Inside the Market’s roundup of some of today’s key analyst actions
Equity analysts at Raymond James made a series of “tactical” downgrades to intermediate oil and gas producers on Monday in response to the sudden plunge in crude oil prices precipitated by Saudi Arabia.
“To say the least, it’s been an eventful 72 hours,” said analysts Chris Cox and Jeremy McCrea in a research note. "Crude markets – already grappling with demand concerns relating to COVID-19 – heard echoes of the infamous November 2014 OPEC meeting after Friday’s OPEC+ meeting failed to reach an agreement around an extension and/or deepened production cuts, leaving major producing countries to effectively produce at will come April 1st. Since Friday, the situation has escalated even further, with Saudi Arabia dropping its OfficialSelling Prices (OSPs) for April. While a drop was widely expected heading into the weekend, the magnitude of the drop (US$7-8/bbl to Europe and the U.S. and US$4-6/bbl to Asia) marks the steepest on record dating back to 2004 and sends an unambiguously clear signal of a pending supply war; this has since been further substantiated by media reports of ‘sources’ citing an intention by Saudi Arabia to boost production from 9.7 Mbbl/d to as much as 11 Mbbl/d.
“Suffice to say, the combination of global demand headwinds and a rapidly escalating supply war creates an extremely challenging macro backdrop for the sector.”
The analysts emphasized there's a "considerable amount of uncertainty" remaining, including Saudi Arabia's intended strategy.
“While share prices of oil & gas producers were already facing generational lows, the potential for a sustained period of sub-US$40/bbl oil is almost certainly to result in a flight to (relative) safety within the sector,” they said. “Accordingly, we are making the tactical decision to lower our ratings for all but a very small handful of producers across our coverage universe until more clarity on the macro environment emerges.”
For intermediate producers, the analysts made the following changes:
Advantage Oil & Gas Ltd. (AAV-T) to “market perform” from “outperform” with a $3 target. The average on the Street is $3.50.
Arc Resources Ltd. (ARX-T) to “market perform” from “strong buy” with a $9.50 target. Average: $9.69.
Birchliff Energy Ltd. (BIR-T) to “market perform” from “strong buy” with a $4.50 target. Average: $4.06.
Enerplus Corp. (ERF-T) to “market perform” from “outperform” with an $11.50 target. Average: $12.73.
Kelt Exploration Ltd. (KEL-T) to “market perform” from “strong buy” with a $7.50 target. Average: $6.24.
Nuvista Energy Ltd. (NVA-T) to “market perform” from “outperform” with a $4.25 target. Average: $4.32.
Paramount Resources Ltd. (POU-T) to “market perform” from “outperform” with an $8.50 target. Average: $6.90.
Surge Energy Inc. (SGY-T) to “market perform” from “outperform” with a $1.50 target. Average: $1.54.
Tamarack Valley Energy Ltd. (TVE-T) to “market perform” from “outperform” with a $3.25 target. Average: $3.22.
TORC Oil & Gas Ltd. (TOG-T) to “market perform” from “strong buy” with a $5.50 target. Average: $5.96.
Vermilion Energy Inc. (VET-T) to “market perform” from “outperform” with a $19 target. Average: $21.50.
Whitecap Resources Inc. (WCP-T) to “market perform” from “strong buy” with a $6.50 target. Average: $6.86.
With junior oil and gas producers, there changes were:
Pipestone Energy Corp. (PIPE-X) to “market perform” from “outperform” with a $2.50 target. Average: $2.47.
Yangarra Resources Ltd. (YGR-T) to “market perform” from “outperform” with a $2.50 target. Average: $2.24.
“We are left with only 5 Outperform-rated E&P stocks after our tactical downgrades: Suncor (SU-TSX), Canadian Natural Resources (CNQ-TSX), Tourmaline (TOU-TSX), PrairieSkyRoyalty (PSK-TSX) and Freehold Royalties (FRU-TSX),” they said. “All five names exhibit industry-leading break-even levels, strong balance sheets and, in the cases of SU, CNQ & TOU, could be well positioned to potentially acquire marquee assets at distressed levels – a profitable strategy the last time we saw oil get to these levels. As for the royalty names, the relative lack of operating leverage and strong balance sheets allows these names to weather the coming storm far better than more traditional E&P business models.”
