Wednesday’s analyst upgrades and downgrades

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

Ahead of first-quarter earnings season, National Bank Financial analyst Matt Kornack says interest rate expectations continue to dictate the performance of real estate investment trusts.

“In late 2023 and bleeding into the beginning of 2024, market participants were comfortable with the likelihood of interest rates cuts by the BOC and the Fed,” he said. “There were clear signs that Canada’s growth was beginning to stall but also cracks apparent globally. A series of hot inflation reports south of the border derailed this expectation – while Canada still looks relatively weak, a material deviation from the U.S. is unlikely given FX implications and their inflationary consequences. That said, Canada is still likely to act first on rates and this will have positive funds flow implications for REITs.

“While the valuation impacts are more punitive, staggered debt maturity profiles provide protection in terms of near-term earnings implications. Assuming interest rates remain the same over our forecast period, the average hit to FFO/unit in 2025 is a modest 2 per cent. In the case of REITs with heavy disposition expectations, like FCR, there is a benefit. For BEI and GRT, the higher interest rates were a net positive given interest earned on their large cash balances (FCR as well given its short-term investments). Office names are the relative losers as higher exposure to variable rate debt (namely credit facilities) has become a symptom of more limited access to capital.”

In a research report released Wednesday titled Stuck Between the Curve and the Economists, Mr. Kornack reduced his target prices for stocks in the sector by an average of 4 per cent to reflect bond yield adjustments. He also cut his 2025 financial projections by 2 per cent based on higher interest rate forecasts, though he notes “the shift hasn’t been universal across the curve with rates largely landing in the same spot by the end of 2025 according to NBF’s Economics & Strategy team.”

“This dynamic creates an upside scenario if bonds move lower quicker but downside if the current environment prevails longer term,” he said. “Our forecasted cap rates increased an average of 10 basis points (we tweaked these fairly universally across asset classes to account for the move in the current 10-year – as noted 2024 rate assumptions were up 70-80 bps) and NAV estimates were down 4 per cent (this was the primary driver of target price adjustments).

“Asset class pecking order remains the same – apartments followed by industrial with retail still relevant. Mean returns for Canadian multi-family are (up 24 per cent) followed by industrial (up 22 per cent) and retail (up 17 per cent). Apartment fundamentals remain strong with sustained expected market rent growth across a largely affordable offering. While demand is being targeted on the housing front in the form of student and temporary foreign worker adjustments, the result remains to be seen. The slowdown in industrial leasing dynamics is becoming more evident, but we like the current implied valuations relative to embedded MTM growth, providing downside protection.”

Here are Mr. Kornack’s “focus ideas” by asset class:

Canadian Multi-Family

Canadian Apartment Properties REIT (CAR.UN-T, “outperform”) with a $56 target, down from $60. The average on the Street is $57.22.

Analyst: “CAP’s exposure to the GTA and GVA represents 50+ per cent of total AMR, making it the most concentrated to Canada’s high-growth urban markets where land values remain high, which we believe will limit the potential for a near-to-medium term supply response entrenching upward rent trajectories. Despite a change in tone on immigration, Canada’s urban cores will continue to benefit from population growth as the GTA / GVA being the destination for the majority of immigrants, so while nationally immigration is slowing, Canada’s largest cities will continue to experience excess demand for rental housing. In addition to the operational tailwinds, we expect CAPREIT to outperform from funds inflows into the sector if / when short-term rates decline as CAR is the top weighting in the REIT index at 15 per cent and a net beneficiary of generalist / retail funds flows.”

Industrial

Dream Industrial REIT (DIR.UN-T, “outperform”) with a $16 target, down from $16.50. Average: $16.07.

Analyst: “Our highest total return to target for the industrial segment goes to Dream Industrial as the REIT remains relatively inexpensive vs. its medium-term growth profile while presenting a lower risk profile than the others. We view DIR as the best way to gain exposure to the robust GTA/GMA markets. It is the closest proxy for an urban smaller-bay Canadian play, which has higher barrier to entry than other markets and less competing product to entice tenants away. DIR still has a strong MTM opportunity providing the best organic growth profile across the Canadian peer set with a favourable lease maturity profile over the next few years. Lastly, overlapping costs still employed since the DIR / SMU JV was established also present a potential source of synergies that may be realized over time.”

