Inside the Market’s roundup of some of today’s key analyst actions
Seeing more warning signs flashing in the U.S. housing market, CIBC World Markets Hamir Patel downgraded his rating for a quartet of lumber stocks, despite “strong” results in the first half of the year and a “decent” third quarter.
Though he still expects 2018 to be a “record year” for most wood products companies, Mr. Patel said he’s moving to the sidelines on all commodity wood product stocks.
“Although we still see single- to low-double-digit upside across several lumber names, with consensus for 2019 looking too rich (by double digits in some cases), we expect the group to be range bound through the end of the year,” he said. “Any potential pricing catalyst from depleted log decks in B.C. (following the summer wildfires) is unlikely to become apparent until spring. At the same time, downside risks are building as further deceleration in new home construction and R&R demand is apt to renew investor concerns about all the wood products capacity additions underway (nearly 5.0 Bbf over 2018-2020 for lumber and five mills having turned on in the past year for OSB).”
Mr. Patel lowered the following stocks to “neutral” from “outperform:”
- Interfor Corp. (IFP-T) with a target of $26, falling from $33. The average on the Street is $30, according to Bloomberg data.
" Our downgrade on Interfor is entirely a sector call, while we have become less enthusiastic on Western (despite its specialty focus), given lingering concerns for pricing and market share of cedar," said Mr. Patel.
- Western Forest Products Inc. (WEF-T) with a $2.50 target, down from $3 and lowered than the $3.13 average.
" We still view West Fraser as our preferred name within lumber, but as forestry is never a sector anyone has to own, we suspect dedicated materials investors would see higher returns over the next 12 months through exposure from other commodities." the analyst said.
- West Fraser Timber Co. Ltd. (WFT-T) with a $97 target, falling from $112. The average is $100.14.
" While West Fraser had previously been our top pick since our prior upgrade to Outperformer on Jan. 11 (when WFT was trading at $80.50), we struggle to see how the bellwether name can outperform the group through a period of housing uncertainty," he said.
- Resolute Forest Products Inc. (RFP-T) with a $16 target, dropping by a loonie. The average is $14.25.
" For Resolute, a name we upgraded not that long ago on July 11 (when RFP was trading at $10.15), we prefer to take profits at this time as pricing catalyst across the pulp and paper business have now largely played out," said Mr. Patel.
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Uni-Select Inc.’s (UNS-T) decision to launch a strategic review represents an opportunity to unlock intrinsic value for shareholders, said Desjardins Securities analyst Benoit Poirier.
However, in conjunction with the Tuesday’s announcement, which also involved management changes that included the departure of Henry Buckley as president and CEO, the Quebec-based company lowered its 2018 sales and earnings forecasts, leading Mr. Poirier to downgrade his rating for the automotive product distributor to “buy” from “top pick.”
“While we are disappointed by the revised guidance, we believe that the board’s actions were necessary to unlock intrinsic value,” said Mr. Poirier. “At this point, all options are on the table and we would expect strong interest and high valuation multiples if UNS pursues a partial/full divestiture process
Uni-Select is now projecting organic sales growth of 0.8–2.6 per cent, down from 2.25–4.0 per cent and beneath Mr. Poirier’s 2.6-per-cent expectation. Consolidated EBITDA margin was dropped to 6.75–7.25 per cent (from 7.2–8.2 per cent and a 7.3-per-cent projection).
With those changes, Mr. Poirier lowered his adjusted earnings per share projections for 2018, 2019 and 2020 to US$1.17, US$1.28 and US$1.60, respectively, from US$1.28, US$1.45 and US$1.79.
“We would support the divestiture of one/all divisions as we believe UNS’s business is undervalued (9.3 times enterprise value to trailing 12-month EBITDA versus the average of 12.2 times for peers),” he said.
His target for the stock fell to $29 from $32. The average on the Street is $25.92.
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Vermilion Energy Inc. (VET-T) stands out from its North American peers “in terms of value creation, and thus, equity markets performance,” said Raymond James analyst Kurt Molnar.
In a research report released Wednesday, he initiated coverage of the stock with an “outperform” rating.
“Success for the E&P investor (and thus the E&P equity) has become much more a function of business intent and design than in the past,” said Mr. Molnar. “Commodity price tailwinds are much more moderate, local basin realized commodity price dynamics have become much more volatile to the downside, and declining equity market interest in E&Ps has vastly moderated making access to capital far more difficult, speculative value increases for energy equities far more rare, and the cost of capital far more expensive. In short, valuations on equities have tightened and the hurdle for achieving sustained increases in value of underlying E&Ps has become materially more difficult as too many stock tickers chase a smaller pile of equity interested in oil and gas. If an E&P today is going to deliver sustainable alpha in equity markets they effectively need to force the issue by having a better business by design. We think Vermilion offers just such a better business model that has been entirely a function of design and intent rather than accident.”
Mr. Molnar feels the makeup of its asset base makes Vermilion “better by design,” and noted: “The fundamental stability of their capacity to grow and/or simply maximize profitability is unusually strong versus it peers due to its geographic diversity, its multiple sales hubs, and its diversity of commodity.”
