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Tuesday’s TSX breakouts: A value stock reporting solid operational results with 47% upside anticipated

On today’s TSX Breakouts report, there are 36 stocks on the positive breakouts list (stocks with positive price momentum), and 23 securities are on the negative breakouts list (stocks with negative price momentum).

Discussed today is a stock that appeared on the negative breakouts list yesterday. This value stock has been delivering strong financial results but the share price has come under recent pressure due to tariffs and NAFTA concerns. With the U.S. striking a preliminary trade deal with Mexico, stocks in this sector may see their valuations expand on optimism that Canada may also reach a deal. With a compelling valuation, the average target price suggests the share price may rally 47 per cent over the next year.

The security highlighted today is Martinrea International Inc. (MRE-T).

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A brief outline is provided below that may serve as a springboard for further fundamental research.

The company

Vaughan, Ont.-based Martinrea is an automotive parts supplier with operations worldwide. The company operates 44 facilities in eight countries: 13 plants in Canada, 12 in the United States, 10 plants in Mexico, one plant in Brazil, three plants in Germany, one site in Slovakia, two plants in Spain and two facilities in China. Amongst its top platforms are Ford Escape, GM Equinox/Terrain, Ford Fusion/Edge, GM Malibu/Impala, Jeep Grand Cherokee, Jeep Wrangler, and FCA Ram trucks. North American sales represent the majority of the company’s revenue, accounting for 77 per cent of sales in the first half of 2018. There is seasonality in the company’s business with the upcoming third-quarter generally the weakest.

After the market closed on Aug. 8, the company reported its second-quarter financial results. Sales came in at $922-million, just shy of the Street’s expectations of $939-million. Lower production volumes on certain platforms, negative currency translation and a fire at a supplier’s plant negatively impacted Martinrea’s top line results. On the earnings call management indicated that they expect to recover lost sales due to the fire in the second half of the year. The company reported record adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization) of $125.7-million, well above the Street’s forecast of $118-million. Adjusted earnings per share came in at 64 cents, up 16 per cent year-over-year and exceeding the consensus estimate of 63 cents per share. Also positive, adjusted operating income margins expanded to 8.9 per cent. The following trading day, the share price rallied 5 per cent on high volume.

The company has a healthy balance sheet with a net debt-to-adjusted EBITDA ratio of 1.36 times. Consequently, the company has the financial flexibility to make acquisitions.

On the earnings call, executive chairman Rob Wildeboer made general comments on the matter stating, “Many people ask us about M&A [merger and acquisition] opportunities and we see a lot, especially in the automotive space, in general, these days. We are clearly not averse to M&A activity, after all much of our growth to build our footprint to get a presence throughout North America and in Europe and to broaden our product portfolio involved acquisitions. We applied a build or buy scenario and where it was cheaper and faster to buy than build, we did so. Especially, given the fact there were cheap assets available, although with a lot of fixing to do. We have been fixing very well as our margin improvement attest. Today, we are certainly willing to look at opportunities, but we feel it is very important to be disciplined and to buy prudently.”

Looking forward, management provided guidance for the third quarter, expecting to deliver earnings per share of between 43 cents and 47 cents. The consensus earnings per share estimate stands right in the middle of this guidance at 45 cents. By the year 2020, management anticipates sales will exceed $4-billion and operating income margins will exceed 9 per cent.

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On the earnings call, Mr. Wildeboer remarked on tariffs and NAFTA, two issues that have compressed valuations on auto stocks. “I would like to emphasize that we have a terrific North American footprint with approximately half our North American revenues coming from the U.S. and the other half are Mexico and Canada. Our total revenues from Canada is now well under 20 per cent. Our product wins just announced, show our U.S. footprint will grow. We have almost 5,000 employees in the U.S., double that of Canada and about the same in Mexico as the U.S. We are a U.S. supplier, a Canadian supplier and a Mexican supplier, and for NAFTA purposes, a key point for us is that 90 per cent plus of our products or more are shipped intra country from our plant to a customer plant in the same country. We located near our customers. In that sense, on a relative basis, we are as well positioned as any supplier, Canadian, Mexican or U.S. for a NAFTA disruption. Indeed we may have a good competitive advantage vis-à-vis other suppliers.”

He added, “Now let’s talk about steel and aluminum tariffs. Once again, the impact is manageable from our perspective given our footprint. Most of our aluminum and steel are purchased intra country. Most of our steel is on steel resale programs where we do not have exposure. Over time, for any product that crosses borders, we will adjust our supply chains. At the same time, there is some cost to addressing the issues in terms of some transition costs, the administrative costs and burden of dealing with a changing landscape. We’re also working closely with governments to ensure any measures taken do not overly adversely impact our industry. My view is that, if and when NAFTA gets sorted out, the steel and aluminum tariff issue in North America will get sorted out too.”

