Inside the Market’s roundup of some of today’s key analyst actions
Citi analyst Christian Wetherbee thinks it's "time to move to [a] recession scenario" with North American railway companies, expecting "sharp" carload declines as the U.S. economy "pauses."
"As we prepare for the negative impact of widespread shutdowns across the U.S. economy, we believe it’s appropriate to begin to forecast a significantly more negative volume scenario for the rails," he said.
In a research report released Tuesday, Mr. Wetherbee lowered his volume growth estimates for 2020 by 6.1 per cent to a decline of 8.5 per cent year-over-year. He now anticipates a 10-per-cent year-over-year drop in cumulative carloads for public Class 1 rails, falling from a 3.7 per cent previously. That would be largest decline since 2009.
"We recently read a stat that 1.5 billion people around the world (20 per cent of world’s population) are under some form of quarantine/shutdown," the analyst said. "This is shocking and emphasizes the scope of the COVID-19 response and the potential impact to freight flows. As we digest the potential impact, it has become clear we need to take a more pessimistic view of rail volumes in 2020. In the current environment we would expect double digit volume declines in both 2Q20 and 3Q20, in spite of progressively easing comps. This means there remains near-term downside to rail stocks as markets are dynamic and can overshoot, but we’re approaching trough multiples on recession EPS for the U.S. rails, which should begin to provide fundamental support over the intermediate and long terms. Ultimately, we see value in the group across our 12-month time horizon."
"We have already lowered rail estimates for an initial take on COVID-19 and energy exposure, and we are coming back to the group to factor in a recession scenario. We now assume industry volume falls 15 per cent in both 2Q and 3Q before volume rebounds in 4Q fueled by economic stimulus and particularly easy comps. Assuming 50-per-cent-plus decremental margins on this round of volume reductions yields a 9-per-cent average decline in our 2020 EPS estimates. These estimates now represent a 6-per-cent average year-over-year decline and reflect overall decrementals in the 40-per-cent range for 2Q and 3Q. While this has become our base case, we outline deeper decline bear cases, which include 25-per-cent to 50-per-cent peak carload declines."
Though he said headcount reductions and productivity improvements will "soften the blow," Mr. Wetherbee made deep cuts to both his earnings expectations and target prices for stocks in his coverage universe.
His target changes were:
- Canadian National Railway Co. (CNI-N/CNR-T, “neutral”) to US$68 from US$100. The average target is US$91.38.
- Canadian Pacific Railway Ltd. (CP-N, CP-T, “buy”) to US$215 from US$295. Average: US$300.67.
- CSX Corp. (CSX-Q, “neutral”) to US$55 from US$81. Average: US$74.
- Kansas City Southern (KSU-N, “buy”) to US$125 from US$180. Average: US$167.63.
- Norfolk Southern Corp. (NSC-N, “buy”) to US$150 from US$225. Average: US$205.45.
- Union Pacific Corp. (UNP-N, “buy”) to US$140 from US$210. Average:
“In our scenario analysis we estimate reasonable downside to rail shares is 8 per cent at current levels,” said Mr. Wetherbee. “We arrive at this by applying what amounts to a 13.5 times average downside multiple to our base case recession scenario 2020 EPS estimates. 13.5 times represents the average trough multiple in several downturns (ex-GFC) and seems appropriate. So while there is still high single-digit downside on average, the risk is weighted to the Canadians, which have held up quite well, as the U.S. rails are at trough multiples on our new estimates. We also see solid upside when looking out to 2021 and given the high quality nature of these businesses, we are not changing our ratings to reflect near-term risk, but rather are looking toward opportunity for solid upside and remain buyers of most for the 12+ month outlook. KSU remains our top pick, while Norfolk Southern moves to second.”
Pointing to the Burnaby, B.C.-based company's current valuation, which he believes changes the risk-reward proposition for investors, Mr. Cherniavsky moved its stock to "outperform" from "market perform."
"Our reservations since then have essentially been two-fold," he said. "First, we have generally been unimpressed with the results to-date of the very pricey IP [IronPlanet] acquisition and the related lack of organic growth associated with the multi-channel strategy. Second, in light of these disappointments, we have felt that the market has been over-valuing Ritchie Bros.' shares. However, with the stock price now down 40 per cent from its highs earlier this year (vs. down 30 per cent for the S&P 500) and 25 per cent below our Dec. 26, 2016 downgrade (vs. 2 per cent for the S&P 500), we are forced to revisit our investment thesis on this company."