Retail

RioCan REIT (REI.UN-T, “outperform”) with a $20.50 target, down from $21. Average: $21.63.

Analyst: “RioCan is our highest total return idea within the retail asset class. We like REI for its above-average SPNOI growth outlook vs. peers, comparably cheaper valuation, and limited value attributed to an established development vehicle. We see NOI growth driven by healthy SPNOI performance in the 3-per-cent range, with FFO growth supplemented by significant development completions expected to add incrementally to earnings through NOI contributions or deleveraging on the back of condo sales. The $900+-million in proceeds through condo and townhouse sales that REI is expected to bring in over the next three years will de-risk the balance sheet and provide capital allocation optionality.”

Office

Allied Properties REIT (AP.UN-T, “outperform”) with a $19 target, down from $20. Average: $20.31.

Analyst: “Our highest total return to target in the office sector is Allied, given the REIT’s relative asset quality (including an exceptional urban land footprint) and capital structure vs. an increasingly tempting valuation. There is an ongoing flight to quality where tenants are prioritizing built-out space with access to amenities, and as such, we believe Allied is best positioned operationally despite broader office turbulence. Additionally, their above-noted ultra-core urban portfolio provides for a value floor as it would appeal to investors with a long-term view on the Canadian market and particularly its top cities. We continue to like the quality and footprint of the portfolio offering relative to valuation but expect a growing desire for management to prove this value through monetization of select assets while also improving balance sheet metrics.”

Diversified

H&R REIT (HR.UN-T, “sector perform”) with a $10.50 target (unchanged). Average: $11.17.

Analyst: “Within the diversified group, H&R remains our top focus idea, driven by exposure to multi-family assets in U.S. markets and industrial development lease-up around the GTA combined with a better balance sheet and limited office maturities. Recent transaction activity was a plus as the management continues to showcase their progress in achieving reasonable pricing on a blended basis for the REIT’s assets in a market where transactions are still at somewhat of a standstill. These sales are incrementally positive given that the stock trades at an implied cap rate of over 9 per cent and continue to move the pro forma entity more towards apartment ownership. While we think H&R should trade at a narrower discount, it may take more time than originally expected to close this gap as the bulk of additional asset sales are on hold until market participants better understand the return environment.”

Mr. Kornack’s other target adjustments are:

• Boardwalk REIT (BEI.UN-T, “outperform”) to $86.50 from $87. Average: $85.22.
• BTB REIT (BTB.UN-T, “sector perform”) to $3.05 from $3.15. Average: $3.35.
• Crombie REIT (CRR.UN-T, “outperform”) to $14.25 from $15. Average: $15.56.
• Dream Office REIT (D.UN-T, “outperform”) to $18.75 from $19. Average: $18.
• First Capital REIT (FCR.UN-T, “outperform”) to $17.25 from $17.50. Average: $18.08.
• Granite REIT (GRT.UN-T, “outperform”) to $85 from $87. Average: $88.72.
• BSR REIT (HOM.U-T, “outperform”) to US$12.50 from US$13.25. Average: US$14.98.
• InterRent REIT (IIP.UN-T, “outperform”) to $14 from $15.50. Average: $15.18.
• Killam Apartment REIT (KMP.UN-T, “outperform”) to $21.50 from $22.75. Average: $22.40.
• Minto Apartment REIT (MI.UN-T, “outperform”) to $18.75 from $20. Average: $20.50.
• Nexus Industrial REIT (NXR.UN-T, “sector perform”) to $7.50 from $8.50. Average: $8.94.
• Primaris REIT (PMZ.UN-T, “outperform”) to $15.50 from $16. Average: $16.98.
• PRO REIT (PRV.UN-T, “sector perform”) to $5.50 from $6. Average: $6.25.
• SmartCentres REIT (SRU.UN-T, “sector perform”) to $23.50 from $26. Average: $26.16.
• Storagevault Canada Inc. (SVI-T, “sector perform”) to $5.75 from $6. Average: $6.22.
• True North Commercial REIT (TNT.UN-T, “sector perform”) to $8.50 from $8.75. Average: $9.19.

