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

Following a “bullish” operational update for its third quarter, ATB Capital Markets analyst Waqar Syed thinks Calfrac Well Services Ltd. (CFW-T) is “closing fast on peers on various metrics” as its Canadian operations continue to “surprise.”

Raising his 2022 and 2023 earnings before interest, taxes, depreciation and amortization (EBITDA) projections by 12 per cent and 17 per cent, respectively, Mr. Syed upgraded his recommendation for the Calgary-based company’s shares to “outperform” from “sector perform” previously.

“We believe that the NAM pumping market is extremely tight, leading to service price increases, providing a strong tailwind to CFW to narrow its profitability gap versus peers and to use its strong FCF to structurally improve its balance sheet, and we expect the Company’s net debt to LTM [last 12-month] EBITDA ratio to improve from 3.7 times at June 30/22 to 1.0 times at June 30/23, with net debt decreasing by $150-million by year-end 2023, a reduction of nearly $1.75 per share, equaling 31 per cent of market share. High debt load has been a key stock overhang, and as leverage improves, the stock should re-rate.”

Before the bell on Tuesday, Calfrac said it has “experienced improved utilization throughout all service lines” and now expects revenue of $400-$430-million and EBITDA of $75-$85-million for the third quarter. The Street had expected $402.5-million and $60.9-million.

That led Mr. Syed to raise his revenue projection to $421.2-million, which is growth of 32 per cent from the second quarter and 42 per cent year-over-year. His EBITDA estimate jumped to $81.9-million from $69-million.

“For Q3/22, the biggest positive surprise for CFW is in its Canadian operations, while the U.S. market provided the largest surprise in Q2/22,” he said. “With Canadian drilling activity sharply inflecting in Q3/22, from 115 rigs in Q2/22 to 208 rigs currently and on its way to 230-250 rigs in Q4, the pumping market has considerably tightened, and net price increases are being received. We estimate that CFW’s Q3/22 Canadian EBITDA margin may now be in the mid-20-per-cent range versus 12.6 per cent in Q1/22, and may even be higher than that in the US. The Company has been repricing its pumping fleet in the U.S. and Canada, and this is leading to significant margin increases.”

Mr. Syed emphasized Calfrac’s profitability gap versus peers has “narrowed,” however the valuation gap hasn’t caught up.

“In Q4/21 and Q1/22, CFW’s EBITDA margins lagged its peer average by about 750 basis points,” he said. “The gap narrowed to 600bp in Q2/22, and we estimate that the margin gap will narrow further to 390bp in Q3/22. We believe that, as the Company’s fleets continue to reprice in the coming quarters, its profitability gap should further narrow. However, the valuation gap is still wide, with CFW trading at a 0.3 times discount on 2022/2023 estimated EV/EBITDA and at a nearly 41-per-cent discount when compared to peers on the value embedded in the stock price for CFW’s active fleet.”

Emphasizing it “remains one of the cheapest stocks in the pumping universe, he increased his target for Calfrac shares to $10 from $8. The average is $7.67.

“Given the murky macroeconomic situation and historically weak balance sheet, why the upgrade? (1) The Company’s outlook has rapidly de-risked with a substantial EBITDA beat in Q2/22 and now well-above-consensus Q3/22 guidance. (2) The NAM pumping market has considerably tightened, and the Company has a tailwind of price improvements. (3) The new management team is highly focused on returns and FCF and not just revenues or market share. (4) The Company’s balance sheet, which has been a key stock overhang, has rapidly improved, which should lead to the stock’s re-rating,” he concluded. “We expect the total debt to LTM EBITDA ratio to be 1.7 times by year-end 2022 (vs 5.7 times at Q1/22) and to improve further to 0.8 times by YE23. We estimate cumulative 2022-2023 FCF to be $161.6-million=, or $1.90 per share (or 34 per cent of current stock price).”

Other analysts making target adjustments include:

* BMO’s John Gibson to $6.50 from $6 with a “market perform” rating.