Several equity analysts lowered their ratings for Vermilion Energy Inc. (VET-T) in the wake of its decision to cut its dividend and reduce its outlook due to the coronavirus.
CIBC World Markets analyst David Popowich cut the Calgary-based company to “neutral” from “outperformer” with a target of $12, down from $25. The average on the Street is $19.75.
“Vermilion’s announcement that it will cut its dividend by 50 per cent was certainly the right course of action, especially considering the accelerating weakness in global crude oil prices,” said Mr. Popowich. “Given that Q1/20 capital spending is expected to comprise an outsized portion of the annual budget (likely just over 40 per cent), there is not much wiggle room on spending at this point; we suspect that like many of its peers Vermilion will provide additional colour on H2/20 spending plans with its next quarterly update in May. We have previously (and it turns out, erroneously) been of the view that Vermilion could navigate a medium-term period of weakness in commodity pricing with the dividend intact, but given the cut on Friday and expected uncertainty around the need for additional austerity measures, we believe it is appropriate to take a more cautious stance until the macro outlook improves.”
Scotia Capital’s Patrick Bryden lowered it to “sector perform” from “sector outperform” with a $16 target, down from $28.
Raymond James’ Chris Cox moved it to “market perform” from “outperform” with a $19 target.
BofA Global Research downgraded it to “neutral” from “buy” with a $13 target.
Raymond James’ Jeremy McCrea kept an “outperform” rating but sliced his target to $19 from $23.
Mr. McCrea said: “Our thesis on profitability remains and is evident by one of the stronger reserve reports we’ve seen this year. Much of this is due to their international diversification that has allowed for better (and less volatile) pricing, but also ‘conventional’ style geology that generally has better rates of return than shale/tight oil plays. As a result, this has allowed the company to historically pay aboveaverage dividends, keep leverage levels comfortable, and growth reasonable. Unfortunately, the rapid decline in commodity prices has had Vermilion playing defense and in a bid to keep ‘dividend’ holders happy, yet protect the balance sheet, the 50-per-cent dividend cut likely impressed neither group. At current pricing, we calculate the payout at 120 per cent and also a high leverage ratio at D/EBITDA: 3.3 times. With much of this debt termed out for the next 4 years and low maintenance costs ($410-million); however, the current valuation looks attractive to us relative to many operators. Ultimately, many companies are unlikely to see play economics work at these prices, in our view, which will set up the next rebound (similar to 2016). In the meantime, we still expect to see plenty of volatility and will remind investors many of these E&P names remain very high risk.”
Though he still touts its “continued upside potential,” RBC Dominion Securities analyst Brian Abrahams lowered Gilead Sciences Inc. (GILD-Q) on Monday, seeing a “less dramatic disconnect” to its fair value.
“With share appreciation of 19 per cent in the past month (vs 0 per cent for IBB), our bullish thesis around the underappreciated sustainability of the HIV franchise, GILD’s willingness to execute on meaningful BD, and their undervalued pipeline / antiviral prowess is beginning to play out,” he said. “Though we remain less convinced about the potential for success and/or monetization of remdesivir in coronavirus, we still see the upside optionality from the program maintaining GILD’s position as a defensive play in the current volatile market. We expect continued execution on commercial, BD, and pipeline – made even more enticing by the lack of major binary, clinical or regulatory risk – to drive further upside.”
Mr. Abrahams moved the California-based biotech giant to “outperform” from “top pick,” maintaining his target of US$86 per share. The average on the Street is US$73.04.
Avante Logixx Inc. (XX-X), a Toronto-based provider of technology enabled security services, appears poised to “harvest enterprise and commercial growth,” according to Acumen Capital analyst Nick Corcoran.
In a research note released Monday, he initiated coverage with a “buy” rating, believing it’s on track to reach its target of adjusted EBITDA of $30-million by 2023.
“XX has shown strong growth in revenue and gross margin,” said Mr. Corcoran. “Acumen is forecasting revenue and EBITDA to grow at a five-year CAGR of 27.7 per cent and 19.9 per cent, respectively, through FY/22E driven by acquisitions and organic growth.