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Citing “recent unit price declines broadly experienced across the Canadian REIT sector as a result of increased Government of Canada (GoC) bond yields,” Raymond James analyst Brad Sturges made a series of target price adjustments to equities in his coverage universe, believing “the planned increase in the capital gains inclusion rate introduced in the 2024 Canadian Federal Budget may have implications for the Canadian REIT sector and the broader Canadian commercial and residential real estate market.”

“Canadian Federal Budget was very focused on the Canadian Federal Government’s Housing Plan, the Canadian Federal Government also introduced planned changes to the capital gains tax treatment, increasing the inclusion rate of annual capital gains above the $250k aggregate threshold to be taxed at the marginal tax rate to 67 per cent (from 50 per cent currently) after June 25th,” he said. “Annual realized capital gains totaling less than $250k will still be subject to a capital gains inclusion rate of 50 per cent. We believe the planned capital gains inclusion rate changes could have an impact for those Canadian REITs selling properties post June 25th with respect to the tax treatment of monthly distribution payments. Further, we expect that Canadian REITs with active capital recycling programs could need to pay greater amounts of special distributions in order to deal with increased capital gains taxes realized if larger non-core asset disposition volumes are completed above the respective historical cost bases. While we expect near-term private market commercial and residential transaction activity to increase ahead of the June 25th deadline, we believe higher potential capital gains taxes have a future negative impact on private market transaction volumes, which could impact future acquisition opportunities for Canadian REIT/REOCs.”

• Automotive Properties REIT (APR.UN-T, “outperform”) to $12 from $12.50. The average on the Street is $12.17.
• Canadian Apartment Properties REIT (CAR.UN-T, “outperform”) to $56.60 from $60. Average: $57.22.
• Dream Industrial REIT (DIR.UN-T, outperform) to $16 from $16.50. Average: $16.07.
• Dream Residential REIT (DRR.U-T, “outperform”) to US$8 from US$8.50. Average: US$9.31.
• InterRent REIT (IIP.UN-T, “strong buy”) to $15.75 from $16.25. Average: $15.18.
• Killam Apartment REIT (KMP.UN-T, “outperform”) to $21.75 from $22.75. Average: $22.40.
• Minto Apartment REIT (MI.UN-T, “outperform”) to $20.25 from $21.25. Average: $20.50.
• Nexus Industrial REIT (NXR.UN-T, “outperform”) to $9 from $9.75. Average: $8.94.
• Parkit Enterprise Inc. (PKT-X, “outperform”) to 75 cents from 85 cents. Average: 85 cents.
• Slate Grocery REIT (SGR.U-T, “market perform”) to US$9 from US$10. Average: US$10.15.
• True North Commercial REIT (TNT.UN-T, “market perform”) to $10.50 from $10. Average: $9.18.

“We highlight Primaris [”outperform and unchanged $17.25 target] as a potential stock that may be positioned to deliver a positive earnings surprise, in our view, due to potential improving accretion from Primaris’ recent Canadian enclosed mall acquisitions,” he said. “However, we are relatively more cautious on StorageVault’s [”market perform” and unchanged $6.25 target] near-term outlook in meeting our and consensus SP-NOI and AFFO/share growth expectations in light of higher interest rates and subdued Canadian housing activity in 2024 YTD

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Seeing U.S. topline and market share trends “starting to inflect negatively,” Citi analyst Filippo Falorni downgraded Molson Coors Beverage Co. (TAP-N) to “sell from “neutral” on Wednesday.

“Starting in mid-April 2023, TAP greatly benefitted from the controversy on the Bud Light brand following a social media post by transgender influencer Dylan Mulvaney, which led to a large-scale boycott of the brand and benefitted TAP’s Coors Light & Miller Lite brands,” he said. TAP U.S. beer sales accelerated to 13 per cent in the eight months post the controversy vs. 4 per cent in the prior year, with TAP gaining 200 basis points of share in U.S. beer. However, early April scanner data trends show the trajectory for TAP beer sales/volumes turning negative year-over-year as TAP cycles these benefits. While we expect a very gradual recovery of the share lost by Bud Light, we believe the difficult comps will continue to drive decelerating TAP trends into the summer (despite the spring resets).”

