the company as well positioned for the technology changes occurring within the auto industry," he said. “Our downgrade to Neutral though is a tactical move given its share price has seen the strongest bounce since March 25, with its share price up 13.5 per cent and its forward P/E seeing a 0.85-times point expansion. It has the least attractive risk/reward profile relative to the other two Canadian auto suppliers we cover. As well, given the uncertain environment facing the auto sector, much of it related to headwinds in Europe and China, MGA’s more global footprint makes it more exposed to these issues.”
His target for Magna shares remains US$63, which exceeds the consensus of US$57.99.
Guyana Goldfields Inc. (GUY-T) now possesses an “unusual low valuation level given the risks," according to Laurentian Bank Securities analyst Barry Allan, who initiated coverage of the stock with a “buy” rating.
“Compared to a peer group of junior gold producers, GUY trades at a heavily discounted share price relative to the underlying NAV [net asset value],” he said. “With reserves of 2.3 million ounces and resources of 6.0 million ounces, and a fully commissioned processing mill that is operating very well in spite of a remote location, a combination of near-term operational problems, mostly notably a materially-lower-than-expected ore grade, has dominated the market’s focus. Coupled with a nasty proxy fight, the public narrative of dissident shareholders has not helped soothe the spectre of a company ‘that has gotten it wrong’. Our conclusion is that GUY is not broken and that the risks are manageable, offering investors with a very interesting value proposition at current market price.”
Mr. Allan said the company’s flagship Aurora gold mine in Guyana has been operating “relatively smoothly” over the past three years, despite its remote location and “climatically challenging conditions.”
He added: “An unexpectedly lower ore grade experienced in Q4/18 led to a third-party reassessment of the appropriate reserve model to be used for the life-of-mine (LOM) plan. A 37-per-cent reduction in reserve tonnage and an 8-per-cent decline in ore grade significantly reduced the expected amount of gold reserves to be recovered. However, a revised LOM plan illustrates the mine is capable of producing 200 Koz of gold per year for more than 10 years, with the prospect of additional resources being converted to reserves. While we believe the revised LOM plan may be too aggressive, we believe there is potentially an optimized development plan that may reduce the risk of development while maintaining a strong balance sheet. In short, the risks of development are manageable and are not out of balance with the challenges of initial mine construction."
Mr. Allan set a target price of $3.50 for the company’s shares. The average on the Street is $1.70.
“Our assessment of the recently filed 2019 Updated Feasibility Study is that a requirement for stripping of a significant amount of waste in 2020 may be optimized over the remaining open-pit reserves, and that an aggressive development plan for underground reserves is likely to be spread over an additional year before reaching full capacity,” he said. “The net result would be a strong balance sheet and a mine capable of producing 200,000 ounces per year over a longer period, which we believe is a more reasonable development scenario. While this more conservative development reduces NAV, the current share price is still only trading at 0.29 times of underlying NAV/sh, and the risk-reward is very attractive and supports our BUY recommendation.”
It’s time for investors to “rethink” Black Diamond Group Ltd.'s (BDI-T) business, said Raymond James analyst Andrew Bradford, who upgraded its stock to “outperform” from “market perform.”
“After observing Black Diamond’s share price track the oil sands workforce’s decline with remarkable precision, investors can be forgiven for treating the company as a one-trick pony on Alberta’s once vibrant resource play,” he said. "But that, in our opinion, would ignore the significant efforts management has expended to diversify the business in recent years. For proof consider that since the bottom fell out of Canada’s energy sector in 2015, the firm has acquired rental assets from entities active in various sectors across British Columbia, Ontario and Texas, and earmarked whatever capital left to also expand its Modular Space Solutions (MSS) segment organically. The result is a 55-per-cent increase in the MSS unit count over the past three years, and the potential for another 35-per-cent gain over the next three.