“CFW is a name worth watching as we head into 2023, particularly given its exposure to the stronger US pressure pumping market and improving balance sheet. We rate CFW shares Market Perform, but continue to warm to the company,” said Mr. Gibson.

* Stifel’s Cole Pereira to $7 from $6 with a “hold” rating.

“CFW’s business continues to showcase meaningful improvements, however we would expect Calfac to trade at a larger discount relative to peers given its higher relative debt levels, international exposure and lower trading liquidity. As a result, we have increased our target price,” said Mr. Pereira.

* RBC Dominion Securities’ Keith Mackey to $8 from $7 with a “sector perform” rating.

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Touting its “low decline, long-life” asset base and “rare” greenfield oil sands opportunities, ATB Capital Markets analyst Patrick O’Rourke initiated coverage of Athabasca Oil Corp. (ATH-T) with an “outperform” recommendation on Wednesday.

“The appeal of Athabasca’s upstream assets and business operations is demonstrated by its low corporate decline and relatively high free cash flow yield, on the back of its high-quality thermal oil sands projects, which the Company balances with exposure to flexible, short-cycle, high-NPV, liquids-rich resource plays in the Montney and Duvernay,” he said. “Leismer has been the Company’s flagship thermal project, holding a 2.8 times steam-oil-ratio (SOR) in June, while the Company’s Hangingstone project has a current SOR of 3.8 times. Additionally, Leismer has in place a memorandum of understanding for a carbon capture and sequestration project, with the goal of reducing emissions by 30 per cent by 2025 and to net zero in the long term. The Company’s CF leverage to oil prices is among the highest in the group, it has the highest 2023 estimated FCF/EV among its oil sands peers (28.2 per cent vs 12.5 per cent), it trades at $36k per 2023 flowing barrel of production, with its next closest peer at $60k.”

Mr. O’Rourke sees Athabasca possessing financial flexibility after “significant” deleveraging that included the redemption of US$131-million in term debt thus far this year. It has now achieved 75 per cent of its US$175-million debt reduction objective, leading the analyst to predict an upcoming shift to a shareholder return strategy.

“The Company now has a low net debt position of $100-million and expects to be in a net cash position by year-end 2022, providing significant forward-looking financial flexibility,” he said. “ATH is committed to further enhancing shareholder returns by utilizing FCF and cash balances for share buybacks or dividends once its debt target is achieved. Guidance on shareholder returns and capital allocation framework are expected in Q4.”

Also emphasizing its exposure to oil price upside and “highly experienced and committed” management team, Mr. O’Rourke set a target of $3.75 per share, which exceeds the $3.19 average on the Street.

“The quality of Athabasca’s operations is demonstrated by its low-decline, large resource asset base that provides sustainable CF generation, while it offers the highest oil price leverage and highest 2022e FCF/EV yield (28.2 per cent) of the group and 67-per-cent upside to our current $3.75 per share NAV-based target (the highest return to our intrinsic NAV-based targets), a key driver of our Outperform rating,” he said.

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“Moving to the sidelines on near-term recalibration,” Canaccord Genuity analyst Robert Young lowered Haivision Systems Inc. (HAI-T) to “hold” from “buy” following a third-quarter earnings miss and earnings guidance reduction.

After the bell on Tuesday, the Montreal-based IP video solutions provider reported revenue of $29.6-million, up 43 per cent year-over-year but below the expectations of both Mr. Young ($30.6-million) and the Street ($31.4-million) as demand from enterprise and House of Worship customers waned. EBITDA turned negative for the first time, sinking to a loss of $1.6-million and also missing estimates (profits of $2.5-million and $2.8-million, respectively).