Mr. Cherniavsky said there are “good reasons” for Ritchie Bros.'s stock to fall in the current market climate, noting: “We are concerned that the company’s decision to shift all live auctions to online only could negatively impact pricing/GTV and possibly result in the cancellation or postponement of events until travel patterns normalize and the planet gets back to business. That said, assuming it eventually passes,we do not see the Covid-19 pandemic or the havoc it is wreaking on the global economy as an existential threat to Ritchie Bros. The company has very little debt, very strong cash flow, and a business model that has historically thrived off of major disruptions to the global economy. Thus,while the near-term earnings outlook is highly uncertain, we believe that very little has changed about Ritchie’s longer-term fundamentals.”
Though he emphasized his concerns about IronPlanet, the "efficacy" of its multi-channel strategy and the quality of its reported earnings, he thinks the stock currently " discounts those concerns more accurately," leading to his upgrade.
Pointing to “the high degree of uncertainty” around its near-term earnings, Mr. Cherniavsky lowered his target for Ritchie Bros. shares to US$33 from US$41. The average on the Street is US$39.69.
“We acknowledge there are still near-term risks on the horizon that could send this stock lower (especially if auctions get canceled); we are also mindful of the execution risks that continue to loom over this company (especially as it transitions to new leadership),” he said. “However, in our experience, this is the time to turn more constructive on Ritchie Bros.' stock. Specifically, we advise investors to begin establishing a position at the current level with a plan to average down if further weakness transpires. In short, we think the price is right to start buying this stock again.”
Seeing a “rare entry point for a quality aerospace name”, Canaccord Genuity analyst Doug Taylor raised CAE Inc. (CAE-T) to “buy” from “hold.”
Mr. Taylor expects the near-term impact of the spread of COVID-19 to be “significant, albeit not as severe as on CAE’s airline customers.”
“Updates from management suggest that the vast majority of its civil aviation training centers remain open and are often deemed an essential service as pilots continue to be required to perform periodic training (every 6 – 9 months) to maintain their certifications,” he said. "Both the defence business and the simulator system sales business enjoy backlogs which support revenue in the near term. With that said, we believe utilization rates are lower. We understand the company is making temporary lay-offs and executives are taking salary cuts to compensate. Additionally, non-essential capex and R&D are being postponed."
Mr. Taylor “conservatively” reduced his fiscal 2021 and 2022 forecasts in order to reflect “near-term uncertainty in global aviation as airlines reduce capacity and conserve cash.” HIS EBITDA projections slid to $628.4-million and $839.5-million, respectively, from $981.2-million and $1.047-billlion.
However, he emphasized growth drivers are likely to remain intact once the sector stabilizes.
“In our initiating coverage report, we outlined several secular trends underpinning CAE’s growth, including aging pilot demographics, expanding air travel in developing economies, increased regulatory requirements (including 737 MAX-related) and pilot fatigue rules,” he said. “Despite near-term weakness, we believe these drivers will resurface once the clouds begin to part. In addition, once this crisis period ends, we believe some airlines may outsource their internal flight training to conserve cash as they restructure, creating more opportunities for CAE’s training services.”
Seeing enough liquidity to handle the downturn, Mr. Taylor trimmed his target for CAE shares to $23 from $42. The average on the Street is $33.30.
“While COVID-19 is having an impact on CAE’s fundamentals (less so than on its airline customers), the precipitous drop in the share price in recent weeks has made the valuation compelling for a name that is poised to weather the storm," he said. "In the near term, regulatory requirements for pilots ensure some continuous demand for CAE’s services business while backlog supports defence and systems sales. Given our view that the longer-term growth drivers underpinning demand for its training services will likely resurface quickly as the COVID-19 pandemic subsides, this pullback in CAE shares should be an attractive entry point on a premium story.”
Canadian oilfield service companies have entered “uncharted territory,” according to Canaccord Genuity analyst John Bereznicki.
