Inside the Market’s roundup of some of today’s key analyst actions
RBC Dominion Securities analyst Tom Narayan is “moving to the sidelines” on Magna International Inc. (MGA-N, MG-T), believing “more meaningful” margin and free cash flow improvements may not occur until after 2025 as the company “accelerates investment in its core growth initiatives.”
Seeing limited upside until that point, he lowered his recommendation for its shares to “sector perform” from “outperform” on Wednesday.
“We have argued that the 2023 outlook could be a bit conservative on European energy costs that are improving, and this continues to be our belief,” said Mr. Narayan in a research report. “However, from a longer-term perspective (2023–25) we have difficulty seeing upside to expectations. The company’s updated longer-term outlook shows margin progression to 6.7–7.8 per cent in 2025 from 4.1–5.1 per cent this year, implying that it is able to achieve a 27-per-cent margin on incremental revenue growth. We think this is achievable, but we believe it reflects the normalization of current elevated input costs over time and production growth that approximates 10 per cent (NA, EU, China) vs. our 8-per-cent forecast. Further, interest costs are becoming more expensive with the recent debt issuance and notes coming due the next two years that we think will need to be refinanced (more on this below). Then there is the Veoneer acquisition that we believe will be dilutive initially and not a meaningful contributor until after 2025.”
The analyst thinks the closing of its US$1.525-billion acquisition of Veoneer’s active safety business from investment firm SSW Partners later this year will likely place further pressure on estimates.
“When it does, we expect additional clarity on the EBIT/EPS impacts that could push consensus (and our) 2023-24 margins lower,” he said. “So far, management has indicated that margins can be consistent with Magna Electronics businesses, but they are below the corporate average given higher investment requirements. Additionally, the transaction will be neutral to EBIT in 2024, but this is on an ex-purchase price amortization basis, so the actual EPS impact will be negative, as the deal amortization will be included in adj. EPS. Longer-term, synergies and ADAS [Advanced Driver Assistance Systems] growth are likely, but this is a case of MGA investing in the near term for long-term opportunity—not a strategy that we disagree with, but payoff is longer-term (post 2025).”
While Mr. Narayan sees an “accretive strategy” from Magna, he warns it will “take time to realize” and emphasized its debt structure is becoming more expensive.
“MGA is ramping investment in megatrend to support higher growth opportunities, and we think spend could be accelerated further with the Veoneer acquisition, and this is a headwind through our forecast period (2025),” he said. “Similarly, we believe there will be additional near-term margin pressure from Veoneer, as margins are below P&V and the company average initially. We do believe that the transaction will help accelerate outgrowth in the second half of the decade and that the growth in ADAS and electrification can carry a higher margin profile over time, but again, this won’t become apparent until after 2025.”
He cut his target for Magna shares to US$52 from US$58. The current average target on the Street is US$63.50, according to Refinitiv data.
RBC Dominion Securities analyst Gregory Renza said British giant GSK plc’s US$2-billion deal to acquire Bellus Health Inc. (BLU-Q, BLU-T) shows the value of its camlipixant drug, calling it “a best-in-class profile in the P2X3 space and attractive chronic cough market opportunity.”
Expecting the acquisition, which caused the Laval, Que.-based company to jump 99.7 per cent on Tuesday, to proceed without significant obstacles, he lowered his rating for Bellus shares to “sector perform” from “outperform” previously.
“We see BLU’s camlipixant as a good strategic fit for GSK’s infrastructure and portfolio focus and see low FTC risk (due to the absence of asset overlap) as the deal is expected to close in 3Q23 or earlier,” said Mr. Renza. “We believe camlipixant will fit into GSK’s portfolio where 22-per-cent revenue is from the respiratory franchise and leverage their existing infrastructure in PCP and respiratory to harness an opportunity in refractory chronic cough. GSK’s resources should also be leverageable on drug development speed and scale to stay competitive in the P2X3 space with other players like MRK (and even Shionogi) - we continue to watch for regulatory updates on gefapixant refiling which per MRK is still scheduled for 1H2023.
