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Thursday's analyst upgrades and downgrades

Air Canada jets sit by the gates at Toronto Pearson International Airport in Toronto on April 25 2013.

Fred Lum/The Globe and Mail

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

BMO Nesbitt Burns analysts expect a "relatively constructive" underlying pricing environment for most base metals and bulk commodities over the next 12 to 24 months in comparison to current spot prices.

In a research note updating the fourth quarter, the analysts raised their 2017 price forecasts for met coal (38 per cent), platinum (15 per cent), zinc (11 per cent), and iron ore (10 per cent) price forecasts. At the same time, they lowered their near-term outlook for uranium (down 14 per cent in 2017), alumina (down 11 per cent) and aluminum premiums (an average of a decline of 18 per cent).

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"We maintain our overall opinion that most of the base metal and bulk commodity producers are transitioning from 5-plus years of oversupply, balance sheet strain, and weak pricing, into a multi-year period of shrinking surpluses/emerging deficits, meaningfully improved balance sheets, and improving prices (albeit slowly, and off a low base)," the firm said. "In our view, this underlying framework will continue to be supportive for the base and bulk producers in general over the next 1-3 years.

"However, as usual, timing and differentiation both remain key to generating alpha within the group. In the near term (i.e., next 3-6 months), BMO's Commodities team is forecasting a fairly benign pricing environment, essentially staying within a 'lower-for-longer' pricing band for most commodities, with valuations suggesting further pricing gains are needed before the stocks re-rate upwards in a meaningful fashion. Against this backdrop, we continue to recommend a relatively nimble approach for shorter-term investors (i.e., buy on pullbacks and trim on strength), while longer-term investors use the pullbacks to build positions selectively."

In conjunction with the pricing model changes, analyst Sasha Bukacheva upgraded HudBay Minerals Inc. (HBM-T) to "outperform" from "market perform." Her target price fell to $6.50 from $7.50, versus the consensus of $7.78.

"Despite the company falling out of favour due to challenges to its copper growth (permits and funding for Rosemont), which arguably dominates the outlook, Hudbay could be growing its zinc production at Lalor into strengthening zinc price s. Shares currently screen inexpensive, trading at greater-than 5x 2016/2017 estimated EV/EBITDA (peers are trading at 10.0x), whereas EBITDA is forecast to grow in 2017/2018 due to both higher anticipated zinc prices and zinc volumes. Scarcity of mining companies with meaningful levels of zinc exposure could renew investor interest in the stock, particularly as it trades at a discount."

Other target price changes included:

- Teck Resources Ltd. (TCK.B-T, market perform) to $22.50 from $16. Consensus is $20.43.

- AK Steel Holding Corp. (AKS-N, market perform) to $5 (U.S.) from $7. Consensus is $5.36.

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- United States Steel Corp. (X-N, market perform) to $20 (U.S.) from $25. Consensus is $21.50.

- Cameco Corp. (CCO-T, outperform) to $15 (Canadian) from $17. Consensus is $16.96.

- Lucara Diamond Corp. (LUC-T, market perform) to $3.50 from $3.25. Consensus is $3.68.

- Mountain Province Diamond Inc. (MPV-T, market perform) to $7 from $6. Consensus is $7.17.


"Giving credit when credit is due," Desjardins Securities analyst Gary Ho upgraded AGF Management Ltd. (AGF.B-T) in reaction to its third-quarter results.

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On Wednesday, the Toronto-based asset management company reported quarterly adjusted earnings per share of 13 cents, in line with the projections of both Mr. Ho and the Street.

"We believe retail net flows will continue to improve, driven by better fund performance and tangible evidence from changes put through by President and CIO Kevin McCreadie since he joined the firm two years ago," said Mr. Ho, justifying bumping his rating to "buy" from "hold." "In the asset management space, we believe fund performance tends to be a leading indicator for net sales/redemptions."