“The company saw continued weakness in enterprise, particularly House of Worship, and a programmatic deal slip. This was exacerbated by supply-chain and costinflation challenges, which continued from FQ2,” said Mr. Young. “Defense/ISR was an area of strength with multiple wins, including a large, net new and long duration (but unnamed) program. As well, broadcast has been resilient with opportunities related to FIFA World Cup and NFL as events open up. Gross margins were weaker than expected due to supply chain, acquisitions, and HoW market pressure, although an October price increase is expected to be an offset. Synergies from recent acquisitions (MCS/CineMassive, Aviwest and Dazzle) are taking longer than expected to materialize, although significant movement is expected in FQ4. In the MCS business, delays to DCSA approvals are a headwind on U.S. military work.

“We do not expect Haivision to be active on M&A in the near term, and we believe management will focus on integrating recently acquired assets and driving synergies. Although FQ4 is expected to see record revenue and a return to positive EBITDA, we now see a longer recovery back to 10-per-cent-plus EBITDA margins.”

Citing a “low appetite for small cap in the current environment,” Mr. Young downgraded his recommendation “as Haivision progresses through this transition” with a $5 target, falling from $8. The average on the Street is $6.25.

Elsewhere, Acumen Capital’s Nick Corcoran dropped Haivision to “hold” from “buy” with a $4.50 target, falling from $7.50.

“We move to the sidelines until Management can demonstrate a return to historical revenue growth and margins,” he said.

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RBC Dominion Securities analyst Sabahat Khan expects inflationary pressures and supply chain disruptions to continue to weigh on Roots Corp. (ROOT-T) through the remainder of 2022.

On Tuesday, the Toronto-based clothing retailer reported second-quarter sales of $47.8-million, up 22.9 per cent year-over-year and above the estimates of both Mr. Khan and the Street ($39.3-million and $43.9-million, respectively). However, an adjusted EBITDA loss of $0.6-million fell short of expectations (profits of $2.9-million and $2.1-million) as expenses jumped at a higher pace than anticipated.

See also: Roots says ‘pack and hold’ plan for unsold inventory will help avoid markdowns

“Consistent with previous commentary, management highlighted that they are experiencing some supply chain challenges, albeit some incremental improvements in shipping times/costs have been noted,” said the analyst. “The company has navigated the disruptions well thus far by leveraging its existing inventory and by using air freight. Further, Roots had previously guided to a 150-250 basis points impact to margins from air freight in H2/22; however, management now expects the impact to be at the lower end of the range given the slight moderation in cost pressures. Looking ahead, management also noted that the company is experiencing some raw material inflation. To offset margin pressures, Roots implemented some price increases at the end of Q2 and beginning of Q3.”

While see its balance sheet in “good shape,” Mr. Khan said a second-quarter decline in e-commerce sales is likely to continue as potential customers returned to in-person shopping.

Lowering his EBITDA projections for 2022 and 2023 despite higher revenue estimates, the analyst trimmed his target for Roots shares by $1 to $4, keeping a “sector perform” rating. The current average on the Street is $4.34.

“We are maintaining our Speculative Risk qualifier on Roots to reflect the challenging macro backdrop. We believe our valuation multiple fairly reflects Roots’ top-line and earnings growth outlook, and a number of risks that could impact earnings. We view Aritzia as the most comparable peer and note that our valuation multiple is below Aritzia’s current trading multiple. Our price target supports our Sector Perform, Speculative Risk rating,” he said.

Elsewhere, others making target adjustments include:

* Canaccord Genuity’s Matthew Lee to $3.50 from $3.75 with a “hold” rating.

“Looking into H2, we see potential risks in the retail space as inflation drives consumers to taper their discretionary purchases,” said Mr. Lee. “While Roots continues to prove the strength of its brand and resonance with its target market, we opt to remain cautious on revenue growth for the remainder of the year, given the opacity of consumer spending amidst rising interest rates and inflation. We have lowered our y/y revenue growth estimate from 4 per cent to 2.5 per cent for H2.”

