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Inside the Market’s roundup of some of today’s key analyst actions

Though the COVID-19 pandemic has temporarily “hit the pause bottom” on positive Canadian property fundamentals, Raymond James analyst Brad Sturges sees an attractive investment opportunity emerging.

In a research report released before the bell on Tuesday, the firm resumed coverage of nine equities, emphasizing a growing disparity between unit prices and underlying real estate values over the last six months

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“Canadian REIT/REOCs are now trading at a 15-per-cent average discount to estimated NAVs [net asset values],” he said. "While the public valuation pullback reflects greater near-term operating and political risks, recent history suggests to us that these pricing dislocations to the direct property market can provide fairly good longer-term buy signals.

“At the start of 2020, certain property sectors across Canada (ex. Alberta) such as industrial, office and multifamily, generally exhibited low average vacancy rates and rising rents per square foot. The strongest property fundamentals heading into the pandemic were found in urban centres such as Toronto, Montreal, and Vancouver. Although some recent COVID related softening in leasing traffic has occurred within certain regions or commercial and residential sectors, Canadian property fundamentals remain generally more in favour of landlords given the lack of available supply.”

Mr. Sturges said the nine REIT/REOCs have shown the defensive nature of their portfolios through high rent collection rates, limited deferrals and have generated positive organic growth year-over-year.

“While near-term operating headwinds can persist, we believe the dislocation between public unit prices and underlying estimated NAVs may once again prove to be a very attractive buying opportunity,” he said. "Key potential near term positive catalysts to keep in mind for the Canadian REIT sector include: positive vaccine developments; improving rent collection and deferral repayment trends; increasing transactional activity in the direct property market that validates estimated NAVs; cap rate compression in certain property sectors; and greater clarity surrounding regulatory risks.

“Our preferred Canadian REIT/REOCs are well positioned to weather the storm and generally feature strong balance sheets (e.g. low financial leverage, ample liquidity), below-average AFFO payout ratios, attractive portfolio concentration of urban properties, generate positive organic growth year-over-year, trade at relative P/NAV discount valuations, and may benefit from near-term positive catalysts. Our top picks currently include Allied, CAPREIT, InterRent, and MI.”

Mr. Sturges resumed coverage of the following equities:

* Allied Properties REIT (AP.UN-T) with an “outperform” rating and $48 target. The average on the Street is $51.80, according to Refinitiv data.

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“We believe that Allied may be well positioned to weather any near-term operating challenges related to the global pandemic that has resulted in greater WFH [work-from-home] trends for its office workspace users,” he said. The REIT is experiencing resilient leasing tour activity for available office space. Allied’s irreplaceable Toronto footprint (33 per cent of GLA) adjacent west and east of Toronto’s downtown core mainly features uniquely designed, low to mid-rise office buildings, which may experience relatively more resilient leasing activity from TAMI [tech, advertising, media and information] tenants, and office space utilization by Allied’s existing tenants may return recover relatively faster than certain high rise office towers in Toronto’s financial core. Allied’s stellar balance sheet and liquidity position allows the REIT to capitalize on its existing urban footprint as Allied further executes its intensification plans."

* Automotive Properties REIT (APR.UN-T) with an “outperform” rating and $11.75 target. Average: $10.67.

* BSR REIT (HOM.U-T) with an “outperform” rating and US$11.50 target. Average: US$11.88.

* Canadian Apartment Properties REIT (CAR.UN-T) with an “outperform” rating and $55.50 target. Average: $56.24.

“Although the Ontario Government’s expected plan to freeze rents for existing tenants in 2021, we believe that CAPREIT is positioned to capture higher AMRs [average monthly rents] realized upon suite turnover, and to execute on Canadian multifamily sector consolidation prospects due to its financial position,” he said. “CAPREIT’s affordable rental portfolio segment may experience resilient leasing demand fundamentals during the pandemic, supporting its future organic growth profile.”