Emphasizing the improvement in fund performance, Mr. Ho added: "As a result, retail net redemptions have declined meaningfully over the past few years. Furthermore, with recent progress, we foresee AGF retail net flows continuing to outperform industry trends (net redemptions since 2008)—a big catalyst for the stock, in our view … Despite industry flows being down 53 per cent in the fiscal year to date, AGF reported net redemption improvement of 32 per cent. Improved flows are driven by better fund performance (particularly in global equity, global balance and the Elements fund line-up), interest in low-volatility products and developing strategic distribution relationships (Primerica, a Western Canadian–based credit union, and more recently a Québec-based insurer)."

Mr. Ho said he's gaining increased "comfort" with AGF, pointing out management's attempts to broaden into the alternative space through InstarAGF Asset Management Inc. and Stream Asset Financial Corp. He added his sum-of-the-parts valuation "looks attractive."

He raised his target price for the stock to $6 from $5.50. The analyst consensus price target is $5.28, according to Thomson Reuters.

"We believe sentiment on the stock could improve with the retail fund flows trend outperforming industry, completion of final close of the InstarAGF Essential Infrastructure Fund and better management credibility," he said.

"AGF offers an attractive 6.4-per-cent dividend yield (highest among peers) with a conservative 50-per-cent payout ratio based on estimated fiscal 2017 free cash flow."


Capacity concerns continue to weigh on sentiment toward Canadian airlines, according to Credit Suisse analyst Julie Yates, who said growth should peak in 2016.

"Recent growth rates have been multiple points above GDP growth, concerning investors that the duopoly structure of the Canadian airlines industry that was supposed to prevent oversupply has begun to breakdown," she said. "However, growth is slowing in 2017 and the past three years of expansion has come primarily through regional and international growth – markets that have been historically undersupplied by an industry that lacked substantial regional or long-haul operations. Despite competitive dynamics between the two carriers, Canada has avoided the capacity & price wars witnessed in the US domestic market. Instead, unit revenue declines have been driven by the Western Canada recession and magnified stage and gauge impacts from long-haul growth."

Calling them "very different" airlines, Ms. Yates initiated coverage Air Canada (AC-T) with an "outperform" rating and WestJet Airlines Ltd. (WJA-T) with a "neutral" rating.

"Air Canada and WestJet enjoy a duopoly in Canada with 80-per-cent domestic market share," said Ms. Yates. "The more levered AC dominates business and international travel while investment grade WJA serves as the long-standing LCC. Both AC and WJA are pursuing earnings growth opportunities via new evolutions to their network and fleet strategies. AC recently launched Rouge, an LCC subsidiary to expand its share in leisure travel and has begun targeting US-International traffic in secondary U.S. cities by creating a seamless one-stop connection through its convenient hubs. WJA is chasing international leisure and domestic business travelers it has neglected for so long by adding regional and international longhaul operations meant to challenge AC's historical dominance. While WJA's recent strategy shifts adds costs into the business, AC's growth comes at a lower marginal cost (Rouge) that is part of a cost narrative driving a (7 per cent) decline in ex-fuel unit costs 2015-2018 versus up 9 per cent at U.S. network carrier."

On Air Canada, Ms. Yates sees "scope for multiple expansion on an inflection to positive free cash flow, delevering and slowing growth."  She set a target of $17. The analyst average is $14.09, according to Bloomberg.

"Air Canada has one of the best cost trajectories in the industry," she said.

"Unit cost improvement is driven by aggressive restructuring of regional capacity contracts, higher aircraft density, and long-term labor contracts with less arduous increases, all before factoring in the fuel efficiency and maintenance savings of replacing nearly all of its fleet with brand new aircraft in 2015-2020. Also, there will be interest savings from refinancing and retiring high coupon debt. We forecast another year of mid-single digit EBITDAR growth in 2017 despite higher fuel as a result of aggressive cost improvements."

Ms. Yates gave WestJet a $25 target, compared to the average of $23.89.

"Despite WestJet's favorable market positioning as Canada's domestic LCC, the business model is becoming more complex," the analyst said. "In the last year, WestJet has 1) increased fleet & network complexity by adding Q400 regional operations & 767 international service, 2) moved away from the cost-efficient, high utilization, point-to-point network model of traditional LCCs in favor of a hub & spoke network to maximize customer reach, and 3) adapted its model to focus more on business travelers at the expense of utilization, scheduling, and unit economics. While meaningful international growth is likely several years away, capital investment for it is not and could weigh on the stock's ability to pay shareholders as growth slows."


