Inside the Market’s roundup of some of today’s key analyst actions
2019 has been a “story of gains” in the Canadian energy services sector, according to Industrial Alliance Securities analyst Elias Foscolos, pointing to a 15-per-cent rise in the TSX Energy Equipment Services Index.
“Although many stocks in our coverage universe have rebounded, we still believe there are some value disconnects,” said Mr. Foscolos in a research report released Monday that both reviewed fourth-quarter 2018 performance and previewed first-quarter 2019 earnings season.
“Momentum has slowed since the beginning of the year, with 11 per cent of the gains coming in January. Currently the sector is yielding 3.6 per cent. However, there is one dividend paying stock in the Index that we believe is at risk of a reduction, Ensign (ESI-T, Not Rated). Also of note is that one of the eight companies in the Index, Precision Drilling (PD-T, Not Rated), does not currently pay a dividend.”
Mr. Foscolos said a majority of the 15 companies in his coverage universe “performed in a manner that makes sense" in the fourth quarter, pegging six companies as outperformers and five meeting expectations. However, he said several “exhibited returns that we believe are disconnected from quarterly earnings surprise.”
“Although CMG beat expectations, the stock has underperformed the Index by 29 per cent since reporting on new news or changes in outlook,” he said. “On the other hand, SHLE and STEP both reported below expectations, but have outperformed the Index by 52 per cent and 17 per cent, respectively. In our view, the above average returns for STEP and SHLE represent flow of funds into higher-risk picks that are torqued to Canadian drilling and completions may indicate that sector sentiment is improving along with the simple fact that the stocks were oversold last year. The provincial election results in Alberta on April 16, with the United Conservative Party (UCP) defeating the New Democratic Party (NDP) and winning back majority government, could provide further support to sentiment. Another disconnect worth noting is MCB, which reported in line results but has also been one of the biggest underperformers.”
He added: “Q1/19 will be the first quarter where IFRS 16 is implemented without companies providing a retroactive lookback. With the adoption of IFRS 16, leases previously classified as operating leases and expenses as operating expenses will be reclassified as finance leases. This will slide these expense into depreciation and interest, boosting reported EBITDA. Therefore, using historical EBITDA multiples as a metric becomes less reliable, although comparables’ EV/EBITDA valuations will have some validity. As a result, we will no longer be using EBITDA as one of our valuation metrics and will instead be using an EBIT (Operating Income – ‘OI’) multiple.”
Mr. Foscolos made several target and rating changes to stocks in the sector, pointing to a trio of factors: revised drilling estimates in both Canada (down 26 per cent year-over-year in 2019) and the United States (up 3 per cent); a weaker-than-anticipated Canadian dollar versus the greenback and his new valuation metric (EV/OI).
Citing “strong” share price weakness, Mr. Foscolos raised his rating for Computer Modelling Group Ltd. (CMG-T) to “strong buy” from “buy” with a target of $7.25. The average on the Street is $7.43, according to Bloomberg data.
“The recent decline in share price is a buying opportunity, in our view,” he said “CMG’s revenue over the past few years has fallen because Canadian revenue has fallen, while the rest of the world has remained flat in functional currency (increased as the C$ has fallen)."
He added: “We think there are few foreign E&P companies that will leave the Canadian market therefore we project stability in the near term and the Company’s revenue should begin to grow. In Q4/F19, we will be looking closely at deferred revenue to gauge core revenue over the next 12 months, as well as looking for continued penetration of CoFlow. Our unchanged $7.50 target price equates to a 41-per-cent projected return supported by a 7-per-cent dividend yield.”
He increased his target for two stocks:
Enerflex Ltd. (EFX-T, “buy”) with a $24.50 target, rising from $23. The average is $24.44.
Analyst: “Enerflex had a very impressive financial performance in 2018, with record backlog of $1.4-billion setting the stage for a solid 2019. Heading into Q1/19 we are looking for bookings to revert to more normalized levels and we project pre-IFRS EBITDA of $67-million, which is essentially in line with Q4. As we forecast 80 per cent of EFX’s revenue to come from outside Canada, a weaker C$ along with a revised correlation boost our 2019 outlook.”
Pason Systems Inc. (PSI-T, “buy”) to $25 from $24. Average: $25.10.
Analyst: "In 2018, Pason increased market share in the US and Canada and achieved higher revenue per EDR day. We are expecting this trend to continue through 2019. PSI’s balance sheet could be classified as overcapitalized, with a net cash position of $204-million. Barring a large, viable investment opportunity, we believe the time may be coming for a dividend increase.”
Mr. Foscolos lowered his target for three companies:
CES Energy Solutions Corp. (CEU-T, “buy”) to $4.25 from $4.50. Average: $4.96.
Analyst: “In our view, CEU’s growth platform remains intact despite the issues on margin. We anticipate that the financial performance in Q1/19 will be similar to Q4/18 with reported EBITDA IFRS16 of $42-million. With capital buildouts largely complete and a modest increase in working capital, free cash flow generation should be substantial. Our target price is being trimmed to $4.25 based on a lower outlook for Canadian drilling in 2019, however, our 2020 outlook remains relatively unchanged.”
