Inside the Market’s roundup of some of today’s key analyst actions
A trio of equity analysts downgraded their rating for Maxar Technologies Ltd. (MAXR-N, MAXR-T) on Thursday, a day after a third-quarter earnings miss sent its stock plummeting 45 per cent.
Maxar, formerly MacDonald Dettwiler & Associates Inc., reported a net loss of US$432.5-million, or US$7.31 a share, due largely to US$383.6-million in impairment charges as it wrote down the value of its GeoComm satellite business. Its adjusted earnings per share of 75 US cents missed expectation on the Street by nearly 30 per cent (US$1.05), and its overall revenue of US$508.2-million were nearly 10 per cent below consensus projection (US$557-million).
Those results led to its biggest share price drop since the company’s initial public offering on July 10, 2000. Shares fell to $19.68 from $35.49 in the previous session on a day in which the S&P/TSX composite index rose 0.9 per cent.
In response to the results, share price reaction and substantial lower forward expectations, CIBC World Markets analyst Stephanie Price downgraded her rating for Maxar to “neutral” from “outperformer” and lowered her target price to $38.50 from $69.
“Our Outperformer rating on Maxar was premised on the fact that Maxar was trading at a significant discount to peers, with strength in the base business masked by a declining GEO business,” said Ms. Price. “We had expected the completion of the strategic review to lead to the restructuring of the GEO business and a potential re-rate of the business. However, the GEO business is decelerating faster than expected, with weakness in the business impacting both leverage and potentially the outcome of the strategic review. Weak Q3 results and reduced guidance create additional uncertainty around the forecast post 2018.”
TD Securities’ Timothy James moved the stock to “speculative buy” from “buy” with a US$34 target, down from US$60.
Canaccord Genuity’s Doug Taylor lowered his rating to “speculative buy” from “buy” with a target of US$30, falling from US$70. The average target on the Street is currently US$42.02, according to Bloomberg data.
With the expectation of low near-term free cash flow and high leverage point, Mr. Taylor thinks Maxar’s “steeply discounted” valuation in comparison to peers is likely to persist through 2019.
“In short, we were wrong in our assumptions both about the ability for the business to return to meaningful growth overall in the near term and also the market’s ability to look through a couple years of reinvestment in the business to better cash flow in the years ahead,” he said.
“Given that visibility to meaningful FCF expansion is likely required to re-inflate valuations and next year is expected to be another year of heavy re-investment, the multiple is likely to remain depressed. As we illustrate later in the note, the range of outcomes is very wide and includes significant upside from this severely depressed valuation should the company navigate through to a better cash flow profile through growth or exiting the underperforming GEO market. However, given the sensitivity to further multiple compression and ongoing high leverage, there remains downside risks which leads us to move to a SPECULATIVE BUY rating.”
Conversely, RBC Dominion Securities analyst Steve Arthur called the market reaction “overdone,” despite dropping his target to US$40 from US$57 with an “outperform” rating (unchanged).
Seeing “growth opportunities, competitive position and unique offering,” Mr. Arthur said: “Many investors ‘threw in the towel’, while those considering MAXR saw little urgency to step in. We see the risk/reward as attractive, and would opportunistically accumulate shares at these levels – MAXR now trades at 3.2 times 2020 estimated price-to-earnings, or 5.5 times enterprise value-to-EBITDA, well below A&D peers at 14.7 times and 10.2 times, respectively.”
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In the wake of Wednesday’s release of stronger-than-anticipated third-quarter financial results, Raymond James analyst Ben Cherniavsky raised his target price for Air Canada (AC-T), emphasizing the declining expectations for the stock on the Street.
“Despite some recent pockets of strength (premium cabin, transatlantic, etc.), the airline’s results continue to trail industry peers,” he said. “We believe this reflects a market that remains plagued with too much capacity at current fuel prices.”