* InterRent REIT (IIP.UN-T) with an “outperform” rating and $15.50 target. Average: $16.33.

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“Both COVID related challenges and the potential for the Ontario Government to freeze AMRs for existing tenants in 2021 may modestly slow InteRent’s near-term organic growth,” he said. “However, a recovery in Canadian multifamily property leasing demand that is supported by a recovery in Canadian population growth, combined with the REIT’s below market AMR profile and execution of its repositioning initiatives may aid in InterRent maintaining its multifamily property sector leading growth profile.”

* Killam Apartment REIT (KMP.UN-T) with an “outperform” rating and $20.75 target. Average: $20.63.

* Minto Apartment REIT (MI.UN-T) with an “outperform” rating and $23 target. Average:

“We believe both COVID related challenges and the potential for the Ontario Government to freeze AMRs in 2021 could modestly constrain MI’s near-term growth prospects,” e said. “That said, MI’s above-average portfolio weighting to Ottawa, which features a higher concentration of government related jobs, may provide MI with relatively greater leasing demand stability. Also, a recovery in Canadian urban multifamily leasing demand that is supported by a recovery in Canadian population growth and immigration trends, combined with MI’s below market AMR profile and gain-to-lease opportunity may support MI’s longer-term NAV and AFFO growth prospects.”

* Storagevault Canada Inc. (SVI-X) with a “market perform” rating and $3.85 target. Average: $3.86.

* True North Commercial REIT (TNT.UN-T) with a “market perform” rating and $6.50 target. Average: $6.56.

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H2O Innovation Inc.'s (HEO-X) “derisked business is both resilient and positioned for growth in a fragmented market with macro tailwinds,” said Desjardins Securities analyst Frederic Tremblay.

Emphasizing it benefits from the “essential nature of water,” he initiated coverage of the Quebec City-based company with a “buy” rating.

“With a broad offering and deep expertise, HEO is involved in a wide range of applications, including drinking water and industrial process water, reclamation and reuse of water, water desalination and the treatment of wastewater,” the analyst said. “Positive industry fundamentals, HEO’s enhanced business mix, opportunities ahead and valuation support our constructive stance.”

“HEO’s business has been highly resilient amid COVID-19 given its status as an essential service provider. Published results have been solid and the backlog remains healthy. We have a high degree of confidence that the company would be able to navigate a potential second wave.”

Mr. Tremblay focused on several potential opportunities moving forward, seeing “massive” spending on water and wastewater treatment systems due to challenges to clean water availability, the regulatory environment and the “poor shape” of infrastructure.

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“We believe HEO’s expertise in membrane-based products and services positions the company to capture growth opportunities,” he said. “The U.S. (where HEO generates 70 per cent of revenue) has 65,000 water and wastewater systems, most of which are small local entities with aging workforces and are seeking know-how and customized solutions that an experienced partner like HEO can offer. The company can also tap into opportunities, including desalination, outside of the U.S., thanks in part to its global network of distributors for specialty products."

“The business has been significantly derisked and more than 85 per cent of revenue is now recurring (more than twice what it was five years ago). Reduced reliance on lumpier categories has been accomplished through an ongoing focus on organic and acquisitive growth in the Specialty Products (eg chemicals, corrosion-resistant equipment) and Operation & Maintenance segments, accompanied by enhanced selectivity on which projects to bid on. Total revenue grew at a CAGR [compound annual growth rate] of 28 per cent between FY14 and FY19 and adjusted EBITDA margin is now 8.0 per cent versus 2.0–6.0 per cent in the prior few years. We believe further top-line, profitability and cash flow upside remains.”

Mr. Tremblay set a target of $2 per share, exceeding the consensus on the Street by 7 cents.

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Trulieve Cannabis Corp.'s (TRUL-CN) move into Pennsylvania is a “sensible and timely addition” to its portfolio, said Echelon Capital Markets analyst Andrew Semple, who called the U.S. state “one of the world’s most attractive cannabis markets for new investment.”