“We believe the attractiveness of BLU’s asset could have warranted multiple bidders and will look to upcoming deal circular to verify the competitiveness of the process. We do acknowledge receiving inbound inquiries today on the potential that the sale price undervalues the risk profile and long-term opportunity of camlipixant. That said, this exit, at this price and time and with this buyer and market (while we await MRK’s move with gefapixant, BLU’s CALM pivotals advance to 2024/2025 data, and the macro remains palpable) has generated a successful outcome, in our view.”
Mr. Renza cut his target for Bellus shares to US$14.75 from US$21 to reflect the deal’s valuation. The average is US$15.56.
Elsewhere, Jefferies’ Suji Jeong cut the stock to “hold” from “buy” with a US$14.75 target, down from US$21.
While falling bond yields have brought some support to renewable power stocks, National Bank Financial analyst Rupert Merer is “baking-in rate stability from here.”
“Renewable stocks have seen some tailwinds recently, with slightly lower bond yields,” he said. “The Canada 10-year yield is now at 3.1 per cent, down from highs of close to 3.5 per cent in early March (but up from recent lows of 2.8 per cent). This has provided some relief for the sector, but with NBF’s 12-month forecast at 2.7 per cent, rates could be range-bound for some time. In addition, easing inflation and supply chain issues are reducing concerns about risks to returns on growth in the sector.”
However, in a research report released Wednesday, Mr. Merer pointed to inflation and improving weather could potentially drive asset valuations moving forward. He also thinks the Canadian federal budget could “speed up” development.
“Renewable power IPPs, with largely CPI-indexed contracted cash flows, are poised to benefit from tailwinds to power prices from inflation,” he said. “Inflation has been a headwind to returns on some growth projects, but growth contributes an average of only 10 per cent to our target prices, while operating assets make up a much larger 80-per-cent share of our valuation. We expect to see the benefits of inflation start to materialize in 2023 as most contracts adjust annually, following high inflation in 2022. Although weather has been a headwind in the last few quarters (and could be in Q1 too), we believe sentiment could improve this year.”
“Canada’s budget announcement is expected to expedite the development of projects for some of our IPP coverage. The proposed 15-per-cent refundable tax credit falls short of the U.S.’s 30-per-cent IRA, but should increase the competitiveness of renewable energy and accelerate growth. We believe that this support will reduce power prices for new generation in Canada, but ultimately should not have an impact on returns. While the overall impact is positive, we would not expect persistent, outsized returns on new projects.”
With a decline in bond yields and a “dropping” market risk premium, Mr. Merer lowered his discount rate for IPP stocks in his coverage universe, leading to higher targets for five companies. He did warn that “further increases won’t come as easily.”
His changes are:
- Boralex Inc. (BLX-T, “outperform”) to $46 from $42. The average on the Street is $46.85.
- Brookfield Renewable Partners LP (BEP-N/BEP.UN-T, “outperform”) to US$34 from US$31. Average: US$37.80.
- Innergex Renewable Energy Inc. (INE-T, “outperform”) to $21 from $20. Average: $19.23.
- Northland Power Inc. (NPI-T, “outperform”) to $42 from $40. Average: $44.80.
- TransAlta Renewables Inc. (RNW-T, “sector perform”) to $13.25 from $12.75. Average: $13.3
“The highest returns to target are for PIF [“outperform” and $20 target], INE, ARR [“outperform” and $11.75 target], NPI and AQN [“sector perform” and US$10 target], but for long-term growth BEP and BLX are well positioned,” he said. “To move targets higher, we would likely need to see lower yield forecasts or large investment initiatives.”
“Our highest return to target is for PIF, which trades at an implied discount rate of more than 14 per cent by our estimates, likely given its developing market exposure. This is followed by INE, at an implied discount rate of 8.9 per cent, following a soft Q4 with poor performance across its operating fleet. With good weather, we believe that INE could outperform its peers this year. However, this is not certain to happen in Q1.”
Touting its “superior track record” and “leading market positions,” he initiated coverage of the Toronto-based residential property services provider with an “outperform” recommendation, expecting its “growth story” to continue.
