Wednesday’s analyst upgrades and downgrades

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

Canadian bank stocks are performing well despite a challenging outlook, said Desjardins Securities analyst Doug Young.

In a sector note previewing third-quarter earnings, Mr. Young said he is forecasting a year-over-year decline in cash earnings per share of 2 per cent for the Big 6 banks, which would be the first decline in over two years. He cited the group "lapping a tough comp in Canadian banking and capital markets."

"Otherwise, credit, Canadian banking trends as well as what potential regulatory capital rule changes could mean for CET1 ratios will be areas of interest," he said. "The Big 6 Canadian bank stocks have had a strong run thus far in 2016 and are on average trading above historical levels on a P/E basis. With several headwinds still on the horizon, we maintain our market-weight view on the sector."

He added: "For 3Q FY16, we believe investors will focus on five areas. First, we are forecasting a 2-per-cent year-over decline on average in cash EPS for the Big 6 banks; while this is partially due to the group lapping a tough comp, the banks no doubt will be talking about what they are doing to drive growth in a tough environment (eg expense reductions). One area that could positively surprise is capital markets, but we get less excited by earnings beats driven by this business. Second, credit will once again be topical, and while we are anticipating a sequential decline in PCL rates, we are still expecting further deterioration year over year, partially due to pressures in retail loan books in oil-reliant provinces. Third, trends in Canadian banking, such as loan growth and NIMs, will be of interest given this segment remains the largest part of the banks' businesses. Fourth, a number of changes are being contemplated as to how risk-weighted assets (RWA) are calculated, and there is no clarity on what the impacts might be on CET1 ratios. Fifth, we expect dividend increases at Scotiabank and Royal Bank."

His changes were:

- Bank of Nova Scotia (BNS-T, buy) to $71 from $70. Consensus is $67.93, according to Thomson Reuters.

- Bank of Montreal (BMO-T, hold) to $84 from $82. Consensus is $81.46.

- National Bank of Canada (NA-T, hold) to $45 from $44. Consensus is $47.83.

The following banks did not change:

- Royal Bank of Canada (RY-T, buy) with a target of $85. Consensus is $81.87.

- Canadian Imperial Bank of Commerce (CM-T, buy) with a target of $109. Consensus is $100.77.

- Toronto-Dominion Bank (TD-T, hold) with a target of $59. Consensus is $59.87.

- Canadian Western Bank (CWB-T, hold) with a target of $26. Consensus is $25.32.

- Laurentian Bank (LB-T, hold) with a target of $52. Consensus is $52.50.

"Over the next year, we anticipate steady (albeit slower) dividend increases, comfortable capital ratios and growth in non-banking businesses," said Mr. Young. "That said, while we believe the banks can manage through a turn in the credit cycle, this tends to be a choppy environment for bank stocks. Otherwise, we foresee slower loan growth in Canada, pressure on NIMs [net interest margins] and ROEs [return on equity] staying below historical levels. As a result, we do not believe the banks should trade at a premium to historical valuation multiples on a price-to-earnings basis."

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Strong cash flow from Canada has successfully fed Saputo Inc.'s (SAP-T) global growth strategy, according to Desjardins Securities analyst Keith Howlett.

On Tuesday, the company reported first-quarter results, highlighted by "impressive" EBITDA growth and an 11.1-per-cent dividend increase.

"Saputo's largest and most profitable market is the U.S.," said Mr. Howlett. "The U.S. business reflects successful execution of a strategy to grow internally and by acquisition. Saputo has substantially improved the financial performance of the U.S. businesses it has acquired. Until such time as the regulatory framework is changed, Canada will be a low- to no-growth dairy market. In that context, Saputo will continue to manage its operations so as to lower operating costs and maintain reasonable profitability. Fortunately, it is aligned with customers whose businesses are growing, so it is likely to slowly gain market share within the Canadian dairy market."We track U.S. and international segment results in U.S. dollars, believing that to be more reflective of the underlying businesses. Results are reported in Canadian dollars and reflect the vagaries of the loonie. The U.S. business has been steadily increasing its EBITDA, and the US is now the company's most profitable market. International segment results are volatile, reflecting market-determined dairy prices. We expect international results to continue to improve in the coming quarters."

