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Two quality producers unfairly punished in the base metals selloff

File photo of a First Quantum operation.

KATRINA MANSON/Reuters

Inside the Market's roundup of some of today's key analyst actions. This post will be updated with more analyst commentary during the trading day.

The recent souring of sentiment for the base metals sector presents an opportunity for savvy investors to load up on some high-quality producers that have been unfairly punished in the broad selloff, says Raymond James analyst Alex Terentiew.

"Picking up stocks post-sell-off may be a daunting task, primarily because most of them look cheap – some of them for a reason, and some of them punished unfairly, we would argue," Mr. Terentiew said in a research note today. "As such, we believe that 'cheap' should never be the sole characteristic underpinning an investment case for a stock."

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So he put several base metals producers through "sensitivity tests" and looked at such metrics as implied and break-even copper prices, all-in cash costs, operating margins, cash flow yields, and liquidity requirements.

Two stocks in particular stood out: Capstone Mining Corp. and First Quantum Minerals Ltd. He thinks the producers got caught in the sell-off avalanche and buried along with some of their inferior peers.

Capstone topped his sensitivity test rankings, while also delivering a peer leading operating cash flow yield and considerable near-term production and earnings upside. He believes these factors could lead to considerable stock price appreciation.

Capstone last month announced it was acquiring BHP Billiton Ltd's Pinto Valley copper mine for $650-million, a price-tag some analysts said was too much. The acquisition also wipes out Capstone's cash.

But Mr. Terentiew sees an upside here. By removing the "prospective acquirier" label from Capstone, the company's valuation should improve, he said.

First Quantum, meanwhile, was lower in his rankings but "boasts the third lowest implied copper price, all-in costs and break-even copper price when its current project pipeline is assumed to proceed (we see this as likely), with additional upside possible should a reduced capital cost estimate for Cobre Panama be announced in two to four months," he said. First Quantum acquired Cobre Panama, one of the world's largest undeveloped copper projects, in March with the takeover of Inmet Mining Corp.

"The company also has peer-leading operating margins, some of the best balance sheet liquidity, and a management team that has a better track record than most, if not all, of its peers," he added.

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Target: Mr. Terentiew has a price target of $4 on Capstone and $24 on First Quantum. He rates both as "outperform." The average price targets among analysts are $3.53 and $23.57, respectively, according to Bloomberg data.

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After meeting its guidance over the last three quarters, Kinross Gold Corp. remains a solid turnaround story with long-term production growth potential, said RBC Dominion Securities analyst Stephen Walker.

He thinks the stock will continue to outperform peers thanks to ongoing optimization of existing mines as well as new sources of growth, including the Tasiast mine, which Kinross will make a construction decision on early next year.

Target: Mr. Walker raised his price target by $1 to $8 (U.S.). The average target is $8.11.

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After two years in the doldrums, shares in Boeing Co. finally played catch up this year, doubling the 16 per cent rise in the S&P 500. RBC Dominion Securities analyst Robert Stallard thinks the stock's strong performance won't end there.

"With airlines in decent shape, and displaying a robust demand for new aircraft, the end markets should support further progress for the stock," he said. "Probably the biggest risk to Boeing is Boeing - and whether it can continue to execute and improve cash flow, without having any fresh problems on its portfolio of development programs."

Target: Mr. Stallard raised his price target to $116 (U.S.) from $102 and reiterated an "outperform" rating. The average target is $112.10.

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Enseco Energy Services Corp. reported a disappointing first quarter, but the stock could still rise in coming quarters as revenue improves, said Desjardins Securities analyst Jamie Murray.

"While weak drilling markets have affected the company's profitability, we fully expect more normalized margins as drilling activity recovers and efficiency measures improve cost savings," he said.

Target: Mr. Murray - the only analyst who covers the stock - cut his price target to 75 cents (Canadian) from $1 and maintained a "buy" rating.

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Canaccord Genuity analyst Jason R. Mills downgraded medical device maker St. Jude Medical Inc. to a "sell" rating from "hold," concerned about how the company is categorizing earnings and a lacklustre product pipeline relative to competitors in key markets. He also cited an "overextended valuation" based on price-to-earnings growth.

"We highlight questionable earnings quality, noting divergence of GAAP to non-GAAP EPS since 2010," Mr. Mills said in a research note. " 'Non-recurring' expenses have accelerated over the past four years, raising a red flag about the recurring nature of what management categorizes "non-recurring" expenses. This should also instigate real reflection on the part of investors as to which "earnings number" should be used as a basis for valuation."

Target: Mr. Mills maintained a $35 (U.S.) price target. The average target is $45.53.

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For more analyst actions, breaking investing news and analysis, follow Darcy Keith on Twitter at @ eyeonequities

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About the Author
Investment Editor

Darcy Keith is The Globe and Mail's Investment Editor. He has been a business journalist since 1992 and joined the Report on Business in 2010 from Yahoo! Canada, where he was the senior editor of finance. More

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