“Assuming management can also squeeze more utilization out of the fleet, we expect Modular Space Solutions to soon overtake the Workforce Solutions (WFS) camps business as BDI’s largest free cash flow generator and value driver. As the Street wakes up to a company capable of growing in a more stable and sustainable manner than before, a significantly improved stock price should follow, all else equal.”
Mr. Bradford maintained a $3 target, which is 16 cents less than the consensus.
“After considering Black Diamond’s plans to primarily grow its Modular Space Solutions division over the near- to medium-term, we submit that its stock price could reasonably appreciate to $5.20 within the next five years,” he said. “While that may be way off from BDI’s good old days, it still implies a healthy compound annual return of 22 per cent from today. To arrive at this conclusion, we considered that the firm will continue to use its cash flow from operations to increase the MSS fleet by roughly 10 per cent annually through 2024, and deliver EBITDA growth of 15 per cent with operating leverage and the benefit of scale. Also embedded in this modeling exercise was a no-growth scenario for the Workforce Solutions segment from 2019 to 2023, and only a modest reduction in net debt (primarily from asset sales). When all was said and done, we derived EBITDA and net debt estimates of $53-million and $68-million, respectively, for 2023. If we went further and assumed that the market will value BDI in five years’ time with the same discounted multiple as today—that is, 6.6 times on a TTM [trailing 12-month] basis—then we obtain the share price noted above. Not bad for a conservative scenario, in our view. With modest growth from WFS, a stronger-than-suggested balance sheet by 2023 and a bit more love from the Street, returns could get really interesting from here.”
Gildan Activewear Inc.'s (GIL-N, GIL-T) position as a low-cost manufacturer has served it well across many categories, particularly basics, according to Citi analyst Paul Lejuez, who called it a leader in the imprintable activewear market and now possessing a “solid” innerwear business.
“The bottom line is that although being a low-cost producer enables the company to pivot and win private-label business if/when mass merchants move away from some of their third-party branded products, this still creates some pressure on the P&L,” said Mr. Lejuez. “So while the company has good top-line growth opportunities in several of its categories, the continued gross margin pressure that comes with the shift to private label puts more pressure on the company to cut in other places (SG&A).”
In a research note released Monday, he assumed coverage of the Montreal-based company from a colleague. He maintained the firm’s “buy” rating and US$37 target for Gildan shares. The average is US$35.50.
“While the company has good top-line growth opportunities in most of its categories, the continued GM pressure keeps us on the sidelines,” he said.
In a separate note, Mr. Lejuez said Levi Strauss & Co.'s (LEVI-N) “strong” momentum in recent years plays it in a good position to capitalize further on growth opportunities.
Initiating coverage with a “buy” rating, he pointed to four factors to justify his stance: its core men’s business is a “market leader and cash machine”; a “big” growth opportunity in its women’s business; the company is “finding its groove in tops” as it grows beyond a jeans brand; and rapid growth of its market share in China, which represents 20 per cent of the global apparel market.
“We expect these opportunities to drive a high single- to low double-digit EPS growth over the next five years,” said Mr. Lejuez. “When thinking about valuation, we believe a relevant group of comparable companies to compare LEVI to include specialty retailers focused on denim and branded apparel companies. Due to the strength of their brand portfolio, we believe VFC and NKE are most comparable to LEVI.”
The analyst set a target price of US$27.
Mr. Lejuez also assumed coverage of Hanesbrand Inc. (HBI-N) with a “neutral” rating and US$19 target. The average on the Street is US$19.77.
He said: “While HBI has successfully grown its top line through acquisitions over the last several years, its organic growth has been stagnant. We like that a couple of HBI’s key businesses (Activewear, International) are growing sales and EBIT dollars nicely, however, the core Innerwear business (its highest margin segment) remains challenged and we do not expect the obstacles facing this business to abate anytime soon.”
In other analyst actions:
Eight Capital analyst Craig P Stanley upgraded Kirkland Lake Gold Ltd. (KL-T) to “buy” from “neutral” and raised his target to $53 from $51.25. The average is now $52.09.