In a note released before the bell, Mr. Falorni also predicts the brewer’s margins could face pressure from cycling fixed cost leverage.

“TAP indicated it realized six years of profit growth in 2023, with large benefits from fixed cost leverage on strong topline & expanding gross & operating margins by 190/230 basis points,” he said. “We believe the cycling of these benefits could drive year-over-year margin declines starting in Q2, despite more favorable commodities, and model gross and operating margins down 70/20 basis points in Q2-Q4.”

While noting Molson Coors’ current valuation is “low,” he sees it close to historical average, reducing his target for its shares to US$56 from US$66. The average is US$69.11.

“While TAP has sounded bullish on Q1 trends (still on normal comps) and on spring shelf space resets, we believe cycling a record topline/profit year (TAP indicated it realized six years of profit growth in 2023) will be extremely difficult – with early April scanner data showing early signs of negative inflection in year-over-year sales and distribution growth,” he concluded. “As we highlighted in our earnings preview, we expect a strong Q1 topline/profit delivery due to over-shipment relative to consumption following the 4Q’23 under-shipment and as TAP likely shipped ahead of both the peak summer months and the Fort Worth brewery union strike. However, we believe a Q1 topline/EPS beat on shipment benefits is well expected by the market and believe investors could ‘sell the news’ looking at much more difficult comps starting in Q2, with Q1 over-shipment potentially coming out of Q2/Q3 if underlying consumption trends were to slow.”

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Canada’s oilfield service sector continues to benefit from “relatively stable” activity and utilization, while pricing and margins are “proving well insulated from the forces of competition or inflation” heading into first-quarter earnings season, according to National Bank Financial analyst Dan Payne.

“As shown through our upstream outlook, commodity prices remain range-bound (with a positive bias) and activity remains structurally unchanged, as a function of the preponderance of cash flow that is fixed to return of capital initiatives (as opposed to reinvestment); any projection towards an inflection to growth and expansion within the sector remain medium-to-long term in orientation, at best,” he said in a research report titled Top Quality Rocket ... Waiting for Liftoff.

“As such, the OFS group should continue to prove value through a) decoupling of returns from activity, in support of b) resilience and quality of earnings, which in the absence of reinvestment (either organically or acquisition), should reflect ample free cash and return of capital for those operators best positioned (entrenchment, technology and ancillaries proving impactful). With that, we continue to expect funds flow to continue to bias multiple expansion to compound shareholder value through this phase of the cycle, before greater upside is more visible with a further inflection over the medium term.”

Mr. Payne updated his forecast for companies in his coverage universe to reflect both his upstream macro and commodity price revisions as well as activity forecasts.

“Our revised forecasts (commodity and activity) sees us largely maintain our estimates (negative 3-per-cent change on average), relatively tightly aligned with consensus (generally in line), while implying little rate of change (5- 10 per cent per annum), again, suggestive of the resilience and quality of earnings within the group, which should offer ample excess cash flow and prospective return of capital in support of shareholder value for a group that remains discounted relative to historical (27 per cent),” he said.

“In general, we remain Sector Perform for the group (as relative biases are hard to distinguish; ‘dealer’s choice’), but do hold a pecking order of EFX, PSI, PD, TCW and CEU (while acknowledging the almost indistinguishable value-adjusted returns therein).”

Mr. Payne made one target adjustment, raising CES Energy Solutions Corp. (CEU-T) to $6.50 from $4.75 with a “sector perform” recommendation. The average on the Street is $6.29.

