Monday’s analyst upgrades and downgrades

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

Citing its exposure to European gas prices and improving relative valuation, Scotia Capital analyst Jason Bouvier raised his recommendation for Vermilion Energy Inc. (VET-T) on Monday.

Also expecting “a nice uplift in cash flow profile going into 2023 as acquisitions are completed and hedges roll over,” he moved the Calgary-based company to “sector outperform” from “sector perform” in a research note.

“WTI prices have fallen about $14 per barrel off their recent high. During this same time frame, European gas prices have risen by 50 per cent,” he said. “VET derives about 40-45 per cent of its cash flow from European gas prices. Given VET’s share price has fallen roughly in line with its peer group over the past couple of weeks the relative valuation of VET has improved materially.”

“In 2022, we estimate VET’s hedging losses at $616-million. Currently, the company has about 40 per cent of its production hedged in 2022. This falls to 10 per cent in 2023. No oil is hedged for 2023 and North American gas is hedged at higher prices than in 2022. As a result, even though we have major commodities falling from 2022 to 2023 (strip), VET’s cash flow actually increases from $2.2-billion in 2022 to $2.4-billion in 2023 (up 10 per cent).”

Mr. Bouvier is forecasting Vermilion to reach its net debt target of $1.2-billion in the third quarter this year and sees the potential to be debt free by the end of the 2023 fiscal year.

“After hitting their debt target, the company will be in a good position to increase shareholder returns. We expect both increased dividends and SBB over the next 1-2 years,” he said.

He maintained a $36 target for the company’s shares. The current average target on the Street is $36.46, according to Refinitiv data.

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With trade indicators looking “shaky,” CIBC World Markets analyst Stephanie Price downgraded Descartes Systems Group Inc. (DSGX-Q, DSG-T) to “neutral” from “outperformer,” seeing better relative return in other names elsewhere.

“We see risks to organic growth from slowing transportation volumes given that approximately 40 per cent of Descartes’ revenue is derived from transactional revenue,” said Ms. Price. “We expect that Descartes will look to offset slower organic growth with M&A (more than $200-million in net cash) and see limited risk in management’s 10-15-per-cent EBITDA growth target.

“However, Descartes’ premium to the S&P Software Index has typically narrowed during economic downturns, with the stock trading at a valuation below the S&P Software Index during the Great Financial Crisis, versus a seven-turn premium to the Index today.”

Her target for Descartes shares slid to US$71 from US$89 previously. The average on the Street is US$75.80.

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Believing its business model can “outperform its basic chemical peers through a recession,” Scotia Capital analyst Ben Isaacson upgraded Chemtrade Logistics Income Fund (CHE.UN-T) to “sector outperform” from “sector perform.”

In justifying his change, he pointed to several factors, including the expectation that demand for regen acid services should increase over the coming quarters; ultrapure sulphuric acid demand is “set to soar” in North America over the mid-term; a “relatively tight” outlook on caustic soda and “fairly stable margin variability” for its water chemical business.

“Chemtrade has proactively cleaned-up both its portfolio and balance sheet, which we think could result in slight multiple expansion over time,” said Mr. Isaacson. “Initiatives include the sale of its non-core specialty chemical business, the $10-million sale of an idled facility in Augusta, Georgia, as well as the closure of a chlorate plant in Quebec, due to slower post-COVID demand growth.”

He said Chemtrade’s 7.8-per-cent distribution yield has “strong support” and sees a “decent” valuation discount.

“When compared to all equities in the S&P TSX Materials with a market cap greater than $1-billion, CHE offers the second highest yield (its market cap is slightly less than $1-billion),” he said. “As of Q1/22, the rolling four-quarter distribution payout ratio is 48 per cent. Through the end of ‘23, we do not see the rolling four-quarter distribution payout ratio exceeding 60 per cent, providing strong support for a distribution of $0.15/unit per quarter.”

“CHE is trading at 6.1 times and 6.5x ‘22 and ‘23 EBITDA of $325-million and $305-million, respectively. This compares to five- and ten-year EV/NTM EBITDA multiples of 7.2 times and 7.4 times, respectively. The lower five-year multiple is due to the acquisition of Canexus, which brought more basic chemical volatility to the portfolio. However, if we look at the first full year of CHE post Canexus, through to the end of ‘23 (using Street estimates), the average EBITDA is $300-million, with very little variability. Accordingly, we see no reason why CHE’s forward multiple shouldn’t begin to return to 7.2 times over the next year. In fact, one could argue for a premium multiple over this amount, given that leverage has improved materially.”