Before market open, the airline reported revenue, earnings before interest and taxes (EBIT) and adjusted earnings per share of $5.4-billion, $840-million and $2.03, respectively. Mr. Cherniavsky had projected $5.3-billion, $793-million and $2.
“Largely on account of higher fuel costs, 3Q18 EBIT declined 14 per cent year-over-year and adjusted EPS fell 39 per cent despite 11-per-cent revenue growth,” the analyst said. “TTM [trailing 12-month] EBIT remains 21 per cent below the high-water mark set in 4Q15 despite (or because of?) a 35-per-cent increase in ASMs over the same period of time. Concurrently, this ongoing trend of increased capacity and declining EBIT has effected a steady drop in Air Canada’s ROIC.”
Despite concerns about the impact of increased fuel costs, Mr. Cherniavsky responded to the results by raising his fiscal 2018 and 2019 EPS projections to $2.38 and $3, respectively, from $2.25 and $2.55.
“During the analyst call, Air Canada dispensed with the usual ‘mic drop’ routine as it glowingly presented its 3Q18 results,” he said. “We must give credit where it is due: their revenue management tactics and monopoly on the corporate segment have produced stronger RASM [revenue per available seat mile] growth recently. But the airline still has a long way to go to close the gap with its peers and recover its lost ground on margins, profits and ROIC over the past few years. While 2018 may be poised to impress management and, for that matter, the market, we are mindful of how far expectations have fallen for this stock. From our perspective, the risk of further shortfalls remains roughly equal to the potential for positive surprises, which is why we maintain a neutral rating at present."
He kept a “market perform” rating for Air Canada shares, increasing his target to $24 from $22.50. The average is currently $34.64.
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Raymond James' Kenric Tyghe added Dollarama Inc. (DOL-T) to the firm’s “Canadian Analyst Current Favourites” list on Thursday.
He currently has an “outperform” rating and $50 target for Dollarama shares, which tops the consensus of $48.71.
“We believe that Dollarama’s absolute and relative valuation, is particularly compelling following the recent sell-off, on some negative headlines,” said Mr. Tyghe. “We believe the fundamentals are better than they may appear, there has been no material increase in competitive intensity, and the store footprint has significant runway. The traffic issue, is neither new nor reflective of an angry customer base, but rather the migration from cash to credit cards at POS, and the impact that necessarily has on traffic (as customers go from handfuls, to baskets, to shopping carts). There has also not been a material increase in competitive intensity; their largest competitors’ store count growth is unchanged in a number of quarters, and the new entrant in Miniso is (in our opinion) years away from even being relevant (much less a threat). In addition there remains significant store count runway, given relative value retail store per capita densities, between Canada and the U.S. (Dollarama is at roughly 32.7 stores per capita versus U.S. peers at roughly 45.2). By 2027 (and the current 1,700 store target, which we believe could be revised higher), Dollarama’s store per capita would only be roughly in-line with U.S. peers.”
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The risk-reward for shares of Pfizer Inc. (PFE-N) now appears fairly balanced following 12 months of outperformance that has resulted in a rise in price of almost 22 per cent, according to BMO Nesbitt Burns analyst Alex Arfaei.
Despite holding a positive long-term view on the U.S. pharmaceutical giant, Mr. Arafaei thinks that upside is now properly reflected in the stock, leading him to lower his rating to “market perform” from “outperform.”
“Our forecasts are in line with management’s expectations of mid-single growth after 2020, coupled with margin expansion, and we remain bullish on a number of pipeline assets (e.g., Tafamidis and Tanezumab)," he said. “However, these seem mostly reflected in the stock, and near-term headwinds may not allow for meaningful multiple expansion in 2019.”
His target fell to US$46 from US$47, which tops the consensus of US$44.42.
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The market’s reaction to Kellogg Co.’s (K-N) third-quarter results was a “dramatic overreaction,” according to Citi analyst David Driscoll.
Shares of the Michigan-based multinational food-manufacturing company dropped 8.9 per cent on Wednesday after its slashed its full-year profit and earnings outlook.