“Over its history, FirstService has produced a consistent and impressive track record of both top and bottom line growth,” said Mr. Callaghan. “Organic growth supplemented by tuckin acquisitions have driven a 19-per-cent revenue CAGR [compound annual growth rate] over 25+ years (more than 50-per-cent organic), while Adj. EPS has compounded at 17 per cent since the split from Colliers. Despite this growth, the company’s market leading positions across both its Residential and Brands divisions continue to represent a tiny fraction of the overall market.
“By virtue of the leading positions across fragmented markets, we believe the runway for further growth remains long and attractive. Our outlook forecasts Adjusted EBITDA of $399 million (up 13 per cent year-over-year) in 2023E, rising to $451 million in 2024E (up 13 per cent YoY), driven by total revenue growth (organic + inorganic) of 11 per cent in 2023 (FSB at 12 per cent, FSR 11 per cent), with 10 per cent in 2024E. In addition to continued growth, we also flag the potential for margin expansion, particularly within the Brands divisions, over the medium to longer-term which should serve as further upside.”
The analyst thinks FirstService’s “diversified and essential focus” should allow it to “remain resilient despite macroeconomic headwinds.”
“In light of macro headwinds, we highlight our view that FirstService’s diversified businesses should position it relatively well in a recessionary environment,” he said. “This is founded upon the company’s high-degree of recurring and essential property services revenue. We see the home services brands + one-half of Century Fire’s revenue linked to new developments as most sensitive to economic fluctuations. Those businesses accounted for just under 20 per cent of revenues in 2022. Not to be overlooked, balance sheet flexibility (1.7 times net debt/EBITDA vs 2.0 times - 2.5 times comfort level) could also allow FirstService to capitalize on M&A should seller expectations temper and multiples compress.
Mr. Callaghan set a target of US$165 per share, seeing 16-per-cent upside to current levels. The current average is US$152.
“We believe FSV is well positioned to continue to capitalize on an attractive runway of future growth opportunities across both its FirstService Residential (FSR) and FirstService Brands (FSB) divisions. At the same time, a high degree of recurring revenue, along with a focus on essential property services, positions the company relatively well to weather a potential economic downturn,” he concluded.
When Canadian Tire Corp. Ltd. (CTC.A-T) reports its first-quarter results on May 11, National Bank Financial analyst Vishal Shreedhar expects to see “soft” sales results, which he said reflects “an incrementally more constrained demand environment as well as heightened inventory.”
“Our review suggests that discretionary non-experiential spending has softened year-over-year,” he said. “We expect tepid sales performance ... (CTC estimates a revenue impact of $150-million in H1/23; majority of impact in Q1/23), in addition to other factors,” he said. “We expect Financial segment results to remain resilient, reflecting continued solid unemployment data and relatively controlled aging rates at Glacier Credit Card Trust.”
“We understand management expects incrementally higher promotional intensity in discretionary categories in 2023. Our review of North American peer commentary indicates a similar theme. CTC additionally indicated expectations of a more constrained demand environment, particularly in H1/23.”
Mr. Shreedhar is projecting earnings per share of $1.42, matching the consensus on the Street but down from $3.06 during the same period a year ago. He attributed that 53.5-per-cent year-over-year drop to “softer results in Retail (dealer de-stocking, incrementally softer consumer demand, and a slight impact of a fire at the A.J. Billes Distribution Centre).”
Projecting flat same-store sales growth for Canadian Tire stores and declines of 1.5 per cent for Mark’s and 1.0 per cent for SportChek, Mr. Shreedhar did emphasize the first quarter is normally “seasonally light” quarter for Retail, which he said “makes it less useful of a readthrough for full-year results.”
“We believe that management has executed well throughout the pandemic, though recent increases in inventory have been unhelpful,” the analyst said. “We expect investors to be focused on consumer demand trends (given heightened macroeconomic uncertainty), cost control, and margin management.”
Maintaining an “outperform” recommendation for Canadian Tire shares, Mr. Shreedhar raised his target to $201 from $195 to reflect an advancement in his valuation period. The average target on the Street is $199.50.