Returning capital to its shareholders

In early May, management announced a 50-per-cent dividend increase, raising its quarterly dividend to 4.5 cents per share from 3 cents per share. This equates to a yearly dividend of 18 cents per share and an annualized yield of 1.3 per cent.

Earlier this month, Mr. Wildeboer commented on a future share buyback program, “On the last call, we also noted that a frequent question we received was whether we would consider some share repurchases in the future given the continued strengthening of our balance sheet and prospects of stronger cash flow, and we said, yes, of course. In that vein, we’ve just approved [the board approved], the filing of materials for a normal-course issuer bid, which we will announce formally shortly. Frankly, as stated at our Annual Meeting, our stock price, while increasing substantially over the past several years, has faced some downward pressure this year, largely we believe because of NAFTA and trade concerns and how they would affect automotive volumes generally and suppliers -- especially Canadian suppliers…While we believe our share price is undervalued at these levels and subject to the points on capital allocation just noted, we will look at buying back some shares in the next year, subject to those conditions and market conditions.”

Analysts’ recommendations

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This auto parts stock with a market capitalization of $1.2-billion has recent research coverage by 10 analysts, of which eight analysts have buy recommendations and two analysts have hold recommendations.

The firms providing recent research coverage on the company are as follows in alphabetical order: BMO Capital Markets, CIBC Capital Markets, Cormark Securities, GMP Securities, Macquarie, Paradigm Capital, RBC Capital Markets, Scotia Capital, TD Securities and Veritas Investment Research.

Revised recommendations

This month, four analysts revised their expectations.

Brian Morrison, the analyst from TD Securities, reduced his target price to $18.50 from $20. Peter Sklar from BMO Capital Markets cut his target price by $3 to $18. Todd Coupland from CIBC Capital Markets lowered his target price to $17 from $20.

Taking an opposing approach, Steve Arthur from RBC Capital Markets increased his target price to $24 from $23.

Financial forecasts

The Street is forecasting EBITDA of $447-million in 2018, rising 8 per cent to $484-million in 2019. The consensus earnings per share estimates are $2.24 in 2018 and increasing to $2.52 in 2019.

Earnings revisions have been positive. To illustrate, four months ago, the consensus EBITDA estimates were $430-million for 2018 and $473-million for 2019. The consensus earnings per share estimates were $2.16 for 2018 and $2.46 for 2019.

Valuation

Valuations have compressed in recent months for auto stocks.

According to Bloomberg, shares of Martinrea are trading at an enterprise value-to-EBITDA (EV/EBITDA) multiple of 3.7 times the 2019 consensus estimate, below with its five-year historical average of 4.4 times. Looking at its industry peers, shares of Magna International Inc. (MG-T) are trading at a forward EV/EBITDA multiple of 5.1 times and shares of Linamar Corp. (LNR-T) are trading at a forward EV/EBITDA multiple of 4.3 times.

On a price-to-earnings (P/E) basis, the stock is trading at a multiple of 5.4 times the 2019 consensus estimate, below its five-year historical average of 6.4 times. Shares of Magna are trading at a forward P/E multiple of 7.4 times and shares of Linamar are trading at a forward multiple of 5.4 times.

The average 12-month target price is $19.95, implying the share price has 47 per cent upside potential over the next year. Individual target prices are as follows in numerical order: $17 (the low forecast is from the analyst at CIBC Capital Markets), $18, $18.50, two at $19, $20, two at $21, $22, and $24 (the high on the Street is from the analyst at RBC Capital Markets).

Insider transaction activity

Insiders have been accumulating shares in the market.

Most recently, on June 27, president and chief executive officer Pat D’Eramo purchased 4,450 shares, increasing his portfolio’s position to 129,551 shares.

Prior to that, on June 19, chief internal auditor Hany Morsy acquired 1,050 shares at a cost per share of $15.5376. On June 5, Mr. Morsy bought 2,000 shares at a price per share of $15.09. After these two transactions, his account held 24,800 shares.

On June 7, Armando Pagliari, executive vice-president – human resources, bought 6,348 shares at a cost per share of $15.66, raising his account balance to 45,898 shares.

On June 6, Mr. Wildeboer accumulated 15,000 shares, lifting his portfolio’s holdings to 465,000 shares.

Chart watch

The share price closed at a multi-year high on May 9, closing at $17.42, up nearly 9 per cent year-to-date. However, in recent months, this positive price momentum reversed course with the share price in a downtrend due to announced steel and aluminum tariffs and NAFTA uncertainty. Year-to-date, this consumer discretionary stock is now down 15 per cent.