Mr. Isaacson raised his target to $10.25 from $9.50. The average on the Street is $10.

“While waiting for (relative) outperformance, investors can enjoy a nearly-8-per-cent yield, well-supported by a rolling four-quarter payout ratio that shouldn’t exceed 60 per cent through ‘23,” he said.

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National Bank Financial analyst Vishal Shreedhar expects to see improving results from MTY Food Group Inc. (MTY-T) when it reports its second-quarter results in early July as casual dining trends rebound with an easing of pandemic-related restrictions.

However, he did warn a “solid” recovery in Canada could be partially offset by “tapering performance” from its Papa Murphy’s pizza chain.

“Investors will focus on evolving consumer behaviour as economies continue to reopen (year-over-year), particularly amid pervasive inflation, supply chain challenges, constrained labour conditions and concerns regarding slowing consumer spending,” said Mr. Shreedhar.

He’s forecasting adjusted earnings before interest, taxes, depreciation and amortization for the quarter of $46.6-million, above the consensus estimate of $45-million and up 7.2 per cent year-over-year from $43.5-million. Revenue is expected to grow to $154-million from $136-million, also topping the Street ($136-million).

“During the quarter, OpenTable data suggests a sharp recovery in seated diners in Canada as restrictions were gradually lifted. Solid recovery in Canada is anticipated to be partially offset by tapering demand at Papa Murphy’s (pent-up demand for dining out),” said Mr. Shreedhar.

Citing its “attractive valuation, operational progress and supportive capital allocation outcomes,” he said he remains “constructive” on MTY, though he did acknowledge “heightened risk related to inflation, supply chain, labour and macroeconomic conditions.”

Maintaining an “outperform” rating for its shares, Mr. Shreedhar cut his target to $63 from $70 in order to reflect a decrease in his valuation multiple “due to heightened uncertainty with the macroeconomic backdrop.” The average on the Street is $68.14.

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When Alimentation Couche-Tard Inc. (ATD-T) reports its fourth-quarter financial results after the bell on Tuesday, Desjardins Securities analyst Chris Li expects to see “strong fuel margins and solid merchandise sales and margin, offset by elevated opex, sluggish fuel volume and higher volatility in Europe.”

However, he expects investor attention to centre on the outlook and trends in the current first quarter given the spike in gas prices.

“While industry fuel margins have moderated from mid- to high US30cpg (January–April) to an average of US28–29cpg in May and June, we believe our low-US30cpg forecast is achievable in 1Q and FY23, supported by company-specific initiatives (fuel rebranding to Circle K, enhanced procurement through partnership with Musket, pricing optimization, and other sourcing and logistics capabilities). All else equal, a one-cent change in U.S. fuel margin impacts our FY23 EPS by US$0.08 (3 per cent). Fuel volume will be weighed down by high prices. While SG&A expenses will remain elevated in the near term due to higher labour costs and credit card fees, the pressures should start to ease in 2Q. We expect c-store sales and margins to remain solid, supported by cost pass-through and positive mix shift (single serve, private label, etc), partly offset by higher commodity costs (foodservice) and reduction in discretionary (ie carwash).”

With that change to his fuel margin estimate, Mr. Li raised his full-year earnings per share forecast for 2022 to $2.57 from $2.41 and 2023 to $2.56 from $2.51.

He maintained a “buy” rating and $60 target for Couche-Tard shares. The average on the Street is $62.72.

“While we expect earnings to remain volatile near-term due to macro uncertainties, we remain positive on ATD’s longer-term growth potential, supported by a strong pipeline of growth initiatives. Its strong balance sheet is valuable, especially in the current market, supporting capital return,” he said.

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CIBC World Markets analyst Scott Fromson, Sumayya Syed, Dean Wilkinson reduced their target prices for real estate equities on Monday.