Saputo reported quarterly diluted earnings per share of 44 cents, ahead of Mr. Howlett's forecast of 41 cents and the consensus of 40 cents. It was a 10-cent improvement year over year.

Operating EBITDA of $318-million also topped Mr. Howlett's projection ($310-million). It posted an EBITDA margin improvement of 2 per cent year over year to 12.1 per cent, including a 13.9-per-cent result in the U.S.

"Measured in U.S. dollars, revenues declined in the U.S., reflecting lower cheese prices," the analyst said. "Product volumes grew in both cheese and dairy foods at higher gross margin rates. The Canadian segment continues to post better-than-expected results in a very challenging market (flat to down consumer demand, competitive intensity, stress among retailers), although EBITDA margins remain below peak levels. The international segment continues to struggle with weak global dairy prices, although management is increasingly confident in meaningful improvement by early 2017 [calendar year]."

Mr. Howlett raised his 2017 and 2018 fiscal year EPS estimates to $1.83 and $2.04, respectively, from $1.74 and $1.90 to reflect "recent operating trends, lower depreciation and expansion in Australia in FY18."

He maintained a "hold" rating for the stock while raising his target to $42 from $40. The analyst consensus price target is $41.33, according to Thomson Reuters.

"Recommendation Saputo is executing well within the U.S. and Canadian domestic markets, more than offsetting weaker exports of dairy ingredients and cheese from the U.S.," Mr. Howlett said. "In Australia and Argentina, both export-dependent markets, Saputo's operations are well-positioned for improved global market conditions within the next 6–12 months. Management is relatively confident, based on its diverse sources of market intelligence, that global supply/demand conditions are now gradually improving."

Meanwhile, TD Securities analyst Michael Van Aelst upgraded the stock to "buy" from "hold" and raised his target to $45 from $42.

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In a report on the Canadian life insurance sector, Scotiabank analyst Sumit Malhotra said a renewed pressure on yields is likely to put investor focus on operational execution.

"The sharp bounce in equity markets off of their post-Brexit lows has not been accompanied by a rise in interest rates, as long bond yields in both Canada and the U.S. continue to hover near all-time lows," the analyst said. "Though we believe that disappointment over yet another leg down for yields is primarily responsible for the sluggish performance of lifeco stocks in 2016 (TSX Life & Health Insurance Index is down 8 per cent year to date), our emphasis in the upcoming Q2/16 results from the sector will be on the key operating factors that the companies can actually control."

In the note, he cut his earnings per share projections for the sector with the exception of Industrial Alliance Insurance and Financial Services Inc. (IAG-T), which he upgraded to "sector outperform" from  "sector perform."

"Following the 3-per-cent increase in our numbers (largely reflecting lower new business strain and stronger growth in Individual Wealth), shares of IAG trade at 8.9x our 2017 estimated, a sizable 12-per-cent P/E [price-to-earnings] discount to the sector average," said Mr. Malhotra. "A differential of this magnitude seems wide to us, particularly given the stronger fundamental trends that IAG has exhibited (lower strain, improved group insurance experience, solid seg. fund sales) and the guidance from management that IAG can undertake a 40-basis-points strengthening in the URR without an impact on EPS."

He raised his target price for the stock to $50 from $46. Consensus is $42.

His other target price changes were:

• Great-West Lifeco Inc. (GWO-T, sector perform) to $37 from $38. Consensus is $35.90.
• Manulife Financial Corp. (MFC-T, sector outperform) to $20 from $21. Consensus is $21.97.
• Sun Life Financial Inc. (SLF-T, sector outperform) to $48 from $49. Consensus is $46.79.

"While IAG has provided investors with a recent update on its earnings sensitivity to potential URR [ultimate reinvestment rate] strengthening, in the context of the renewed downward pressure on bond yields, we think it is appropriate for its larger peers to follow suit," he said. "In addition, both MFC and (to a lesser extent) SLF have historically used the fiscal Q2 calls to provide an early read on the impact of their annual actuarial reviews. In our estimates we have embedded $500-million for MFC in Q3/16, largely reflecting reserve strengthening for the LTC [long-term care] business.