“While Roots’ brand and omnichannel strategy continue to resonate with consumers, and we are constructive on geographical expansion, we maintain our HOLD rating based on the opaque outlook around inflation, demand, and the geopolitical environment. After our modest estimate adjustments, our target decreases to $3.50.”

* BMO’s Stephen MacLeod to $4.25 from $4.50 with a “market perform” rating.

“Heading into seasonally strong H2, Roots appears well-positioned with strong liquidity and healthy inventory (higher levels can be managed with pack-and-hold). Air freight costs will negatively impact H2 GM by ~150 bps, which management is targeting to offset. Earnings quality has improved with promotional discipline, but supply chain disruptions and macro headwinds introduce H2 uncertainty,” said Mr. MacLeod.

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After a “house-cleaning” second-quarter that fell short of his expectations, Echelon Capital Markets analyst Andrew Semple reduced his near-term projections for Fire & Flower Holdings Corp. (FAF-T) as its digital results continue to struggle.

Shares of the Toronto-based cannabis retailer plummeted 8.2 per cent on Tuesday following the premarket release, which saw “solid” gains from its retail segment but deteriorating margin performance.

“Sales held steady despite closing net 9 stores in the quarter, though margins and adj. EBITDA slipped further,” he said. “We note the quarter reflected only one month under the leadership of the Company’s new CEO Stéphane Trudel, who has placed additional emphasis on returning Fire & Flower to profitability. The Company is taking steps subsequent to quarter end to improve gross margins and to better manage opex under the Company’s new ‘Get-to-Green’ strategic initiative, which focuses on a return to EBITDA profitability.”

Mr. Semple thinks that the first “successes” of that strategic shift were evident in the quarter and expects “more to come.”

“We view FQ222 as a transitional quarter for the Company as new management begins to implement their strategy, advance the discount pricing program, and execute on cost management efforts,” he said. “Central to the Company’s renewed focus on operational improvements is the “Get-to-Green” strategy, emphasizing increasing sales and gross profit and reducing SG&A. We believe the Company’s investments in corporate shared services (finance, HR, real-estate, legal etc.) are largely complete and sufficient to support a scaling retail presence, while investments in the Company’s Firebird Delivery marketplace should support gross margin expansion as the services penetrates its key markets.”

Moderating his sales forecasts due to lower-than-anticipated digital sales and the expectation for even lower prices from the segment, Mr. Semple cut his target for Fire & Flower share by $1 to $3.50, keeping a “speculative buy” rating. The average is $4.82.

“We see reasons for optimism longer term, though we believe investors are likely to be tepid with the deterioration of the Company’s EBITDA at a moment when capital markets are being fickle with growth company valuations and demanding better earnings visibility,” he said. “Management will likely need to demonstrate clear progress towards returning Fire & Flower to positive EBITDA before a more significant re-rating of the shares can occur. We continue to view the shares as undervalued, though note implied upside is lean for the cannabis industry in the context of significant TTM [trailing 12-month] share price declines for substantially all cannabis companies. Further upside to our DCF valuation is possible as high-margin digital revenues continue to build, if the Company’s new Spark Perks member pricing gains further traction, and as the Company deploys the cash expected from Alimentation Couche-Tard.”

Elsewhere, PI Financial’s Jason Zandberg dropped his target to $5.50 from $20, maintaining a “buy” recommendation.

“The drop in digital revenue has changed our investment thesis for FAF — digital revenue peaked in Q4 at $4.1-million and has subsequently dropped to $2.9-million in Q1 and now $1.9-million in Q2,” said Mr. Zandberg. “We had expected this segment to double each year in our forecast period. We recognize that retail revenue was better than expected and this segment may have reached an inflection point and should replace some lost growth.”

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In other analyst actions:

* Canaccord Genuity’s Christopher Koutsikaloudis upgraded Inovalis Real Estate Investment Trust (INO.UN-T) to “buy’ from “hold” and lowered his target to $5, below the $5.81 average, from $7 previously.