There is evidence of a turnaround in world dairy price, according to Desjardins Securities analyst Keith Howlett, though he said he'd wait for another month of evidence before confirming the trend.

Also citing its "ample" acquisition capacity, Mr. Howlett raised his target price for stock of Saputo Inc. (SAP-T).

"The Global Dairy Trade Index commenced moving upward in early August," said Mr. Howlett. "If this upward movement persists for another month, it may in fact constitute a trend. Milk supply is being constrained for diverse reasons in key producing regions, including because of the low global market price of recent years. Demand from China is picking up once more, while political tensions continue to result in closure of the Russian import market."

Mr. Howlett called Saputo an "adept" acquirer and integrator of dairy assets, adding synergies have resulted in "significant" earnings growth and shareholder returns. He said the company appears ready for further action in that direction.

"Saputo has made [approximately] 25 acquisitions since going public in 1997, expanding from its original base as a mozzarella cheese producer in Canada to one of the 10 largest dairy processors in the world," he said. "The company has processing operations in Canada, the U.S., Argentina and Australia. It could make additional acquisitions in those existing markets, or potentially acquire operations in Europe, Brazil or New Zealand. In the past, Saputo has predominantly acquired private companies. It has, however, completed transactions with dairy co-operatives for selective assets, acquired divisions of public companies and acquired a public company (Warrnambool in Australia). To our knowledge, Saputo has never undertaken a hostile takeover.

"Saputo's current balance sheet could support acquiring up to $520-million of EBITDA at an enterprise value/EBITDA multiple of 8x. Based on an EBITDA margin of 8 per cent, this would add $6.5-billion in revenues. Postacquisition and pre-synergies, debt to EBITDA would be ~3x. Assuming eventual synergies of 250 basis points on revenues, incremental EPS generated from the acquisition(s) would be 75 cents."

Reviewing potential U.S. acquisition targets, Mr. Howlett said Saputo would likely have the greatest interest in a "significant" mozzarella producer, like Leprino Foods Co. or Great Lake Cheese Co., or a dairy food producer, such as HP Hood LLC, Borden Dairy Co. or Grassland Dairy Products Inc.

Maintaining his "hold" rating for the stock, he raised his target to $46 from $42. Consensus is $43.44.


Shopify Inc. (SHOP-N) will continue to outgrow the e-commerce market, said CIBC World Markets analyst Todd Coupland.

"It has a dominant [Software as a Service] cloud platform that enables [small and midsize businesses] to sell goods online," said Mr. Coupland. "For each of the last six quarters, Shopify's sales growth has been 90 per cent versus 15 per cent for U.S. e-commerce sales."

He initiated coverage of the Ottawa-based business with a "sector outperformer" rating.

In justifying his position, Mr. Coupland said: "Our investment thesis and rating are predicated on three points: 1. The total available market for Shopify is 10 million SMBs in its core markets of the U.S., Canada, Europe, and Australia and 46 million globally. The potential opportunity from each SMB is [approximately] $1,000 annually. As of Q2, Shopify had 300,000 merchants. Shopify reports two revenue streams: monthly subscription sales and a percentage of gross merchandise value that flows through its platform. 2. We tested our faster-than-market growth assumptions by setting up our own online business on Shopify and its peers. The results support our conclusion that its platform offers the top solution, including best-in-class tools, apps, search engine optimization, channel partner access and support. 3. Shopify is growing at 6 times the market and aims to build a dominant global footprint. Adjusted operating margins of 20 per cent by 2020 yield EPS of $2.79 or $1.86 discounted back to today. Our upside forecast yields EPS of $4.52 ($3.01) and our downside forecast EPS of $1.32 ($0.88)."

Mr. Coupland set a price target of $60 (U.S.) for the stock, which he based on an estimated 2017 price-to-sales multiple of 8.5 times. He noted that implies the 2016 multiple of 8.6 times holds. The analyst consensus is $42.87.