"While we acknowledge that focus on the adequacy of reserves as opposed to discussions of the actual business performance is not a good trade-off for the stocks, we continue to believe that the capital position of the lifecos is in good shape, as we expect the lifecos to have ended June with an aggregate MCCSR [minimum continuing capital and surplus requirements] ratio of 228 per cent."

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The third time is a charm for Silver Wheaton Corp. (SLW-T, SLW-N) at the Salobo mine, said Canaccord Genuity analyst Tony Lesiak.

On Tuesday, Silver Wheaton announced the acquisition of an additional 25-per-cent stake in the gold production from the Vale SA (VALE-N) mine for $800-million in cash. As part of the deal, the previous 10-million share purchase warrants to Vale were amended to $43.75 (U.S.) per share from $65, a value of approximately $23-million.

"Overall, we view the transaction favourably given the deal accretion and improved economics, the world class nature of the deposit and the operating strength of the counterparty," said Mr. Lesiak. "We also believe that an ultimate expansion of Salobo to 48Mtpa [million tons per annum] is probable given the larger reserve/resource base at Salobo and now additional funding from SLW. The downside would be increased concentration with Salobo now representing 32 per cent of SLW's operating NAV [net asset value]. The stream also now represents 30 per cent of the mine's economics which is elevated but not aggressively so and Vale is still incentivised to expand output. Gold now represents 40 per cent of SLW's revenue."

He added: "We estimate a deal IRR [internal rate of return] of 5.5 per cent for the transaction at spot on the base case and 7.7 per cent assuming an expansion (doubling of throughput). The previous transaction in March 2015 showcased a 3.4-per-cent IRR … The deal gives SLW greater exposure to an expandable asset with approximately 50 years of remaining mine life on reserves alone. With SLW responsible for an increased portion of expansion capital, the potential for Vale to expand Salobo improves."

Mr. Lesiak lowered his 2016, 2017 and 2018 adjusted and diluted earnings per share forecasts to 75 cents (U.S.), 95 cents and 76 cents, respectively, from 77 cents, 98 cents and 78 cents.

Maintaining his "buy" rating, he raised his target price to $44 (Canadian) from $39.50. The analyst average is $36.18, according to Bloomberg.

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Mosaic Co. (MOS-N) is making the necessary moves to position itself for a market upturn, said Credit Suisse analyst Christopher Parkinson.

However, he said that upturn is likely to prove elusive for some time. Accordingly, he downgraded his rating for the stock to "underperform" from "neutral."

"We remain concerned on global fertilizer markets and while we don't believe phosphates are in as bad of an S/D [supply and demand] position as potash, we still see ample headwinds," said Mr Parkinson. "As investors' expectations have now risen to reflect phosphate margin expansion for 2H16 and into 2017 on the back of lower ammonia and sulfur prices, we feel there is limited upside from here, particularly as we believe Central Asia prices will likely remain sluggish as ample supply and lower P₂0₅ prices have set a temporary price ceiling. We believe lower costs and an increase of Microessentials as a percent of MOS' product mix will likely be positives, but not enough to warrant euphoria. We believe phosphate margins are only likely to expand to the 14-17-per-cent level in 2017 versus. expectations of a rebound to the high-teens / low twenties range; overall we believe lower processed phosphate prices will be below expectations, pressuring absolute gross profit levels; we view this as an industry issue.

"On the potash segment we reiterate our view that (i.) expectations for 2H volumes remain too high, (ii.) the potash industry's S/D balance will remain quite problematic for prices throughout '17/'18, (iii.) MOS's total potash volumes will be pressured by a competitive NA environment (and likely negative growth rate in 2017) and lower Canpotex allocation (CSe 34.3 per cent as of 2H17 vs. 37.9 per cent at present); the latter will be a result of POT's Rocanville run, (iv.) higher than expected op costs; although MOS is reducing costs and improving "mine mix", lower volumes will be an impediment to fully realizing these benefits and (v.) even with recent short term price improvements, netbacks are still expected to decline on a sequential basis due to the cadence of price declines prior to the "dead cat bounce.'"

Mr. Parkinson lowered his 2016 earnings per share estimate to 45 cents (U.S.) from 55 cents.