“Kellogg’s 3Q18 report clearly highlighted the company’s building revenue momentum with organic sales turning slightly positive (0.4 per cent), notably outpacing consensus expectations by 1 percentage point, and a top-line guidance raise,” said Mr. Driscoll. “However, Kellogg is now facing some profit headwinds in the short term related to co-packing and logistic costs driven by greater than expected consumer demand from recent expansion efforts in U.S. single serve snacks. As such, Kellogg reduced 2018 EPS growth by 4 pp to 5pp, with the cost pressure in 3Q18 continuing into 4Q18, and we don’t expect it to diminish significantly until the back half of 2019 when the single serve snack manufacturing is more in-sourced. Kellogg is victim of its own success with its single serve snack efforts performing better than anticipated, but the co-pack (rather than internal) manufacturing is causing the temporary margin pressure. We respect that the company did not pull back in its brand building investment plans nor its single serve snack efforts to meet previous EPS guidance, with the company thinking about sustaining and building top-line momentum. Still, it’s disappointing that Kellogg did not line up its in-sourcing strategy better, and that better planning could have avoided the guidance reduction.”
He added: “Kellogg shares fell 9 per cent after the 3Q report, and to us this is a dramatic overreaction as Kellogg had always planned to in-source the production of U.S. single serve snacks. There is simply a time gap (an unfortunate one) between now and when the company can deploy the capex to accomplish this, which is expected to be the back half of 2019. At that time, margins will be restored given the in-sourcing, and as such, the current dynamic is more of a transitory type of event.”
Mr. Driscoll maintained his “buy” rating for Kellogg shares, citing “improving top-line growth continued cost savings to be realized, and pricing actions across all geographies, support a positive longer-term outlook.”
However, based on the company’s short-term issues, he removed it from the firm’s U.S. Focus List.
His target fell to US$79 from US$87. The average is US$71.65.
“We do though see good value in Kellogg shares, with the stock trading at 14 times our 2019 EPS estimate (16.5 times long-term average) and signs that turnaround and growth initiatives are beginning to bear some fruit,” said Mr. Driscoll.
Meanwhile, RBC Dominion Securities’ David Palmer lowered his target to US$72 from US$78, keeping a “sector perform” rating.
Mr. Palmer said: “We believe Kellogg’s is fueling true consumer demand with investments, but wonder when profitable sustainable growth will return.”
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Fairfax India Holdings Corp. (FIH-U-T) possesses a collection of “high quality, growing” business that offer downside protection and “great” value, said Canaccord Genuity analyst Rufus Hone.
He initiated coverage of the equity with a “buy” rating.
“Fairfax India (FIH) is an investment holding company offering investors a unique opportunity to co-invest alongside Fairfax Financial (FFH) in the rapidly growing Indian market,” said Mr. Hone. “FIH aims to generate compelling investment returns over a long period of time. With investments in nine companies so far, six of which are private, the overall exposure is hard to replicate. FIH is controlled by FFH, which guides a differentiated and rigorous investment process.”
Calling it a “pure play on India, Mr. Hone thinks FIH presents investors with access to “some of the best investment opportunities in what is one of the world’s fastest-growing large economies.” He emphasized “pro-business” Indian Prime Minister Narendra Modi has been able to achieve “high and stable” GDP growth through an emphasize on deregulation, foreign investment and private sector growth.
“We think co-investing with FFH (the largest FIH shareholder) significantly reduces the risk to minority shareholders,” he said. “With investments in nine companies so far, six of which are private, the overall exposure is hard for investors to replicate. Our analysis focuses on the largest of FIH’s investments to date. Common characteristics include high quality, shareholder-friendly management, strong competitive positions and long track records of value creation. We make the case that FIH’s two largest investments – IIFL Holdings (a non-bank financial company), and BIAL Airport – could be worth over $1B apiece in three years (more than the current market cap) based on conservative assumptions versus their track records.”