“Increasingly noted as the highest-quality in the group, particularly on the back of the industry-transformative SLB/CHX transaction (8 times EV/EBITDA), we believe the positive bias to CEU’s business will only increase; where its market share and margin potential should grow as industry backfills for the absence of CHX,” he said. “Again, its assets are ideally suited to take leadership in the group, with a dynamic approach and highly customer-centric stance that should increasingly benefit from thematic tailwinds of higher intensity and increased consumption of chemicals (drilling longer/faster + optimizing production), each to prove a de-coupling of revenue from otherwise anemic industry activity levels and positively reflected through first quarter results. With that, look for revenue of $560-million (up 1 per cent quarter-over-quarter) and associated EBITDA of $82.4-million (down 3 per cent quarter-over-quarter) to suggest a margin of 15 per cent (from 15 per cent), which sits in line relative to consensus and should positively validate the strength of its fundamental foundation (i.e., market share and revenue per rig per day). Ultimately, we continue to expect validation of expanding returns, set against its capital light model ($70-million), to continue to support solid free cash in support of de-leveraging (long-term option value) and its cash dividend (3-per-cent yield) plus buyback (upon renewal of NCIB in Q3), each likely to support an expanded multiple backdrop for the stock (trading at 3.2 times vs. peers 7.1 times). With that, and frankly, our increasing appreciation for the story, we are increasing our target.”

He maintained his targets for these stocks:

• Enerflex Ltd. (EFX-T, “outperform”) at $10. Average: $11.10.
• Precision Drilling Corp. (PD-T, “sector perform”) at $135. Average: $127.49.
• Pason Systems Inc. (PSI-T, “sector perform”) at $20. Average: $18.57.
• Trican Well Service Ltd. (TCW-T, “sector perform”) at $6.75.

“Overall, we continue to believe the market remains relatively well balanced, but the risk-adjusted value proposition remains stout as the quality and stability of earnings (shown through high cyclic ROCE) is better appreciated and funds flow continue to emerge in support of multiple expansion off a low relative multiple. Based on commentary within and throughout, we believe that operators with high-quality entrenchment of operations within the best insulated and diversified businesses should prove preferential results, and which has us biasing our names (per a scorecard approach for earnings momentum and relativity of value-adjusted returns) as EFX, PSI, PD, TCW and CEU (while acknowledging the relatively indistinguishable value-adjusted returns therein).”

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In a research note titled Slower for longer is better reflected now, Desjardins Securities analyst Jerome Dubreuil said results from global IT service provider peers suggest further challenges for Canadian companies in accelerating revenue growth, pointing to ongoing budget constraints and longer sales cycles.

“This contrasts with prior expectations of imminent improvement, with additional expected delays before interest rate cuts suggesting that more patience is required before we see a material acceleration in revenue growth — clients seem to continue prioritizing initiatives that provide immediate returns, with discretionary projects taking a hit,” he said. “We continue to like the sector’s attractive attributes and we find current valuations reasonable in the context of growing pent-up demand for IT services.”

Ahead of its earnings release of May 1, Mr. Dubreuil trimmed his target for CGI Inc. (GIB.A-T) to $162 from $164 with a “buy” rating to reflect peer updates. The average on the Street is $163.08.

“We view ACN as GIB’s most comparable peer—hence, ACN’s disappointing update leads us to reduce our forecast for both the quarter and the year,” he said. “ACN’s constant-currency revenue growth decelerated in the quarter (ended February). To reflect a similar possibility with GIB, as well as one less billable day in the quarter vs a year ago in both Canada and France (Easter was early), we have lowered our organic growth estimate to 0.6 per cent (from 2.0 per cent), down from 1.4 per cent in the previous quarter.”

He added: “Overall, our top-line forecast for GIB is 0.8 per cent lower than consensus for the coming quarter and 0.4 per cent lower than consensus for FY24. This creates slight risk ahead of earnings season, but the recent pullback in the share price should provide downside protection and makes the risk/reward ratio attractive for investors given our expectation for an eventual recovery in the IT services industry toward 2H24 or early 2025.”

The analyst’s top pick heading into earnings season is Converge Technology Solutions Corp. (CTS-T) with a “buy” rating and $7 target (unchanged), exceeding the $6.73 average.

“We believe the company will report another decent quarter, thus further improving its track record of execution and earnings visibility,” said Mr. Dubreuil.

He maintained his 70-cent target for Quisitive Technology Solutions Inc. (QUIS-X, “buy”) and $3 target for Alithya Group Inc. (ALYA-T, “buy”). The averages are 64 cents and $2.85, respectively.