Secure Energy Services Inc. (SES-T, “buy”) to $10.25 from $10.75. Average: $11.20.
Analyst: “In Q4/18, Secure’s Midstream Infrastructure segment (“MI”) benefited from $8-million of incremental revenue from the Kerrobert Light Pipeline System (“KLPS”) and increased crude-by-rail driving higher demand in SES’s Full Service Rail (“FSR”) facilities. Decreased activity and reduced crude-by-rail demand will likely lead to decreased high-margin MI revenue in Q1/19, resulting in a drag on QoQ performance.”
STEP Energy Services Ltd. (STEP-T, “buy”) to $4.25 from $4.50. Average: $3.94.
Analyst: “STEP’s Q4/18 results were below expectations, with low utilization in both the U.S. and Canada combined with increased G&A leading to a 7-per-cent adjusted EBITDA margin. STEP’s U.S. fracturing assets continued to struggle to contribute, and the Company recorded a $46-million impairment charge on the goodwill related to the assets. STEP was able to negotiate revised covenants for its debt, which should protect STEP from default as the Company battens down the hatches until market conditions improve. STEP has initiated cost cutting measures including a 12-per-cent reduction in field staff and parking equipment. We are looking for an improved quarter in Q1/19, but for 2019 to be a generally weaker year. Improved egress in the U.S. later in the year should help tighten up the U.S. fracturing market, while in Canada our eyes remain fixed on L3R in 2020.”
A pair of equity analysts on the Street raised their ratings for Canopy Growth Corp. (WEED-T) on Monday following last week’s announcement of its plan to acquire U.S. cannabis producer Acreage Holdings Inc.
GMP analyst Martin Landry upgraded the stock to “buy” from “hold” with a $72 target, rising from $65.
He thinks the acquisition price of US$3.4-billion is low “given the strategic nature of the acquisition and the potential for continued strong growth."
Seeing Canopy now having a route to a “significant future presence in the U.S.,": Cormark Securities’ Jesse Pytlak moved the marijuana producer to “buy” from “market perform,” believing it “changes the game for the industry” by creating a template for cross-border deals.
Mr. Pytlak’s target increased to $70 from $65.
The average target on the Street is currently $76.09.
Conversely, Rogers Communications Inc. (RCI-B-T) received downgrades from two analysts.
Citing reduced subscriber and financial projections following last week’s release of lower-than-anticipated first-quarter results, Echelon Wealth Partners’ Robert Goff moved Rogers to “hold” from “buy” with a $76 target, down from $78.
“We await results from Rogers peers to gain data points on overall wireless demand,” said Mr. Goff. "We debated waiting for peer results but felt it is prudent to move defensively.
“Consequently, while retaining our longer-term bullish view on wireless and the potential for wired with whole home connectivity we are moving to a Hold rating. Our rating in part reflects our view that the shares of Shaw Communications (SJR.B-T, “buy,” target: $32.00) reflect greater upside and nearer-term momentum.”
Scotiabank analyst Jeffrey Fan lowered the stock to “sector perform” from “sector outperform” with a target price of $72, falling from $75.
The average on the Street is $74.17.
RBC Dominion Securities analyst Kate Fitzsimons expects lululemon athletica inc. (LULU-Q) to update its longer-term growth targets at its first analyst day in five years on Wednesday.
“Following 2018′s monster 18-per-cent comp and 48-per-cent EPS growth, lulu has momentum at its back in 2019,” said Ms. Fitzsimons, who thinks the Vancouver-based activewear maker could be heading for US$6-billion in sales and US$8 earnings per share by 2023.
She added: “After a slower start particularly in 2017 aided by website execution issues, the company has certainly made significant strides in recent quarters. In 2018, LULU saw an 18-per-cent comp, ending the year with $3.3-billion in sales, and 250 basis points EBIT expansion in 2018, and 48-per-cent earnings growth.
“We note that LULU maintained high-teens comp strength throughout 2018 and is expecting the momentum to continue through 2019. Impressively, the company guided LDD comp growth for 1Q and 2019, despite an industry-wide tough start to 1Q, giving us confidence in LULU’s underlying momentum. Considering that LULU beat its initial 2018 outlook (issued in March) by over 9 per cent on a revenue basis and 26 per cent on an EPS basis, we expect that even the lowdouble digit comp outlook is conservative, with our view that an upside mid-teens comp scenario could play out and pegging EPS closer to $4.90 this year.”
Ms. Fitzsimons said the event will serve as formal introduction to the Street of chief executive officer Calvin McDonald, who joined the company last summer, and believes it will focus on ensuring a “smooth introduction, including a potential positive 1Q update.”