Their changes included:

• Allied Properties Real Estate Investment Trust (AP.UN-T, “outperformer”) to $47.50 from $50. The average on the Street is $49.35.
• American Hotel Income Properties REIT (HOT.U-T/HOT.UN-T, “neutral”) to US$3.80 from US$4. Average: US$3.84.
• Automotive Properties REIT (APR.UN-T, “neutral”) to $14.25 from $15. Average: $14.76.
• Boardwalk REIT (BEI.UN-T, “neutral”) to $58 from $60. Average: $60.95.
• Brookfield Asset Management Inc. (BAM-N/BAM.A-T, “outperformer”) to US$68 from US$75. Average: US$70.55.
• CAP REIT (CAR.UN-T, “neutral”) to $55 from $60. Average: US$63.22.
• Chartwell Retirement Residences (CSH.UN-T, “outperformer”) to $14.25 from $15. Average: $14.38.
• Colliers International Group Inc. (CIGI-Q/CIGI-T, “outperformer”) to US$150 from US$170. Average: US$162.
• Crombie REIT (CRR.UN-T, “outperformer”) to $18.25 from $19. Average: $19.42.
• CT REIT (CRT.UN-T, “neutral”) to $18 from $19. Average: $18.79.
• Dream Industrial REIT (DIR.UN-T, “outperformer”) to $17 from $18. Average: $18.44.
• Dream Office REIT (D.UN-T, “outperformer”) to $27 from $28.50. Average: $27.08.
• Dream Unlimited Corp. (DRM-T, “outperformer”) to $53 from $56. Average: $55.33.
• European Residential REIT (ERE.UN-T, “outperformer”) to $5.35 from $6. Average: $5.74.
• Extendicare Inc. (EXE-T, “neutral”) to $8 from $8.50. Average: $8.15.
• First Capital REIT (FCR.UN-T, “outperformer”) to $19.50 from $21. Average: $20.54.
• FirstService Corp. (FSV-Q/FSV-T, “neutral”) to US$140 from US$145. Average: US$160.
• Granite REIT (GRT.UN-T, “outperformer”) to $102 from $106. Average: $107.90.
• H&R REIT (HR.UN-T, “outperformer”) to $16.50 from $17.50. Average: $17.07.
• InterRent REIT (IIP.UN-T, “neutral”) to $15.50 from $17. Average: $18.15.
• Killam Apartment REIT (KMP.UN-T, “outperformer”) to $22.50 from $25. Average: $24.10.
• Minto Apartment REIT (MI.UN-T, “outperformer”) to $23 from $24.50. Average: $25.05.
• Morguard Corp. (MRC-T, “outperformer”) to $150 from $165. Average: $180.
• Morguard North American Residential REIT (MRG.UN-T, “outperformer”) to $21.75 from $23. Average: $21.70.
• Northwest Healthcare Properties REIT (NWH.UN-T, “outperformer”) to $14.75 from $15.50. Average: $15.22.
• Pro REIT (PRV.UN-T, “outperformer”) to $7.75 from $8.25. Average: $7.93.
• RioCan REIT (REI.UN-T, “outperformer”) to $25 from $26.50. Average: $26.25.
• Sienna Senior Living Inc. (SIA-T, “neutral”) to $15.75 from $16.75. Average: $16.69.
• Slate Office REIT (SOT.UN-T, “neutral”) to $5 from $5.25. Average: $5.19.
• SmartCentres REIT (SRU.UN-T, “outperformer”) to $32.75 from $34.50. Average: $33.
• Storagevault Canada Inc. (SVI-T, “outperformer”) to $7 from $8. Average: $7.86.
• Summit Industrial Income REIT (SMU.UN-T, “neutral”) to $21 from $22.50. Average: $23.65.
• Tricon Residential Inc. (TCN-T, “outperformer”) to $20.50 from $22. Average: $20.35.
• True North Commercial REIT (TNT.UN-T, “neutral”) to $6.75 from $7. Average: $6.95.

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Citing “permitting uncertainty” at its Fenix Gold Project after the Chilean Environmental Assessment Service recommended a rejection of its Environmental Impact Assessment report, Raymond James analyst Craig Stanley downgraded Rio2 Ltd. (RIO-X) by two levels to “market perform” from “strong buy.”