In response to sudden resignation of its Chief Financial Officer, National Bank Financial analyst Dan Payne downgraded Anaergia Inc. (ANRG-T) to “underperform” from “sector perform” previously.
Before the bell on Tuesday, the Burlington, Ont.-based cleantech company, which converts organic waste into water and fertilizer, announced the departure of Paula Myson, who had been in the role since October of last year. Chief Development Officer Hani Kaissi will become acting CFO.
“Certainly, a challenging situation for the company, with the resignation coming ahead of first quarter reporting after having delayed or restated the prior two reported quarters and calls in to question potential underlying issues of its internal controls processes and ability to reliably report financials,” said Mr. Payne. “We expect this will remain a meaningful overhang on the company, compounding risk to execution and validation of operations (which remains outstanding) and will likely be reflected through a continued contraction in its multiple and share price in the interim.”
To reflect “the increased uncertainty embedded throughout the business,” including execution, liquidity and capitalization, he dropped his target for Anaergia to $2 from $4. The average on the Street is $4.73.
Seeing a “material balance sheet risk” and limited return to upside from current levels, Canaccord Genuity analyst Tania Armstrong-Whitworth downgraded Greenbrook TMS Inc. (GBNH-Q) to “hold” from “speculative buy” following the Monday post-market release of its fourth-quarter 2022 results.
The Toronto-based provider of outpatient depression treatment reported reported revenue of US$21.1-million, missing the Street’s expectation of US$22.2-million on a lower conversion from consultation to new patient starts. An earnings per share loss of US$1.03 also fell short of consensus projection (a loss of 37 US cents).
“Q4 profitability was impacted by higher-than-normal marketing spend that failed to translate into a proportional amount of revenue,” said Ms. Armstrong-Whitworth. “While the incremental spend did indeed drive a surge in patient inbounds, this overwhelmed the system and team, clogging the pipeline. This was exacerbated given resources allocated to the ongoing Success TMS integration.
“Looking forward, management expects to focus marketing spend more narrowly on geographies and centres that have adequate doctors and staff in place to close new patients. As a part of the restructuring plan, it intends to reduce its footprint, streamlining volumes through a smaller number of high-revenue, well-staffed centres. This is expected to help each dollar of marketing spend go further.”
With the company’s plan to close 50 treatment centres by the end of the first half of 2023, the analyst reduced her revenue and consult volume projections.
“Despite the company’s plans to rightsize its footprint and cut operating spend, we wonder if this may have come too little, too late,” she said. “We estimate GBNH currently has $15.6-million of available cash (including $6.25-million equity raise and $7.75-million new debt in Q1), but it’s been burning over $10.0-million per quarter on operations, interest, and lease payments since acquiring Success TMS last year. Unless it’s able to meaningfully reduce this burn rate in the next few months, we project it could run out of cash by the summer. Lenders and large equity holders have already extended $14.0M in incremental equity and debt financing through Q1. If GBNH does not achieve savings through its restructuring plan, we are unsure how much further their goodwill will extend.”
Ms. Armstrong-Whitworth dropped her target for Greenbrook shares to 75 US cents from $4.75. The average on the Street is US$2.13.
Elsewhere, others making target changes include:
*Lake Street Capital Markets’ Frank Takkinen to US$3 from US$6 with a “buy” rating.
“We support Greenbrook’s decision to deemphasize non-performing centers and dedicate resources to clinics with the majority of revenue and best growth prospects,” said Mr. Takkinen. “While it has admittedly taken longer than we anticipated, we think the right infrastructure and strategy are now in place to achieve breakeven operations. Our sense is the non-performing centers were not only dragging on profits but also requiring a disproportionate amount of management’s attention, which in turn detracted from optimizing performing centers. Post-restructuring, we believe Greenbrook can be a $95-million revenue company with 10-per-cent-plus AEBITDA margins in 2024. As the Company scales, we expect profitability to further improve. We expect Q2′23 to reflect partial cost savings from the restructuring prior to full realization in Q3′23. We expect Spravato to be a significant growth driver in 2023 as Greenbrook believes they can nearly double the number of Spravato sites this year from 42 at the end of 2022. As the Company makes progress toward profitability, we continue to think a valuation correction will occur.”