He said: "We believe Chinese export expectations remain too high and expectations for further price increases are unwarranted through year-end as (i.) 2H demand expectations remain too high, despite short-term 'tightness' in the Americas; we expect demand to wane post September (ii.) the global potash S/D imbalance is likely to persist in 2H and into 2017/2018, generating returns persistently below historical levels; we continue to believe fertilizers are a NT value trap, and (iii.) inventory levels in key regions remain elevated. Within phosphates, we believe lower costs will move margins upward, but off of a lower DAP [diammonium phosphate] price deck we don't believe this warrants euphoria."

His target remains $21 per share. Consensus is $26.26.

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Nimble Storage Inc. (NMBL-N) is "not just a flash in the pan," said BMO Nesbitt Burns analyst Tim Long.

He upgraded the San Jose-based tech company, which engineers and delivers to customers flash storage platforms, to "outperform" from "market perform," citing a "positive risk/reward for the stock."

"We are encouraged by Nimble's early success in the all-flash array market," said Mr. Long. "With its new offering, the TAM [total addressable market] for Nimble increased from $11-billion to $15-billion, and the end-market growth rate for flash should exceed 20% through 2020. We expect AFA [All Flash Array] revenues to more than double for NMBL in FY18, with hybrid growing 5-10 per cent over the next two years, which could prove conservative. The company has invested heavily to better penetrate the enterprise segment, which hurt the stock last year. We expect this to pay off in the form of market share gains, and we should start to see more operating margin leverage in the next few quarters. Nimble is a rare company with 20-per-cent-plus revenue growth that is trading at an EV/sales ratio of under 1.0x."

Mr. Long raised his target price to $10 (U.S.) from $9. Consensus is $10.73.

He noted that target assumes the stock trades at an enterprise value to sales multiple of 1.4 times, adding:

"This represents a steep discount to other tech companies with similar growth and margin profiles, and about half the nearest comp PSTG [Pure Storage Inc.]."

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Ahead of the release of its second-quarter results on Aug. 12 before the markets open, CIBC World Markets analyst Prakash Gowd lowered his target price for Concordia International Corp. (CXRX-Q, CXR-T).

Mr. Gowd made the changes to reflect post-Brexit forex changes as well as the genericization of Nilandron, a drug to treat prostate cancer, in the United States.

He is now projecting quarterly revenue of $228-million (U.S.) (versus the Street at $236-million) and EBITDA of $140-million ($145-million).

His 2016 earnings per share estimate moved to $5.78 from $6.29, compared to the Street at $6.14 and guidance of $6.29 to $6.77.

Mr. Gowd said he expects Concordia to reduce its 2016 guidance upon release of the quarterly results "to reflect the new FX reality unless guidance remains based on constant currency assumptions."

Maintaining a "sector perform" rating for the stock, he lowered his target to $27.50 from $34. Consensus is $46.17.

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In other analyst actions:

RBC Capital Markets analyst Glenn J Novarro downgraded Endologix Inc. (ELGX-Q) to "sector perform" from "outperform" with a target of $12 (U.S.). The average is $14.80.

Gibson Energy Inc. (GEI-T) was downgraded to "sector perform" from "outperform" at Alta Corp Capital Inc. by analyst Dirk Lever. He lowered his 12-month target price to $16 from $17.50 per share, versus the analyst average of $17.77.

Chinook Energy Inc. (CKE-T) was downgraded to "speculative buy" from "buy" at Cormark Securities by analyst Garett Ursu with a 12-month target price of 70 cents. The average is 64 cents.

GMP Securities analyst Ian Parkinson re-initiated coverage of Torex Gold Resources Inc. (TXG-T) with a "buy" rating and target of $41. The average is $32.05.

Roth Capital Partners analyst Darren Aftahi upgraded Etsy Inc. (ETSY-Q) to "neutral" from "sell" with a target of $14.25 (from $6.50). The average is $13.22.

RBC Capital Markets analyst Richard Moore downgraded Simon Property Group Inc. (SPG-N) to "sector perform" from "outperform" and raised his target to $230 (U.S.) from $220. The average is $235.45.