“In our view, the onset of the COVID-19 pandemic, concurrent with Saudi Arabia’s declaration of an oil price war, is without precedent, and we are not surprised by recent press suggesting Ottawa is contemplating a substantive energy sector ‘bailout’ package,” he said. "While we believe job-preservation is likely a primary objective of any such package, policymakers will nonetheless face tough decisions in crafting it.
"We believe initiatives to improve the near-term cash flow and liquidity of WCSB producers (via royalty holidays and other drilling incentives as well as orphan well programs) could support the oilfield sector through a period of collapsed oil prices. Given the severity of current fundamental headwinds, however, we believe such incentives would need to be material to have any impact at the field level."
With WCSB drilling and completion spending is "in freefall," Mr. Bereznicki said many public oilfield companies have "ostensibly become debt vehicles as equity value has melted away."
“Should Saudi Arabia back away from its price war (possibly via a production agreement with the U.S. and Russia), we believe there could be substantial upside to oilfield equity values,” the analyst said. "Unfortunately, crafting an investment thesis on this outcome is risky, and we continue view the sector with caution.
"We believe oilfield valuation and balance sheet metrics are somewhat moot with consensus estimates also in freefall. Barring a rapid recovery in strip oil pricing, we see further downside to 2020 EBITDA expectations (and are in fact lowering our own estimates and target prices yet again)."
Though he sees both Secure Energy Services Inc. (SES-T) and Tervita Corp. (TEV-T) “as relatively well positioned to weather the current storm given their production bias and near-duopoly status,” Mr. Bereznicki lowered his rating for both to “hold” from “buy,” seeing the likelihood of production shut-ins.
His target for Secure fell to $1.25 from $2.75. The average on the Street is $5.80.
The analyst's target for Tervita slid to $4.50 from $8.75. The average is $8.58.
“Given broad-based multiple compression, we continue to believe the midstream sector generally offers a more favourable risk/return profile for those seeking equity exposure to an ultimate oil price recovery,” said Mr. Bereznicki.
He made the following other target adjustments:
- CES Energy Solutions Corp. (CEU-T, “hold”) to $1 from $1.50. Average: $2.52.
- Calfrac Well Services Ltd. (CFW-T, “hold”) to 20 cents from 40 cents. Average: $1.
- Ensign Energy Services Inc. (ESI-T, “hold”) to 40 cents from $1. Average: $2.28.
- Essential Energy Services Ltd. (ESN-T, “hold”) to 20 cents from 25 cents. Average: 39 cents.
- Mullen Group Ltd. (MTL-T, “hold”) to $4.75 from $7.25. Average: $9.38.
- Precision Drilling Corp. (PD-T, “hold”) to 60 cents from $1. Average: $2.43.
- Trican Well Service Ltd. (TCW-T, “hold”) to 60 cents from 75 cents. Average: $1.21.
- Total Energy Services Inc. (TOT-T, “hold”) to $2.50 from $4.75. Average: $6.03.
- Western Energy Services Corp. (WRG-T, “hold”) to 20 cents from 30 cents. Average: 29 cents.
- Questor Technology Inc. (QST-X, “buy”) to $3.25 from $5.25. Average: $6.11.
“We are retaining our BUY on QST. While we acknowledge limited forecast visibility for the company, we believe its net cash balance sheet position and secular ESG tailwinds leave it well positioned longer term,” he said.
Following a period of share price depreciation, Profound Medical Corp. (PRN-T) now “represents a favorable risk reward position for investors to enter,” said Mackie Research analyst Andre Uddin.
Though he lowered his revenue projections for the Mississauga-based company based on the anticipated impact of COVID-19 and a “significantly elevated” broader market risk, Mr. Uddin raised his rating for Profound shares to “speculative buy” from “hold,” seeing it in a “solid” position fundamentally and poised for growth.
“We expect the coronavirus outbreak would mainly affect sales of products used in hospitals/clinics,” he said. “We are reducing our TULSA-PRO sales estimates as we expect fewer devices to be installed which would result in a reduction in recurring revenues. We are reducing our Sonalleve sales estimates as China (the main market) has been heavily affected by the outbreak. We are lowering our operating expense estimates due to our expectation of less marketing activity and a delay in clinical trials.”
Mr. Uddin cut his target for Profound shares to $16.20 from $26.10. The average is currently $31.10.