On Monday, Tallahassee, Fla.-based Trulieve announced it has reached definitive acquisition agreements with two medical cannabis companies in the state, PurePenn LLC and Pioneer Leasing & Consulting LLC and dispensary operator Keystone Relief Centers LLC, which does business as Solevo Wellness. It will pay a combined $66-million for the two companies with a further $75-million in stock possible based on the achievement of certain agreed EBITDA milestones.

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Concurrently, it announced the closing of an underwritten equity offering that raised $115.5-million in gross proceeds.

“We believe the Pennsylvania acquisition represents a smart move by Trulieve to enter an attractive state market at a reasonable price,” said Mr. Semple. “We believe the assets have the potential to eventually generate more than $80-million in sales at a 60-per-cent gross margin and a 39-per-cent EBITDA margin. This would represent a purchase price multiple of 1.7 times sales and 4.4 times EBITDA as the PA business matures, which is accretive to Trulieve. Moreover, our long-term estimates do not consider the potential for Pennsylvania to approve adult-use sales, which would significantly enhance the attractiveness of the acquired assets. It was also important that Trulieve move quickly to secure its spot in the limited license market. We have seen Ayr Strategies (AYR.A-CN, “buy”, price target $23.00) and Jushi Holdings (JUSH-CN, not rated) announce Pennsylvania acquisitions in recent months, and expect more industry M&A in PA to follow.”

Mr. Semple said data suggests medical cannabis sales in Pennsylvania are “surging higher at a nearly unprecedented pace for a medical cannabis market.”

“Cresco Labs (CL-CN, “buy,” price target $10.50) noted Pennsylvania was a key contributor to growth as its Q220 sales grew 42 per cent quarter-over-quarter, Jushi reported Q220 organic same-store-sales growth of 50 per cent quarter-over-quarter in Pennsylvania,” he said. “We believe market forecasts are underestimating the near-term potential of the medical cannabis market in Pennsylvania. We also point out that the state’s Governor, Tom Wolf, is actively supporting adult-use cannabis legalization and has called on legislature to pass a legalization bill. With nearly 13 million residents, 330,000 medical cannabis patients (as of June 30) and the potential for adult-use legalization the Pennsylvania cannabis market is a solid addition to the Trulieve portfolio with a long runway for growth ahead.”

Mr. Semple raised his target for its shares to $36 from $33, keeping a “buy” rating. The average on the Street is $44.

“Trulieve’s decision to raise additional equity capital when it already has a sizeable balance sheet with FCF positive operations signals to us that there are likely additional M&A transactions in the pipeline,” he said. “We expect at least one additional acquisition announced before the end of 2020 of material size. We believe the focus is likely to be entering a new state market in the Northeastern corridor (generally characterized by limited licenses regimes, vertical integration opportunities, and potential for medical to adult-use transition). The company may look to add further dispensaries in Pennsylvania as well. We expect any potential consideration to likely consist of a mix of cash and stock.”

Elsewhere, Canaccord Genuity analyst Matt Bottomley increased his target to $51 from $45, keeping a “speculative buy” rating.

“In our view, this is a transformative acquisition for Trulieve, giving the company a presence in two of the three best medical markets in the U.S., and solidifying the company’s position as a leading MSO in the attractive US cannabis market,” he said.

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Flower One Holdings Inc. (FONE-CN) is “attractive positioned” as a leading wholesaler in the recovering Nevada market, said Canaccord Genuity analyst Bobby Burleson.

In a research note released Tuesday, he resumed coverage of the Toronto-based cannabis company with a “speculative buy” rating.

“We expect upside for the stock as FONE continues to take share within Nevada wholesale, driven by penetration of additional shelf space at dispensaries, including more premium brands,” said Mr. Burleson. “Importantly, better demand trends, a shift to bestin-class brands, and efforts to consolidate suppliers bode well for FONE’s objectives in this market, bolstered substantially by a recently shored-up balance sheet. Looking beyond Nevada, pursuit of additional funding through a sale-leaseback for FONE’s large greenhouse could further catalyze the stock by layering in the prospect of multi-state expansion.”

