Inside the Market’s roundup of some of today’s key analyst actions
Canaccord Genuity analyst David Galison thinks growth opportunities still exist among Canadian renewable power companies, however he warns the landscape is becoming much more competitive.
“While a significant amount of capacity has been installed over the past several years, we see continued opportunities for the sector,” said Mr. Galison in a research note released Friday in which he initiated coverage of five companies. “We estimate a total global market potential for new renewable generation of US$75.0-billion through 2050. However, there are fewer contracted opportunities suggesting a higher level of competition. To be successful we believe a lower cost of capital will be key.
“Regardless, we believe the growth outlook should support average valuations above typical utilities. In general, investors look to IPPs for dividend income. As such, we favour companies with: 1) good growth profiles backed by LT contracts providing good visibility, 2) strong balance sheets, and 3) dividend growth backed by sustainable payout ratios. To help summarize our view, we have generated a scorecard to better illustrate strengths and weaknesses of each company relative to peers.”
Mr. Galison gave “buy” ratings to a pair of stocks: Algonquin Power & Utilities Corp. (AQN-T) and Capital Power Corp. (CPX-T).
On Oakville, Ont.-based Algonquin, the analyst said: “AQN continues to advance its multi-billion-dollar, multi-year growth program and is looking to invest $7.65-billion in growth activities over 2018–2022. The majority of the spend (65 per cent) is expected to be in the Utilities segment, with the remaining growth initiatives in the Power segment. Management has suggested that these investments are expected to grow EBITDA (adjusted) at an 8–10 CAGR [compound annual growth rate] from 2017–2022 estimated. It is important to note that AQN intends to switch its interim and annual consolidated financial statements to U.S. dollars from Canadian dollars starting in Q1/18. Once this happens, there is potential for added volatility in the company’s valuation as the shares will continue to trade in Canadian dollars.”
He set a target price of $14.50 for Algonquin shares. The average target on the Street is $15.16, according to Thomson Reuters Eikon data.
For Capital Power, Mr. Galison set a target of $28, which is 50 cents higher than the consensus.
“Our positive outlook for CPX reflects improving earnings visibility and reduced volatility from the company’s asset base as management diversifies away from carbon-emitting technologies and the Alberta power market,” he said. “CPX is also focused on reducing its exposure to merchant power markets as well as looking to continue with recontracting discussions at facilities that have nearer-term contract expiries. Management’s guidance for 2018 assumes a 4.7-per-cent increase in Adjusted Funds from Operations (AFFO). While AFFO growth is positively impacted by recent acquisitions and improving power prices in Alberta, growth is offset partially by the recent C$30-per-ton carbon tax in Alberta. We anticipate higher earnings in 2019 as the company should benefit from higher forward prices in Alberta and a lower portion of hedging. The recent 20-year PPA award in Alberta for the company’s Whitla Wind (Phase I) project is also expected to start making a contribution in Q4/19. The project is expected to generate annual EBITDA (adjusted) and AFFO of $27-million and $17-million, respectively. In 1H/20, the recent 150 MW Cardinal Point wind project in Illinois is expected to start commercial operations.”
Mr. Galison gave “hold” ratings to: Innergex Renewable Energy Inc. (INE-T); TransAlta Renewables Inc. (RNW-T) and TransAlta Corp. (TA-T).
He set a target of $14.50 for Longueuil, Que.-based Innergex, which falls short of the current average among analysts covering the stock of $16.28.
“On our current outlook, the shares appear appropriately valued,” said Mr. Galison. “Our outlook reflects good earnings visibility from the company’s asset base (the company’s facilities and those in which they have an economic interest have a weighted average remaining contractual life of ~18 years). Hydro assets represent 43 per cent of net capacity, which typically command a premium multiple due to their predictable generation. These assets also make up the majority of contracted generation (weighted average contractual life of 25 years). While we recognize that the recently completed Alterra acquisition provides INE with geographic diversification as well diversifying the company’s power generating assets, the rich acquisition multiple, combined with a significant increase in the company’s complexity and higher debt levels, gives us some pause. Additionally, while the transaction is expected to be accretive to Innergex’s distributable cash flow per share upon completion of Alterra’s projects currently under construction and some of the advanced-stage prospective projects, the acquisition will likely be dilutive on a nearterm basis. This accretion also comes with certain execution risks.”
Mr. Galison set a target of $12 for shares of TransAlta Renewables. The average is $13.48.