“The Consolidated Evaluation Report notes that Fenix ‘fulfills all the applicable environmental regulations and meets the environmental requirements for the granting of applicable sectorial environmental permits’ however, the company ‘has not provided enough information during the evaluation process to eliminate adverse impacts over the chinchilla, guanaco, and vicuña,’” he said.

“We note Gold Fields Salares Norte Gold Project was permitted but subsequently sanctioned over a botched relocation of 20 chinchillas.”

Mr. Stanley cut his target to 40 cents from $1.50. The average on the Street is $1.64.

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While he thinks Fission Uranium Corp. (FCU-T) is “likely to continue to do well on a backdrop of improving sentiment in the uranium space,” BMO Nesbitt Burns analyst Alexander Pearce downgraded its stock to “market perform” from “outperform,” seeing “better value elsewhere.”

“We believe near-term upside in uranium can be better gained through exposure to the producers and more advanced developers,” he said.

Mr. Pearce continues to see its Patterson Lake South uranium project as “attractive” with the “potential for a low-cost and large-scale uranium-producing asset.” However, he thinks its development timeframe and capex “do count against it slightly.”

“Amongst other key development projects in the Athabasca Basin, PLS is slightly behind our preferred project list due to its current development stage (FS ongoing),” he said. “Therefore, we have downgraded Fission.”

He maintained a 70-cent target for its shares. The average is $1.31.

“We would look to review this rating on any pullback in share price, given the positive outlook we have on the commodity price,” said Mr. Pearce.

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In other analyst actions:

* While he sees it “on track for another strong quarter” and sees “significant upside from current levels,” BMO Nesbitt Burns analyst Fadi Chamoun reduced his Bombardier Inc. (BBD.B-T) target to $63 from $71.25 with an “outperform” rating to “reflect overall lower market multiples.” The average is $53.97.

“Bombardier in-service fleet of aircraft saw significant increases in flight activities in Q2/22,” he said. “Deliveries of mid/large cabin aircraft increased in Q2/22 and are expected to accelerate in H2/22 and 2023 supported by a strong backlog, which we believe has expanded further in Q2/22. The strength in orders has also afforded BBD the ability to retire more debt and strengthen its financial position. While macro uncertainty continues to weigh on valuation in the immediate-term, BBD is executing well against its self-help opportunities and the company is on more solid footing.”

* CIBC’s Anita Soni reduced Equinox Gold Corp. (EQX-T) to “underperformer” from “neutral” with a $5.75 target, down from $9.25 and below the $12.31 average.

“Despite the fairly low trading P/NAV multiple, which reflects some risk at the Greenstone project, we believe that the company’s higher capex weighting implies risk and we do not see how it will trade in line with peers during a build-out,” said Ms. Soni.

* In response to its decision to halt additional construction activities at its Premier Gold project in the Golden Triangle of B.C., CIBC’s Allison Carson cut Ascot Resources Ltd. (AOT-T) to “neutral” from “outperformer” with an 80-cent target, down from $1.30. The average is $1.19.

“Although we remain confident on the technical and operational aspects of this project, due to the uncertainty around the financing and development we have lowered our rating,” she said.

* Touting it as a “good pass-through of oil prices to investors,” CIBC’s Christopher Thompson initiated coverage of Cardinal Energy Ltd. (CJ-T) with a “neutral” rating and $10 target, exceeding the average on the Street by 17 cents.

“Cardinal Energy’s low-decline-rate operating model generates impressive free cash flow and a leading dividend yield in the current commodity price environment,” he said. “That being said, when stress tested at lower commodity prices, we see relatively higher risk in the model because of the company’s higher relative cash costs. While we believe a valuation premium relative to peers is warranted given Cardinal’s leading capital intensity ratio, with the stock trading at 3.5 times 2023E EV/DACF on our price deck versus a peer average of 2.7 times, we would wait for a smaller gap.”

* After meetings with its management, BMO’s Devin Dodge cut his target for Finning International Inc. (FTT-T) to $32 from $38 with a “market perform” rating. The average is $44.67.

“We came away from the meetings incrementally more positive and believe FTT is poised to deliver improved and more sustainable earnings over the cycle. However, we believe escalating concerns for a recession and moderating commodity prices (though admittedly still at elevated levels) provide a challenging backdrop for the stock. We would consider a more constructive rating on improved visibility into economic conditions and/or mining sector investment in Chile, all else equal.

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