Mr. Burleson noted the company is expects “strong” sequential growth, guiding third- quarter revenue in the range of $9.8-million to $10.8-million, which would be a jump of 154-180 per cent from the previous quarter. It expects gross margins of between 30-35 per cent, down from 46 per cent.

“Guidance reflects anticipated strong demand for wholesale product in Nevada and a drag on gross margin from higher-cost inventory harvested in Q2 that will be sold through during the quarter,” he said. “We expect gross margin to return to normalized levels exiting Q3 as the higher cost-inventory is sold and to improve on historical levels moving forward due to an increased emphasis on premium-branded products in the sales mix.”

“FONE ended the quarter with $3.6-million in cash and has raised roughly $10-million since the end of the quarter. Following the build-out of its production facility and the recent retirement of some debt, we believe FONE has limited capital needs to fund Nevada operations, and we are forecasting positive adjusted EBITDA results and cash flows, positioning the company as a sustainable operation. We believe FONE will need to raise capital in order to expand into additional states; however, given the company’s strong initial execution in Nevada we do not believe a required capital raise should be overly challenging.”

Seeing the near-term weakness in Nevada “lifting,” Mr. Burleson set a 50-cent target for Flower One shares. The average is $1.74.

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Seeing a path to above-average volume growth and opportunities to improve its margins, BMO Nesbitt Burns analyst Fadi Chamoun raised his target for shares of Canadian National Railway Co. (CNR-T).

“CNR, the fastest growing Class 1 railroad over the past two decades, is well-positioned to continue delivering commercial success due to: (1) favourable mix of commodities exposure; (2) the network’s physical footprint; and (3) the company’s strong commercial strategy and efficient operations,” he said.

“Capturing a greater share of the consumer supply chain through better integration should enhance service, supporting growth and contributing positively to ROIC if executed well.”

Maintaining an “outperform” rating, Mr. Chamoun, who thinks investors should place a greater emphasis on volume growth, hiked his target to $152 from $140. The average is $134.52.

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Information Services Corp. (ISV-T) possesses “high free cash flow with growth attached,” said Raymond James analyst Stephen Boland.

He initiated coverage of Regina-based company with an “outperform” rating.

“Since going public in 2013, the company has expanded beyond the core Saskatchewan registry businesses,” said Mr. Boland. "It has made a number of acquisitions to expand its geographic footprint, as well as the types of information management services it offers. Recently, ISC completed a $70-million acquisition of the assets of Paragon Inc. to form its Recovery Services Division, which will complement the credit lifecycle vertical. Paragon is essentially a project manager in the vehicle repossession industry for the large Canadian banks. It earns administration fees and contingency fees if successful in recovering the asset.

“We believe the additional diversification is a vital and positive step for ISC. The Master Services Agreement (MSA) with the Saskatchewan government is up for renewal in 2033. Since 2014, the dependence from the registries line of business has declined from 100 per cent of the revenue, to 53 per cent in 2019. With the latest acquisition, we estimate Registries revenue will fall below 50 per cent of total revenue. Management does not have a stated goal in terms of revenue concentration, although we believe the Registry revenue will continue to be a shrinking component of total revenue.”

Emphasizing ISC has “demonstrated consistent growth over the past six years,” Mr. Boland set a target price of $22 per share. The average on the Street is $19.69.

“The valuation remains attractive despite the recent strong performance of the stock,” he said. “Over the past five years, the stock has averaged a forward 8.9 times EV/EBITDA multiple with a high of 11.8 times. Currently, the stock is trading at 7.2 times so well below its long-term average.”

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Calling it “a leader in Manitoba’s recreational cannabis market,” Fundamental Research analyst Sid Rajeev initiated coverage of Delta 9 Cannabis Inc. (DN-T) with a “buy” rating.