* RBC Dominion Securities’ Irene Nattel bumped her Aritzia Inc. (ATZ-T) target to $53 from $52, maintaining a “sector perform” rating. The average is $57.43.

* Believing Tuesday’s Investor Day event showcased a “substantial runway for growth,” TD Securities’ Cherilyn Radbourne raised her Brookfield Asset Management Inc. (BAM-N, BAM.A-T) target by US$1 to US$73, exceeding the US$65.30 average, with an “action list buy” recommendation.

“We see very attractive upside vs. the current share-price and continue to view BAM as a core holding,” she said.

* CIBC World Markets’ Jamie Kubik lowered his Kelt Exploration Ltd. (KEL-T) target to $9.50 from $10, keeping an “outperformer” rating. The average is $10.19.

“Kelt’s operational update included greater-than-expected downtime for Q3/22 and drives our estimates for 2022 lower. This is somewhat offset by the recent issuance of permits in BC for new drilling at Oak/Flatrock, which is likely to drive stability in 2023 production. We trim our price target on the slight impact to our near-term estimates, but maintain our Outperformer rating on the stock given its strong return profile,” said Mr. Kubik.

* Following the late Monday release of the Integrated Development Plan for its Kainantu Gold Mine Project in Papua New Guinea, TD Securities’ Arun Lamba cut his K92 Mining Inc. (KNT-T) target to $11.50 from $12 with a “buy” recommendation. The average is $11.92.

“We believe that the company will undergo a transformation over the next few years, with what could become a significant, high-grade, low-cost, and cash-generating operation at its Kainantu Gold Mine in Papua New Guinea,” he said.

* Scotia Capital’s Trevor Turnbull cut his target for Mag Silver Corp. (MAG-A, MAG-T) to US$16.50 from US$17, below the US$23.85 average, with a “sector perform” rating.

“Joint venture partners, Fresnillo plc and MAG Silver (56 per cent/44 per cent) announced the power needed for final commissioning of the Juanicipio plant should be available by the end of October,” he said. “All construction is complete and the government electricity regulator, CFE (Comisión Federal de Electricidad), is conducting compatibility tests and determining protocols as a final step to the tie-in.

“We consider the progress towards completion positive, but in our opinion, the ramp-up to 80–90 per cent of capacity by year-end could be slightly delayed. As a result, we have assumed commercial production will commence in Q2/23 versus Q1/23 previously. We believe the speed of the ramp-up will be dictated by how quickly the flotation circuit can be adjusted to reach desired recoveries. We do not think there are any mechanical challenges to a quick acceleration of the plant’s capacity.”

* Resuming coverage after the completion of its substantial issuer bid, BMO Nesbitt Burns analyst David Gagliano reduced his Stelco Holdings Inc. (STLC-T) target to $49 from with an “outperform” rating. The average is $51.36.

“We are lowering estimates and the target ... to reflect 2Q’22 results (released during the restriction period), and near-term price/cost pressures,” he said. “Bigger Picture: Lower spot sheet prices and soft demand represent near[term headwinds. However, in our view, STLC shares are already discounting these headwinds, trading at only 1.4 times/1.2 times 2023/2024 estimated EV/EBITDA (on assumed prices below current prices), despite the healthy balance sheet and large cash reserve.”

* Citi’s Yigal Nochomovitz cut his target for Vancouver-based Zymeworks Inc. (ZYME-N, ZYME-T) to US$21 from US$27, maintaining a “buy” recommendation. The average is US$21.61.

“While the ZW49 Ph1 update at ESMO 2022 indicates an emerging relatively safe and initially active single-agent profile in several HER2+ cancers, we think the path to market will be exceedingly risky given the HER2 ADC space is arguably one of the most intensely competitive and crowded settings for any chemo-conjugated antibody target in oncology. While ZYME acknowledged this large risk yesterday with a complex map showing the breadth and depth of HER2 ADC competition, we don’t believe the company answered the key question as to why ZW49 is differentiated from the field,” he said.

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