On Monday, the share price rallied 6 per cent on high volume an optimism that a trade agreement would be reached with the U.S. Over 1.2-million shares traded, well above the three-month historical daily average trading volume of approximately 380,000 shares.

In terms of key resistance and support levels, shares of Martinrea have an initial ceiling of resistance between $14.50 and $15, near its 200-day moving average (at $15.06). After that, there is major resistance between $16.50 and $17.50, and then at $20. Looking at the downside, the stock price has technical support between $12 and $12.50.

The Breakouts file is a technical analysis screen intended to identify companies that are technically breaking out. In addition, this report highlights a company’s dividend policy, analysts’ recommendations, financial forecasts, and provides a brief technical analysis for a security to provide readers with more information.

If a stock appears on the positive breakouts list, this indicates positive price momentum, and that a company may be worthwhile for investors to look at the fundamentals in order to determine if the recent price strength is warranted and will continue. If a security appears on the negative breakouts list, this indicates negative price momentum, and may be indicative of either deteriorating fundamentals or perhaps indicates a buying opportunity.

Securities screened are from the S&P/TSX composite index, the S&P/TSX Small Cap index, as well as Canadian small cap stocks outside of these indexes that have a minimum market capitalization of $200-million.

A technical analysis screen does not replace fundamental analysis, but can help identify companies worth having a closer look at.

Positive Breakouts Aug. 27 close
VNP-T 5N Plus Inc $3.62
AOI-T Africa Oil Corp $1.25
AFN-T Ag Growth International Inc $61.78
APH-T Aphria Inc. $14.97
BNS-T Bank of Nova Scotia $78.30
BYD.UN-T Boyd Group Income Fund $129.52
CEU-T Canadian Energy Services & Technology Co $5.09
CP-T Canadian Pacific Railway Ltd. $269.10
TRST-T CannTrust Holdings Inc. $10.09
WEED-T Canopy Growth Corp. $60.00
CHE.UN-T Chemtrade Logistics Income Fund $16.34
CHR-T Chorus Aviation Inc $7.74
DRT-T DIRTT Environmental Solutions $6.99
UFS-T Domtar Corp. $66.96
DII.B-T Dorel Industries Inc $27.05
FN-T First National Financial Corp $29.89
FSV-T FirstService Corp $113.66
HEXO-T Hydropothecary Corp. $5.75
MEQ-T Mainstreet Equity Corp $47.01
MX-T Methanex Corp $98.07
HIP-T Newstrike Resources Ltd. $0.80
NOA-T North American Construction Group Ltd. $10.39
PLC-T Park Lawn Corp. $27.42
PSI-T Pason Systems Inc $21.78
PD-T Precision Drilling Corp $5.28
RFP-T Resolute Forest Products Inc. $17.50
RY-T Royal Bank of Canada $104.40
SES-T Secure Energy Services Inc $8.52
RAY.A-T Stingray Digital Group Inc. $9.34
FIRE-T Supreme Cannabis Co Inc. $1.76
TF-T Timbercreek Financial Corp. $9.47
TD-T Toronto-Dominion Bank $78.85
TOT-T Total Energy Services Inc $11.98
TCW-T Trican Well Service Ltd $3.18
TNT.UN-T True North Commercial REIT $6.84
WTE-T Westshore Terminals Investment Corp $27.41
Negative Breakouts
AGF.B-T AGF Management Ltd $6.15
BOS-T AirBoss of America Corp $12.26
BBD.B-T Bombardier Inc $4.50
BLX-T Boralex Inc $18.78
BPF.UN-T Boston Pizza Royalties Income Fund $17.88
CGY-T Calian Group Ltd. $31.00
CBL-T Callidus Capital Corp $2.40
BCB-T Cott Corp $19.80
IBG-T IBI Group Inc. $5.15
ITX-T Intertain Group Ltd $13.32
LAS.A-T Lassonde Industries Inc $238.11
MAXR-T Maxar Technologies Ltd. $42.94
MRU-T Metro Inc $41.34
NCU-T Nevada Copper Corp $0.48
NPI-T Northland Power Inc $22.38
QSR-T Restaurant Brands International Inc $76.50
SAP-T Saputo Inc $40.52
SUM-T Solium Capital Inc $11.10
SOX-T Stuart Olson Inc $6.17
SOY-T SunOpta Inc. $9.89
TC-T Tucows Inc. $71.08
TWC-T TWC Enterprises Ltd. $11.99
UR-T UrtheCast Corp $0.22

Source: Bloomberg

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