“We expect the team to focus on key top line growth levers, including 1) digital momentum; 2) store experience and remodels; 3) international expansion; 4) product innovation and launches including self-care; 5) men’s expansion; and 6) a loyalty rollout,” she said. “A quick perusal of jobs listed on the lululemon website suggest a focus on these topics.”
"International is likely to lead lead lulu’s next leg of growth. In 2019, lulu is targeting 40-50 units including 25-30 openings internationally (most int’l openings ever) suggesting that its footage dynamic is shifting towards international from primarily domestic. Our regional and channel productivity analysis suggests $6-billion in revenues by 2023, with earnings power of $8 on a mid-20s EBIT margin (from $3.3-billion/$3.84 today). All in, this equates to a baseline 13-per-cent sales and 16-per-cent EPS growth profile, with international and Direct the biggest incremental revenue drivers to $6-billion.”
Ms. Fitzsimons raised her 2019 EPS projection to US$4.60 from US$4.55 based on increases to her revenue and comparable same-store sales forecasts as well as a lower share count.
She maintained an “outperform” rating for the stock with a target of US$190, up from US$180 and exceeding the average of US$172.47.
“As we look ahead, we believe LULU can continue its double-digit top line trajectory via a combination of footage growth and comp gains, equating to a baseline mid to high-teens EPS growth algorithm,” she said.
Raymond James analyst Daryl Swetlishoff has become more “cautious” toward forest producers companies in the near term following a recent field trip to Asia.
“After staging an encouraging rally to start the year, building materials commodity pricing and share values have languished; trading back down to cycle lows,” he said. “We continue to believe that U.S. inventory levels are not excessive although ready wood appears available for current levels of demand. Despite disappointing March U.S. housing data, we continue to expect better end user takeaways to coincide with improved building weather.
“Findings from our recent Asia field trip, however, introduce additional concerns. We heard that Chinese port level inventories are higher than usual, with trade related weaker economic activity slowing demand. While not a crisis, we expect it will take time for inventories to work down, putting additional pressure on lower quality and wider width lumber in North America. As a result, we expect commodity markets to take longer to find balance and have reduced our 2019 building materials forecasts, earnings and targets. Adding to our more cautious tone we see potential for downward earnings revisions or misses associated with 1Q19 results. Shares are trading at trough levels, however, and we expect deep value investors to be rewarded during 2H19. We expect momentum investors, however, could afford to delay initiating new positions at this time.”
Mr. Swetlishoff thinks the first quarter will likely prove “disappointing,” believing earnings projections for building materials companies “appear rich” with higher benchmark price and lower B.C. stumpage.
“Aside from weather-related housing activity, the largest unknown is the state of US lumber inventory levels,” he said. “With no hard numbers to go on, we instead rely on recent shipment data and anecdotal reports. Should inventories be lower than expected – a surge in (notoriously inelastic) demand could be hard to meet resulting in rapidly rising commodity pricing. Chinese economic activity is also uncertain. Further government stimulus or a US trade deal could more quickly balance the Asian wood market. Lastly, a note on lumber potential production curtailments. We peg BC interior lumber cash break even costs at $400 per thousand board feet – well below spot benchmark prices of US$320. While timing is uncertain we view temporary or permanent downtime announcements as likely with the potential to incite a commodity and hence a stock price rally.”
The analyst lowered his target price for several stocks:
Canfor Corp. (CFP-T, “strong buy”) to $18 from $22. Average: $20.42.
Canfor Pulp Products Inc. (CFX-T, “outperform”) to $21 from $22. Average: $19.25.
Conifex Timber Inc. (CFF-T, outperform”) to $2.30 from $2.50. Average: $2.17.
Western Forest Products Inc. (WEF-T, “outperform”) to $2.30 from $2.40. Average: $2.35.
West Fraser Timber Co. Ltd. (WFT-T, “strong buy”) to $80 from $84. Average: $77.17.
Pointing to slowing demand for all of its vehicle brands, Evercore ISI analyst Arndt Ellinghorst downgraded Tesla Inc. (TSLA-Q) to “underperform” from “in-line.”
“The change in recommendation and lower [price target] are driven by a more cautious view on demand across all Models, but in particular the recent severe decline in demand for Model S/X ... There is increased uncertainty around near-term demand vs previous bullish forecasts and growth cannot stall for a growth company,” he said.
The analyst lowered his target to US$240 from US$330. The average on the Street is US$305.69.
In other analyst actions:
National Bank Financial analyst Adam Shine upgraded Thomson Reuters Corp. (TRI-T) to “outperform” from “sector perform” and raised his target to $88 from $78. The average target on the Street is $75.68
BMO Nesbitt Burns analyst Devin Dodge initiated coverage of Russel Metals Inc. (RUS-T) with a “market perform” rating and $26 target. The average is $31.14.
Eight Capital analyst Adam Gill upgraded PrairieSky Royalty Ltd. (PSK-T) to “neutral” from “sell” and raised his target to $19.15 from $17.50. The average is currently $22.08.