Seeing its retail operations as its second-largest revenue driver behind its cultivation and wholesale division moving forward, Mr. Rajeev feels Delta 9 has built a 35-per-cent market share in the province due to its five retail stores being situated in favourable locations.

“Furthermore, their retail cannabis stores, in aggregate, are highly rated,” said Mr. Rajeev, emphasizing its expansion plans.

“The company operates its stores at a lower than industry average margin, which is part of their overall strategy to be a lower priced player and gain market share. We checked prices online to compare whether the company is actually selling its products at a lower price, and found it to be true.”

He gave Delta 9 shares a fair value of $1.34. The average on the Street is $1.50.

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Pinnacle Renewable Energy Inc. (PL-T) has appeared to have “turned the corner following almost two years of operational challenges,” said Desjardins Securities analyst David Newman following a recent virtual non-deal roadshow event with the Vancouver-based company.

“Management reaffirmed our view that PL has moved past its operational logjam with a recovery in sawmill residual supply, improved harvest residual processing capabilities, higher throughput at existing facilities to nameplate capacity and the construction of new facilities (High Level and Demopolis) to meet the anticipated surge in demand as it monetizes its $6.8-billion in backlog at higher prices and margin,” he said.

Mr. Newman is now projecting Pinnacle’s gross margin to rise to 18.6 per cent in 2021 from 14.8 per cent in 2020, remaining well below the 2017 “high-water mark” of 22.9 per cent.

“We believe there is upside potential to our estimates based on PL’s: (1) growing capabilities to process all types of fibre, aided by a recovery in sawmill residual supply (lumber mills running at near nameplate given record lumber prices); (2) increased throughput at existing facilities, with improved execution; (3) efforts to diversify outside of the BC fibre basket, at higher margins; (4) $6.8-billion backlog, of which 65 per cent is higher-margin Asian contracts; and (5) the potential repricing of its UK (Drax) contracts,” he said.

Mr. Newman maintained his third-quarter EBITDA projection, however he “slightly” increased his full-year 2020 and 2021 estimates.

“While transportation networks remain fluid, a bin failure at the Fibreco terminal (refer to our Express Pulse) could impact PL for a few weeks, although most of its volumes flow through its own Westview terminal in Prince Rupert, B.C.,” he said. “We remain on the upper end of Street estimates, with consensus likely to rise, in our view. The new CEO search is progressing well, with Rob McCurdy expected to stay on until his replacement is ready to take the reins.”

He kept a “buy” rating and his Street-high $10 target for Pinnacle shares. The average on the Street is $8.50.

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Citing its growth potential in a “recovering” zinc price environment, Haywood Securities analyst Pierre Vaillancourt raised his target for Fireweed Zinc Ltd. (FWZ-X) following a recent meeting with the Vancouver-based company.

“Fireweed is in a strong financial position to execute on its plan, we look for drilling results from prospective targets to continue to drive the stock (up 3 times since March, 2020),” he said. "We are also encouraged by a government commitment of $71-million to help upgrade the Canol Road to site, which will help to reduce capital costs for infrastructure and improve project economics

Keeping a “buy” rating, Mr. Vaillancourt moved his target to $1.50 from $1.25. The average is 85 cents.

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In other analyst actions:

  • Seeing recent share price depreciation creating an attractive entry point, Bernstein analyst Mark Shmulik upgraded Amazon.com Inc. (AMZN-Q) to “outperform” from “market perform” with a US$3,400 target. The average is US$3,688.05.
  • Alliance Global Partners initiated coverage of Vancouver’s Almaden Minerals Ltd. (AAU-N, AMM-T) with a "buy rating and US$2 target.
  • The firm also started Toronto-based Aptose Biosciences Inc. (APS-T) with a “buy” rating and $12 target, which falls short of the consensus by 66 cents.
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