“A North American E&P typically needs to have some combination of superior resource cocktail or superior cost base to have sustained success,” he said. “Even then, if too many local asset owners share the same perception or reality, and grow production faster than takeaway capacity for production, then marginal economics (and competitive advantage) can be harmed by the actions of those offsetting. In this regard geographic diversity of assets, diversity of end market/takeaway options and diversity of commodities to drill for all have strategic value for any given E&P. If that diversity can reach outside of North America at a capital cost that is on par with the best North American business models, while gaining leverage to international price markets that are routinely stronger than most price hubs in North America, then you have a business model that offers the real premise of a sustainable competitive advantage.”
Mr. Molnar set a target price for Vermilion shares of $52. The average on the Street is $56.32.
“In short strokes, we believe that is the business premise that Vermilion offers its investors,” he said. “Better diversity and margins without higher capital costs. Vermilion then expands that strategic premise by not overcapitalizing their own projects (growing so fast as to heighten the likelihood of future operational shortfalls) and using free cash for a combination of a meaningful dividend and emerging debt reduction capacity.”
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The underperformance of BSR Real Estate Investment Trust’s (HOM.U-T) stock since its initial public offering presents investors with “access to a quality portfolio of U.S.-based apartment assets at an attractive valuation,” according to Desjardins Securities analyst Kyle Stanley.
“BSR units have traded off 6 per cent since the IPO on May 18, driving trading multiples well below the peer group range—a deep discount we deem unwarranted given the REIT’s elevated cash flow growth profile, portfolio composition and favourable U.S. dollar yield,” said Mr. Stanley.
“We believe BSR’s underperformance relative to peers since its IPO is attributable in part to: (1) strong performance from Canadian residential peers, which has likely consumed much of the available capital to be allocated to the multifamily sector; and (2) a second multifamily REIT initial offering which began trading on the TSX in early July.”
In a research report released late Tuesday, he initiated coverage of the Arkansas-based REIT with a “buy” rating, emphasizing it sits in the early stages of “reaping the benefits” from a “significant” two-year capex program and expects further upside to come
“BSR’s U.S. Sun Belt–based, garden-style apartment portfolio has benefited significantly from capital invested over the last several years,” the analyst said. “With 46 per cent of the portfolio renovated, the REIT has realized a material lift in occupancy and same-property NOI [net operating income]. We see room for further upside from this investment as management places greater emphasis on driving rent (as opposed to minimizing vacancy). Moreover, another US$20–25-million of investment is planned over the next three years. With much of the heavy lifting complete (deferred capex and building exterior upgrades), we believe future returns on invested capital may be even stronger.”
Touting its “attractive” valuation versus both Canadian and U.S. multifamily peers, Mr. Stanley set a target price of US$11.50 per unit. The average is currently US$11.14.
“Its [forward 12-month] EBITDA multiple of 15.8 times is 7.6 times lower than the Canadian peer average of 23.4 times (low of 15.8 times for BSR and high of 27.4 times for IIP),” he said. “Based on our 2019 FFO estimate, BSR is trading at 11.7 times, significantly lower than both the Canadian and U.S. peer average. Relative to Canadian peers, BSR’s net debt/EBITDA run rate of 8.0 times screens well although it is modestly higher than the U.S. multifamily peer average of 7.6 times.”
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Charlotte’s Web Holdings Inc. (CWEB-CN) offers investors exposure to the high-growth cannabidiol market “through its industry-leading market share and product suite,” said Canaccord Genuity analyst Derek Dley.
Emphasizing what he deems to be its “attractive” current valuation, Mr. Dley initiated coverage Colorado-based producer and distributor of hemp-based CBD wellness products with a “buy” rating.
“Industrial hemp is a species of cannabis with no more than a 0.3-per-cent concentration of THC – not marijuana – which is a key distinction, as this definition allows Charlotte’s Web to sell its products legally across the United States and in many countries,” he said. “In our view, this positions the company as a health and wellness product distributor, not a cannabis company, which we believe allows for a broader base of investors otherwise hesitant to invest in the cannabis industry.”
Mr. Dley expects “rapid” growth in the CBD supplements market as products gain wider governmental and consumer acceptance.
“The company plans to exit 2018 with over 3,000 retail partners which, along with continued growth in the company’s e-commerce platforms, should allow Charlotte’s Web to continue to expand its market share,” he said. “Should regulations surrounding CBD products continue to ease, we believe Charlotte’s Web is well positioned to add a mass-market retail relationship, which is not included in our forecast and would further entrench the company’s industry-leading status.”
He set a price target of $21 for its shares, which falls in line with the consensus
“Charlotte’s Web represents an attractive buying opportunity at current levels, trading at 12.0 times our 2020 EBITDA estimate of $99-million,” the analyst said. “This represents a discount to health and wellness-focused supplement manufacturers, which trade at 13.2 times 2020 EBITDA estimates. We believe Charlotte’s Web should be valued at a premium to its peer group as we think the company is positioned for higher near-term growth than its peers. As well, Charlotte’s Web maintains greater financial flexibility given its $72-million net cash position, which leaves the company fully funded over our forecast period to achieve our estimates.”
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In other analyst actions:
Macquarie analyst David Medilek initiated coverage of TMAC Resources Inc. (TMR-T) with an “outperform” rating and $8 target, which is 43 cents below the consensus.
PI Financial Corp. initiated coverage of Sangoma Technologies Corp. (STC-X) with a “buy” rating and $2.25, which is 2 cents more than the average.
David Leeder