The “rapid” change in value for both Brookfield Infrastructure Partners LP (BIP-N, BIP-UN-T) and Brookfield Renewable Partners LP (BEP-N, BEP-UN-T) is “out of sync with the durable nature of the critical infrastructure assets each owns around the world,” according to Raymond James analyst Frederic Bastien.
Though he emphasized he’s not underestimating the impact of the COVID-19 crises on both the global economy or his cash flow expectations for both LPs, Mr. Bastien raised his ratings for both on Tuesday.
The analyst moved Brookfield Infrastructure to “strong buy” from “outperform” with a US$55 target, down from US$60 and 73 US cents below the consensus.
“We are attracted to Brookfield Infrastructure’s portfolio of high-quality assets with significant barriers to entry, diversified by customer type, regulatory environment and geography,” he said. “These passive, yet critical assets should see the firm in good stead as the coronavirus pandemic takes its toll on global economic growth. This is particularly true for the Utilities, Energy and Data Infrastructure segments, which generate stable, inflation-linked cash flows under longterm contracts. This leaves Transport, which accounts for approximately 30 per cent of FFO, as the only platform with assets truly sensitive to GDP swings. But while we expect BIP’s container terminals and toll roads to face lower volumes at least through 2Q20, its rail business should hold up reasonably well. Not only is the weak Brazilian real causing greater demand for the country’s agricultural exports, a frenzied stockpiling of toilet paper is proving a boon for Genesee & Wyoming’s bulk business.”
Mr. Bastien raised Brookfield Renewable to “outperform” from “market perform” with a US$46 target, down from US$48. The average is US$53.50.
“Brookfield Renewable has always structured its affairs to ensure it can survive all environments, and we are confident the independent power producer is in such position today,” he said. “Most of Brookfield Renewable’s cash flow streams are predominantly derived from long-term power sale contracts with strong counterparties, providing for the payment of stable and growing distributions per unit. We also remind investors that BEP’s operating assets require very little upkeep, a key advantage in a world where touch points must be minimized. Where we expect the partnership to encounter challenges in securing the necessary labour, equipment and parts to advance the X-Elio development pipeline. As is the case for BIP, it will also face significant headwinds on the currency front.
“Brookfield Renewable is in an enviable financial position to navigate the COVID-19 crisis, no matter long it last. With $2.7-billion in liquidity pro-forma the privatization of TerraForm Power and no corporate bonds up for renewal until 2022, we believe BEP may even capitalize on the markets’ recent collapse to build strategic positions in public companies. It did that last week, buying additional TransAlta shares to take its ownership in the Canadian coal and natural gas company to over 10 per cent.”
The recent drop in Wesdome Gold Mines Ltd.'s (WDO-T) share price presents an investing opportunity, said Industrial Alliance Securities analyst George Topping.
"The pullback caused by profit taking on this hitherto outperformer, offers a second chance to buy," he said. "We note, WDO is well prepared with a strong balance in case were COVID-19 were to affect operations with $36-million in cash. We are upgrading Wesdome ... as the impact, if any, on operations will be temporary while the monetary response will be long lasting and severe."
Believing the volatile gold market will be "a first mover," he raised his rating for the Toronto-based company to "strong buy" from "buy."
“With the large scale unprecedented COVID-19 economic impact, the response has been the similar to the GFC, cut interest rates, print money, and buy troubled assets,” said Mr. Topping. “The same situation happened during the 2008 financial crisis before gold went on a run to US$1,900/oz by 2011. Gold’s turning point will be when there is more Coronavirus certainty as the massive amounts of stimulus being issued right now will leave behind a devaluation of global currencies measured against hard assets.”
He maintained a target of $13.40 per share, which exceeds the current average of $10.97.
In other analyst actions:
* TD’s Sam Damiani upgraded Firm Capital Mortgage Investment Corp. (FC-T) to “buy” from “hold” with an $11.50 target, down from $14.50 and below the $14.63 average.
* Haywood Securities analyst Pierre Vaillancourt lowered Nevada Copper Corp. (NCU-T) to “hold” from “buy” with a 25-cent target, down from 60 cents. The average is 80 cents.
“In the current market conditions, this refinancing is essential to complete construction and reach commercial production. We are hopeful that the Company could start to generate positive cash flow in 2H20, in the meantime, the support of major stakeholder Pala and Triple Flag will be critical in the months ahead,” he said.