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In other analyst actions:

* BMO’s Devin Dodge raised his targets for AtkinsRéalis (ATRL-T, “market perform”) to $56 from $55, Stantec Inc. (STN-T, “outperform”) to $127 from $126 and WSP Global Inc. (WSP-T, “outperform”) to $246 from $244. The averages on the Street are $61.33, $124.09 and $238.79, respectively.

“In our second annual review of global engineering consultancies, STN and WSP continue to stack up well vs. peers which solidifies their position among the premier franchises in the industry. Nearly all firms are leveraging the strong demand backdrop to focus on higher value-added services, drive margin expansion, and improve financial returns, but ATRL’s Engineering Services division appears to be taking a different approach. While the aggressive expansion of its workforce and significantly higher order intake is supporting organic growth well above the peers, we believe it adds a layer of risk that isn’t present in other engineering consultancies,” he said.

* RBC’s Walter Spracklin increased his target for Canadian National Railway Co. (CNR-T) to $172 from $171 with a “sector perform” rating, while TD’s Cherilyn Radbourne bumped her target to $190 from $185 with a “hold” recommendation. The average target on the Street is $181.08.

‘CN’s Q1 report was very interesting in that it contrasted heavily with the last quarter report - where focus was on CN’s seemingly aggressive volume growth guide - to this quarter where that guide (being reiterated) now seems quite achievable,” Mr. Spracklin said. “Our focus now turns to margins, and we see upside here if indeed volumes continue to inflect positive. We are more positive on the outlook following the quarter, with the key catalysts in our view being execution on MSD volume growth and margin expansion, but continue to see shares as fully valued.”

* Scotia’s Jonathan Goldman lowered his Cascades Inc. (CAS-T) target to $12 from $13.50 with a “sector perform” rating. The average is $11.67.

“We updated our estimates to reflect 1Q24 actuals (containerboard prices, input costs, and FX); we are in line with consensus. Liner (and medium) prices held steady in March and April following the US$40/ton increase in February; the first increase in two years,” he said. “Producers representing 75 per cent of the North American containerboard market put forward a US$70/ton increase last December. But, as we discussed in our recent initiating coverage report, we believe additional increases will likely be dependent on a more robust demand recovery as operating rates are below supportive thresholds. On a more positive note, OCC prices were flat m/m in April, following a year of increases, which should provide some immediate cost stability (however the posted price does not include transport to the mill). We also expect cost benefits from the Trenton closure/Bear Island ramp to flow through the year. We lowered valuation multiple to 5.75 times EV/EBITDA on our equal-weighted 2024/2025 – equivalent to 6 times on our 2024E, which is in-line with historicals. Consequently, our one-year target price goes to $12.”

* Scotia’s Orest Wowkodaw cut his Champion Iron Ltd. (CIA-T) target to $6.50 from $7 with a “sector perform” rating. The average is $8.12.

“CIA reported markedly weaker-than-anticipated Q4/F24 operating results at Bloom Lake,” he said. Overall, we view the update as negative for the shares.

“We rate CIA shares Sector Perform based on a relatively balanced risk/reward profile.”

* Jefferies’ Christopher LaFemina cut his First Quantum Minerals Ltd. (FM-T) target to $19.50 from $20, remaining above the $17.19 average, with a “buy” rating, while BMO’s Jackie Przybylowski moved her target to $17 from $17.50 with an “outperform” rating.

* Canaccord Genuity’s Dalton Baretto lowered his Silvercorp Metals Inc. (SVM-T) target to $7 from $7.50 with a “buy” rating. The average is $6.28.

* Citing an increased valuation multiple given improving volume trends, CIBC’s Hamir Patel raised his Winpak Ltd. (WPK-T) target to $49 from $45 with a “neutral” recommendation. The average is $47.50.

Following the more favourable volume and gross margin guidance for the remainder of the year, we now see EBITDA growth in 2024 (up 5 per cent) compared to our prior forecast for a 3-per-cent decline,” he said.

“To get more constructive on WPK we would like to see greater visibility on the sales ramp-up of the company’s increased capacity coming online over H2/24-2026. While we see higher returns among some of our other packaging names under coverage over the next 12 months, we note that WPK is trading at only 6.0 times 2025E estimated EV/EBITDA, a discount to its five-year average forward multiple of 7.9 times.”