“XX has completed eight acquisitions since it was founded. The Company has completed five acquisitions totalling $19.1-million since 2018. The acquisition of Intelligarde (November 2018) and ASAP (December 2019) add to XX’s protective services offering and expands its geographic footprint allowing the Company to compete for large national multi-site accounts. We expect this will translate to organic growth of 4.2 per cent in FY/21E and 7.2 per cent in FY/22E.”
He set a target of $1.80 per share. The average is currently $2.50.
Citi analysts Timothy Thein and Brian Schmidt lowered their financial estimates for U.S. machinery companies for the first half of 2020 based on higher costs associated with supply chain disruptions and weaker global demand.
“We assume a 2H20 catch-up but visibility is low and it’s difficult to conclude COVID-19 is a temporary event,” they said in a research note. “We cut target multiples to reflect this uncertainty and higher risk premia. We think the group already discounts significantly lower out year earnings, but also appreciate that falling inflation expectations make it difficult to argue for a reversal in the defensive > cyclicals trade.”
“A challenging 1H20 margin set-up gets tougher as we layer-in supply chain costs (i.e. premium freight) to our models. From a China demand standpoint, Citi’s macro team expects 1Q marks a bottom as more proactive fiscal policy could help kick-start a recovery starting in 2Q. Our colleague sees the seasonal peak in China truck sales getting pushed out of 1Q, but not demand destruction.”
With those changes, they lowered their target prices for stocks in their coverage universe, including:
Caterpillar Inc. (CAT-N, “buy”) to US$150 from US$160. Average: US$148.91.
“We are lowering near-term estimates to account for slower global industrial activity and higher expected operating costs, mainly related to supply chain inefficiencies," they said. "We also assume softer spending from CAT’s energy-based customers in response to oil price weakness and tighter credit conditions.”
They added: "We think the set-up in CAT is compelling as it appears to already be pricing-in a “typical” recession. Assuming our forecast of 2H20 demand stabilization doesn’t materialize and CAT earns $8 in ’20, we find it difficult to get EPS in ’21 below $6 per share. Negative real rates make it hard to argue for a sub-20x multiple (on assumed trough), yielding a stock px at/near current levels.
Deere & Co. (DE-N, “buy") to US$190 from US$195. Average: US$190.17.
“We are lowering our price target ... on account of lower peer multiples and to reflect ongoing uncertainty and higher risk premia, with a higher risk premium more than offsetting the benefit of lower interest rates,” they said.
Desjardins Securities analyst Gary Ho thinks Alaris Royalty Corp.'s (AD-T) Q4 felt like a “kitchen-sink quarter," and sees a “noisy” 2020 with a reversion to normalized multiples.
“AD reported mixed 4Q19 results; EBITDA was in line with our estimate but slightly below consensus,” he said. “The portfolio partner update was overall net negative, driven by suspension of dividends at ccComm and a sizeable Kimco writedown. However, consolidated ECR improved to 1.6 times.”
Believing its dividend is safe, Mr. Ho lowered his target to $19.50 from $24, keeping a “buy” rating for Alaris shares. The average is currently $20.08.
“AD has a diverse portfolio, strong capital deployment and a solid track record of dividend growth,” he said. “Our Buy thesis is predicated on (1) noise related to its underperforming files should slowly dissipate; (2) AD’s pref structure is an inexpensive equity financing alternative; (3) net capital deployment would reduce concerns about the high payout ratio; and (4) AD’s attractive valuation — trading at 0.9 times P/BV [price to book value], with an 11-per-cent dividend yield.”
In other analyst actions:
Cormark Securities Inc. analyst Meny Grauman lowered Toronto-Dominion Bank (TD-T) to “market perform” from “buy” with a $60 target, falling from $77. The average target on the Street is $74.57.
His target for Freehold remains $10.75 (versus a $10.38 consensus), while his PrairieSky target is $19.50 (versus $17.40).
Mr. Bryden also reinstated coverage of ARC Resources Ltd. (ARX-T) with a “sector outperform” rating and $12 target. The average is $9.69.
National Bank Financial analyst Don DeMarco lowered TMAC Resources Inc. (TMR-T) to “sector perform” from “outperform”