“Part of the thesis for FIH is an expectation of the continued efficacy of the investment selection process at FFH and its subsidiaries. FFH has been investing in India for 20+ years and has an enviable track record of success. We believe the company has an “edge” in India, not only via its extensive network for sourcing and researching potential investments, but also in terms of reputation. Put simply, FIH may get offered deals that other investors do not see.”
Mr. Hone set a target price of US$15.50. The average is now US$18.08.
“Since peaking at $19.00 a year ago, shares have fallen below $13.00 recently,” he said. “Volatility in EM countries (incl. India), unease in the Indian financial sector, and an all time low in the Indian rupee have combined to depress the FIH share price. With Indian inflation tracking below 4 per cent, stability or any INR appreciation would be highly favorable for FIH. Beneath this market noise, FIH’s portfolio companies continue to make good progress and grow intrinsic value.”
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Citing “unfavourable weather and tough comparables,” CIBC World Markets analyst Matt Bank dropped his financial expectations for Roots Corp. (ROOT-T) following Wednesday’s end of its third quarter.
“Q3 was a challenging quarter, and given softening momentum year-to-date against strong comparables last year, we have taken a more cautious view on Q4 as well,” he said. “This likely lower earnings base in 2018 spills over to our fiscal 2019 forecasts, despite expecting material improvement. Growth was always expected to be 2019 weighted, as heavy SG&A investments dilute 2018 margins. However, with significant benefits from operating improvements accruing before this year, unfavourable F2018 weather, and a material contribution from footwear not hitting until next year, the 2018 margin dip has become more pronounced. In addition, store renovations and relocations will be very concentrated in 2019, with only eight done through Q2/18 (of the 30 that were targeted at IPO).
“In order to hit the low end of the company’s target ranges, Roots must grow revenues by 20 per cent, EBITDA by 35 per cent, and net income by 50 per cent. We estimate this would require at least 11-per-cent F2019 comparable sales and strong contributions from renovated, relocated, and new stores. While this is quite possible, we do not have enough evidence of momentum this year to support such a bullish forecast. With expected paybacks of less than three years, we do not expect U.S. growth to materially add to earnings in our forecast period.”
Mr. Bank lowered his comparable same-store sales growth expectations to 2 per cent for the quarter, pointing to the company’s early disclosure of negative traffic trends as well as unseasonably warm September weather in Ontario. He’s now forecasting EBITDA and earnings per share drops of 24 per cent and 32 per cent year over year, respectively.
Maintaining a “neutral” rating, his target for Roots shares fell to $7 from $10. The average is $10.31.
“It is becoming more difficult to justify a significant premium above over-stored fashion apparel retailers,” the analyst said. “Comparable sales, while impressive on a stacked basis, missed forecasts for two straight quarters, and that trend looks to continue into Q3 and Q4. In addition, the market sell-off and economic concerns have put discretionary stocks relatively out of favour vs. staples. We now use 7-times EV/EBITDA, down from 9 times We look to an average of F2018 and F2019 forecasts, which acknowledges the challenging 2018 while also putting weight on the likely much-improved but also less-certain 2019. This brings our price target to $7 (was $10). While there is significant upside if we look to F2019 alone, we expect the tough H2/18 and lack of visibility beyond to constrain the shares in the near term.”
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In other analyst actions:
CIBC World Markets analyst Jon Morrison downgraded Encana Corp. (ECA-T, ECA-N) to “sector underperform” from “neutral” and lowered his target to $13 from $19.68, which falls below the $21.99 average.
Laurentian Bank Securities analyst Elizabeth Johnston upgraded Dirtt Environmental Solutions Ltd. (DRT-T) to “buy” from “hold” with an $8 target, up from $6.50. The average is $7.75.
GMP analyst Ian Gillies upgraded PHX Energy Services Corp. (PHX-T) to “buy” from “hold” with a target of $5.50, rising from $3.50. The average is $4.25.
David Leeder