"Our 2017 forecast is at the high end of Street estimates, the reasons being the market growth and the company"s recent ability to execute and beat expectations," he said. "Our target multiple is close to the current multiple, reflecting our expectation that the Shopify share price outperformance will continue."


CIBC World Markets analyst Alec Kodatsky said several factors will keep iron ore prices higher than previously projected.

He now expects prices to average $50 per tonne in the fourth-quarter and through 2018.

"While we have turned more optimistic on pricing, the iron ore market still faces several challenges," said Mr. Kodatsky. "The demand outlook is tepid, while supply is ample, growing, and could easily grow more. So given these challenges, why the change? The main drivers behind our shift in price outlook fall into three categories: 1) stabilization of demand conditions, 2) supportive Chinese policy developments and 3) emerging producer discipline (most notably Vale's approach to ramping S11D). On their own, we don't believe one single factor necessarily sways the market, but collectively the result has been, and likely continues to be, the stabilization of iron ore prices.

"In our view, the price of iron ore has historically reflected what Chinese steelmakers were able to pay. Policy changes underway aimed at boosting the underlying profitability and viability of the Chinese steel industry should, we believe, translate into an ability to pay for iron ore. History also shows that iron ore producers have been reasonably successful at extracting full and dynamic pricing for their products in a variety of supply-demand conditions – if this marketing success is also coupled with a measure of price-over-volume discipline, we are left to conclude that iron ore should fare better than we previously expected."

Mr. Kodatsky said he sees global diversified companies in the sector "being on the winning side of a benign, but stable outlook for iron ore."

"Even in a low-growth world, these companies can differentiate themselves by generating meaningful free cash flow – supporting deleveraging and, in time, return of capital initiatives," he added.

Accordingly, he increased his multiples throughout the group and upgraded a pair of stocks.

He moved Rio Tinto PLC to "sector outperformer" from "sector performer." His target increased to £30 from £20.

His rating for Anglo-American PLC jumped to "sector performer" from "sector underperformer." His target rose to £11 from £5.40.


Richmont Mines Inc. (RIC-T) was downgraded to "underperform" from "market perform" by BMO Nesbitt Burns analyst Brian Quast with a target price of $14 per share. The average is $14.88.

"Shares of Richmont have had an impressive run, up 205 per cent year to date," he said. "We are recommending that investors look to take profits at these levels."

He added: "RIC is expected to release an updated technical report for Island Gold at the end of this year. Although positive results could act as a catalyst for the stock, our view is the market has at least partially priced this in. We will continue to closely track RIC's aggressive exploration program; we view the exploration favourably, however, any positive discoveries outside of the current mining domains will likely not be brought into production in the short/medium term."

Also citing its share price appreciation, Mr. Quast downgraded TMAC Resources Inc (TMR-T) to "market perform" from "speculative outperform" and maintained his $21.50 target. The average is $20.33.

"We believe investors have positioned themselves into the stock as Hope Bay continues to advance and become more derisked,"he said. "With commercial production on the horizon in Q1/17, the stock has re-rated higher over the course of the year. TMR currently trades at 12 times 2018 estimated cash flow per share and 1.5 times P/ NPV (BMO metal prices, 5-per-cent discount rate). We view these multiples as broadly in line with where a single-asset, sub 200koz/yr producer should trade, and now see limited room for upside in the short/medium term. Although we don't foresee any startup issues given the mill has arrived at site, any sort of misstep with the startup would likely put pressure on the stock."


In other analyst actions:

Deutsche Bank analyst Lloyd Walmsley upgraded eBay Inc. (EBAY-Q) to "buy" from "hold" and raised his target to $40 (U.S.) from $30. The average is $31.69.

Atifel analyst Mark Swartzberg downgraded Coca-Cola Co. (KO-N) to "hold" from "buy." He lowered his target to $45 from $50. The average is $46.61.

Fitbit Inc. (FIT-N) was downgraded to "underweight" from "sector weight" at Pacific Crest by equity analyst Brad Erickson.

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Globe Investor Content Editor

David Leeder is a content editor in the Report on Business. He was previously Deputy Sports Editor and Weekend Digital Editor at The Globe.  He holds an undergraduate degree from McMaster University and a graduate degree from Ryerson University. More


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