“While our outlook for RNW reflects good earnings visibility from the asset base (the company’s facilities and those in which it has an economic interest have a weighted average remaining contractual life of 11.5 years), our HOLD rating reflects a declining year-over-year earnings trend,” he said. “The midpoint of the company’s 2018 estimated EBITDA (comparable) guidance suggests a decline of 3.3 per cent compared to 2017. Cash available for distribution (CAFD) is also expected to decline in 2018 compared to 2017 (down 3.2 per cent). Earnings headwinds are due in part to the Solomon asset sale and the South Headland contract dispute in the company’s Australian gas operations. While we expect earnings to grow modestly once again in 2020 as the two recently acquired wind development projects in the U.S. Northeast enter service, we anticipate earnings growth outside of asset drop-downs from parent TA and/or acquisitions or new development projects to remain relatively mute.”
His target for TransAlta shares is $7, which is lower than the $8.25 consensus.
He said: “While we recognize potential longer-term upside as TA completes its deleveraging process and successfully transitions its coal fleet to natural gas, we prefer to remain on the sidelines for the time being. We believe patience is required as the company addresses headwinds facing it.”
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CIBC World Markets analyst Paul Holden upgraded Manulife Financial Corp. (MFC-T) to “outperformer” from “neutral” with a target of $29, rising from $28. The average on the Street is $30.85.
Mr. Holden said: Reasons for the upgrade include: i) higher EPS expectations and more confidence in the earnings outlook; ii) the LICAT ratio is now a known and it looks solid; iii) tangible evidence of management execution; and iv) a meaningful valuation gap to peers and historical levels. One concern of ours that remains is that expectations across the Street are high. But with MFC trading at 8.5 times 2019 consensus, there is a margin of safety built into expectations. We think the stock can do very well just by meeting expectations.”
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After a 2.1-per-cent drop in its share price following Thursday’s release of its quarterly results, Laurentian Bank Securities analyst Mona Nazir upgraded Stella-Jones Inc. (SJ-T) to “buy” from “hold.”
“Q1/18 results were relatively in-line with expectations on all metrics,” said Ms. Nazir. “Looking forward management reiterated their return to historical 15-per-cent EBITDA margins (normalization of tie margins by 2018 year end) and discussed near to medium term M&A of a few hundred million, which we believe could conceivably add 15-per-cent top-line growth over the next couple of years.”
Ms. Nazir raised her target for Stella-Jones shares to $52 from $50. The average is $52.69.
“While we caution that softness is likely to remain heading into Q2/18, management is reiterating expectations for a return to normalized 15-per-cent margins,” she said. “Tie softness and margin pressure should alleviate as we move through the year, due to normalization of tie inventory levels (sub historical levels; 17M mark) and with the shift of a customer to the black tie model (H2/18). We have factored in the Virginia based WPI acquisition, while increasing margins by 20 basis points in 2018 to 13.4 per cent. Given the passage of time, we are rolling forward our valuation to 2019 and applying a 19.5 times multiple (from 20 times) from which our $52TP is derived. SJ’s historical valuation multiple (3 year mean) sits at 21.5 times and our tempered figure accounts for the lower growth profile and softer margins.”
Meanwhile, Acumen Capital analyst Brian Pow lowered his target to $50 from $53.50, keeping a “buy” rating.
“While we view the Q1/18 results as a small setback to when the business will return to ‘normal’, we have little concern with SJ’s performance,” said Mr. Pow. “The industry is going through some challenging times, but we believe the company has been able to navigate through the headwinds and build market share. We make downward revisions to our estimates to account for the miss and to build a more conservative look for future performance.”
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Raymond James analyst David Quezada thinks a “material” improvement in Tree Island Steel Ltd.’s (TSL-T) first-quarter margins points to a cyclical turning point following a difficult 2017.
Accordingly, he upgraded his rating for the Richmond, B.C.-based company to “outperform” from “market perform.”
“2017 saw TSL endure a relatively protracted down cycle with a notable lag in the company passing on elevated steel and zinc input costs to customers,” said Mr. Quezada. “While this cycle has been longer than usual, 1Q18 results bolster our sense of Tree Island’s price discipline paying off with numerous rounds of price increases to customers catching up with input cost inflation. We believe the company will continue to implement further price hikes beyond 1Q18 suggesting margins will trend positively as the year wears on. We have modestly increased our gross margin assumption to 10.8 per cent and 12.5 per cent for 2018 and 2019 respectively (from 10.0 per cent and 12.0 per cent respectively).”
On Thursday after market close, Tree Island reported adjusted EBITDA for the quarter of $3.5-million, exceeding Mr. Quezada’s $2.4-million estimate though missing the consensus on the Street. The analyst said the company’s EBITDA per ton shipped of $76 provided evidence of a margin expansion that points to the beginning of a cyclical recovery.