* Stifel’s Justin Keywood to US$1.25 from US$1.50 with a “speculative buy” rating.
“The company is in the midst of a restructuring to right size operations and drive towards profitable operations but large liabilities and high interest rates, highlight an imminent need for more liquidity. We still hold the view that GTMS can navigate balance sheet challenges, but we factor in rising risks, reflective in a speculative rating,” said Mr. Keywood.
Echelon Capital Markets analyst David Chrystal believes Dream Industrial REIT’s (DIR.UN-T) “superior organic growth profile and high-quality globally diversified portfolio merit a premium valuation.”
While he thinks that premium will be “tempered by the REIT’s external asset management structure,” he initiated coverage with a “buy” recommendation, seeing the Toronto-based REIT as a “an opportunity to invest in historically tight industrial real estate fundamentals through the largest publicly listed portfolio of Canadian industrial assets.”
“Historically, industrial real estate has been a steady, defensive asset class delivering modest rent and price growth,” said Mr. Chrystal. “However, secular trends – accelerated by the COVID-19 pandemic – have driven a significant increase in demand for industrial space. Among these trends are (1) rapid growth in e-commerce, (2) rise of same-day delivery, (3) supply chain disruption, and (4) re-shoring/near-shoring. We expect these trends will sustain elevated demand for industrial space, particularly in North America and Western Europe.”
In a research report titled Surfing a Secular Wave, the analyst thinks the current “significant” mark-to-market opportunity should drive organic operating income growth moving forward, while its joint venture structures “support external expansion and growing stream of fee income.”
“Management estimates that current market rents are approximately 35-40 per cent above in-place rents, owing to outsized exposure to the exceptionally tight Greater Toronto Area (GTA) and Greater Montreal Area (GMA), which represent more than 70 per cent of Canadian GLA,” he said. “High double-digit lifts on Q422 leasing activity within the REIT’s Canadian portfolio showcase the significant upside in marking expiring leases to market. On the back of a 10.5-per-cent increase in same-property NOI in 2022 (constant currency), management is guiding toward a similar level of growth in 2023. Should market rents remain flat (or continue to trend higher), we could see the REIT post several years of organic growth in the low double digits.”
“DIR’s portfolio includes investments in three JVs, most notably a 10-per-cent interest in a JV established to privatize Summit Industrial REIT earlier this year. JV structures allow the REIT to acquire interests in large portfolios alongside major institutional partners while reducing capital outlay and risk. Additionally, the REIT earns property management fees from the entire asset base, thereby enhancing return on equity. We believe that in the near term, external growth will focus on expanding existing JVs.”
He said a target of $17 per unit, which equates to a potential 12-month total return of over 18 per cent. The average on the Street is $16.89.
In other analyst actions:
* Citing its valuation, Wells Fargo’s Neil Kalton downgraded Hydro One Ltd. (H-T) to “equal weight” from “overweight” with a $41 target (unchanged). The average on the Street is $38.39.
“We are pumping the brakes on Hydro One,” he said. “While the fundamental outlook remains strong, we view shares as fairly valued following year-to-date outperformance of 1,200 basis points vs. the S&P Utilities.”
* TD Securities’ Graham Ryding upgraded CI Financial Corp. (CIX-T) to “buy” from “hold” with a $17 target. The average target on the Street is $19.50.
* TD Securities’ Steven Green downgraded Alamos Gold Inc. (AGI-T) to “hold” from “buy” while raising his target to $21 from $19, exceeding the $17.77 average.
* In response to its Tuesday release on the effect of IFRS 17 on common shareholders’ equity, BMO Nesbitt Burns’ Tom MacKinnon raised his Fairfax Financial Holdings Ltd. (FFH-T) target to $1,225 from $1,150, reiterating an “outperform” rating. The average is $1,169.64.