“In fact, [Thursday’s] release noted pricing in TSL’s end markets rose each month throughout 1Q18 which, along with more modestly rising input costs meant profitability also improved over the period,” he said. “We expect these trends to continue into 2Q18 and believe TSL continues to pass through price increases. “ Mr. Quezada raised his target price for Tree Island shares by a loonie to $4. The average on the Street is $3.69.
“We believe TSL’s share price has been pressured in part due to concerns over the length of the most recent period of margin compression. However, in light of these much improved results and our view of the trends which surfaced in 1Q18, continuing we expect concerns on this front to be assuaged. At 7.7 times 2019 estimated enterprise value-to- EBITDA, we note TSL currently trades at a marked discount to its steel processing peer group at 8.5 times after seeing its shares decline substantially from highs last seen in Sept, 2016 when it peaked at $6.45 per share.”
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BCE Inc.’s (BCE-T, BCE-N) first-quarter results failed to surpass its “blockbuster” previous quarter, said Desjardins Securities analyst Maher Yaghi.
“BCE reported in-line financial results, but exceeded wireless postpaid net additions expectations,” he said. “However, wireless ARPU growth is deteriorating, which could be an initial sign of greater price pressure in the Canadian wireless space. While we recognize that the company’s dividend yield is attractive, we believe its valuation is too high given its lower-than-average earnings growth.”
Though Mr. Yaghi’s earnings per share expectation for 2018 rose by 2 cents to $3.46 in reaction to the results, largely due to an increase free cash flow forecast stemming from a reduction in his pension contribution expectations, his 2019 projection fell to $3.65 from $3.70.
Maintaining a “hold” rating for BCE shares, he dropped his target by a loonie to $61. The average is $59.68.
“Although BCE is a model of consistency, we believe the current relative valuation is too rich for a company that is growing slower than other large telcos in Canada,” said Mr. Yaghi. “While BCE’s FCF yield is still healthy, we believe opportunities for further FCF growth vectors through acquisitions could become harder to find in the coming years.”
Elsewhere, Canaccord Genuity’s Aravinda Galappatthige lowered his target to $56 from $59 with a “hold” rating (unchanged).
“We continue to expect mid-single digit wireless EBITDA growth through 2018, based on sustained industry strength,” said Mr. Galappatthige. “Having said that we are starting to see ARPU (now ABPU) starting to ease, not just with BCE, but also at TELUS. This is due to lapping of the premium plus rollouts as well as overages easing somewhat as data buckets expand, in addition to competitive factors with the emergence of Freedom. For the Street, ARPU has empirically been a critical barometer of the health of the wireless industry and any easing below 1 per cent may start to pressure stocks. Nonetheless encouragingly, sub growth remains robust and Bell should continue to benefit from the SSC (Shared Services Canada) contract as it rolls out through 2018/19.”
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TORC Oil & Gas Ltd. (TOG-T) possesses among the best fundamentals in the industry, according to Laurentian Bank Securities analyst Todd Kepler.
Believing its stock should see a multiple expansion following the “disappearance” of Spartan Energy Corp. (SPE-T), which was recently acquired by Vermilion Energy Inc., he initiated coverage of Calgary-based TORC with a “buy” rating.
“All the core areas within TORC’s portfolio have seen a significant step change in economics over the last several years, providing compelling economics at US$55.00/b long term, and outstanding economics at current strip prices,” said Mr. Kepler.
“We estimate TORC will generate $60-million in free cash flow this year, representing almost 30 per cent of forecast cash outlay (capex + cash dividends), proving spending flexibility and an combined effective shareholder yield (dividend + FCF yield) of 7 per cent on LBS pricing or 9 per cent on strip pricing.”
Mr. Kepler feels the Spartan’s acquisition will benefit shareholders, noting “it removes TORC’s closest light oil pure play comp from the public market, potentially increasing investor demand for one of the few remaining Canadian light oil midcap producers. ”
He set a target of $9.50 for TORC shares, which exceeds the average of $9.25.
“At [Thursday’s] closing price of $7.23, TOG is valued at 2018 and 2019 estimated EV/EBITDA multiples of 6.2 times and 5.7 times, respectively, versus the peer group at 5.3 times and 4.8 times,” said Mr. Kepler. “We believe the premium multiple compared to its peers is justifiable given management’s track record, the Company’s solid fundamentals, and concentrated exposure as a light oil pure play.”
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In other analyst actions:
TD Securities analyst Aaron Bilkoski downgraded Seven Generations Energy Ltd. (VII-T) to “hold” from “buy” with a $20 target. The average is $23.61.
Eight Capital lowered the stock to “neutral” from “buy” with a target of $20.50.
RBC Dominion Securities initiated coverage of Delphi Energy Corp. (DEE-T) with a “sector perform” rating and $1.25 target. The average is $1.44.
David Leeder