“FFH is by far the biggest beneficiary amongst its Canadian P&C peers on the transition to IFRS 17 (which calls for discounting), largely because of its current conservative practice of not discounting its reserves—IFC, DFY, and TSU currently discount,” he said. “The substantial increase in interest rates is primary driver of the bigger increase at Q4/22 versus the Q4/21 guide. Unlike its Canadian peers (IFC, DFY, TSU), FFH conservatively does not currently discount its claim liabilities under IFRS 4 to reflect expected yields earned on its assets. We expect the increase in Q4/22 BVPS upon transition to IFRS 17 to be similar to the impact provided in company guidance for Q4/21, which was a 2.9-per-cent increase for IFC (already in our estimates), a 5.0-6.0-per-cent increase for DFY (already in our estimates), and a 1.0-5.0-per-cent increase for TSU, with these increases driven by the deferral of additional insurance acquisition expenses, and, in the case of DFY and TSU, a lower risk adjustment due to the change in methodology for calculating the risk adjustment on reserves.
“Now on an apples-to-apples basis FFH appears even more attractive relative its Canadian peers.”
* Desjardins Securities’ Alexander Leon initiated coverage of Inovalis Real Estate Investment Trust (INO.UN-T) with a “hold” rating and $4.50 target. The average is $4.75.
“Main tenant departures, a 50-per-cent distribution cut and broader market volatility have contributed to INO’s units currently trading at a significant discount to historical valuations, resulting in an elevated 11.5-per-cent distribution yield,” the analyst said. “While we believe the distribution is sustainable, certain critical milestones need to be achieved before we become more constructive in our recommendation.”
* Credit Suisse’s Andrew Kuske cut his Mercer International Inc. (MERC-Q) target to US$10.50 from US$15.50, maintaining a “neutral” recommendation. The average is US$14.20.
“In our view, Mercer International Inc. (MERC) continues to grow the business in a positive and incremental fashion supporting longer-term value creation,” said Mr. Kuske. “In the near term, we adjust our financial model for multiple factors – albeit mainly centered on a meaningful moderation of realizations across MERC’s major business lines (i.e., pulp and lumber along with the power segment – given past extremes) for several reasons. With the past Q4 2022 results, some realizations were robust, however, parts of the business were decelerating ... Financial model moderation results in our MERC target price moving downward.”
* Eight Capital’s Kiran Sritharan initiated coverage of Sabio Holdings Inc. (SBIO-X), a Toronto-based provider of connected TV and over-the-top advertising platforms, with a “buy” rating and $3.50 target, exceeding the $3.22 average on the Street.
“Sabio has attractive targeting options that can triangulate specific households in the U.S. to curate campaign strategies around them,” he said. “We like Sabio’s product-market fit and model, which has delivered above industry growth and market share gains.”
“Despite continued lithium commodity price pressure, we continue to believe SGML will re-rate higher with first spodumene production now underway, and first commercial sales expected in May,” said Mr. Jackson.
* Scotia Capital’s Michael Doumet lowered his Toromont Industries Ltd. (TIH-T) target to $122 from $125, maintaining a “sector outperform” rating. The average is $124.78.
“We continue to like the equipment dealers on the basis of near-record backlogs (i.e. shock absorbers), firm backdrops, attractive valuations, and capital deployment opportunities,” he said. “In Canada, while residential activity softens (less than 10 per cent of sales for dealers), non-residential, infrastructure, and mining demand is expected to sustain overall growth. While dealer inventories improved in the 2H22, we think limited availability for used supports strong equipment pricing/margins through 2023. As such, we think 2023 will be a quasi-sweet spot for the dealers, where equipment/parts volumes rise low single-digits (skewed to 1H), price increases (and price roll over) lifts sales high single-digits (also skewed to 1H), and margins remain robust. Beyond 2023, the global energy transition and population growth, and what it means for mining and infrastructure, underpins favorable multi-year fundamentals, in our view. Our preferred pick is FTT.”
* BMO Nesbitt Burns’ Sohrab Movahedi cut his target for Toronto-Dominion Bank (TD-T) to $91 from $93, below the $99.27 average, with a “market perform” recommendation.
“We have updated our TD model estimates based on the latest consensus expectations for SCHW and FHN. This update moved our 2024 EPS estimate from $9.25 to $9.04,” he said.