Inside the Market’s roundup of some of today’s key analyst actions
Seeing Manulife Financial Corp.’s (MFC-T) reduction to its long-term care exposure as “a meaningful point in the journey to a re-rate,” RBC Dominion Securities analyst Darko Mihelic upgraded its shares to “outperform” from “sector perform” previously.
On Monday, the company rose 3.2 per cent on news its has signed a deal with Global Atlantic to reinsure more than $13-billion of risk on its books. Global Atlantic and its partners will reinsure four separate blocks of business, including $6-billion of the company’s reserves for its long-term care business, representing 14 per cent of the insurer’s total reserves.
“We view the transaction positively as it reduces MFC’s exposure to LTC, an area of MFC’s business which we believe has held back its valuation, with modest positive impact to earnings and ROE [return on equity],” said Mr. Mihelic. “We believe it may signal the beginning of further decreases in LTC exposure, which could bring further improvements to its valuation/ROE.
“We believe that the announcement [Monday] could be the beginning of further meaningful reductions in MFC’s exposure to LTC.”
Mr. Mihelic said he models $130-million in foregone core earnings, which “is more than offset by 50 million share buybacks commencing in Q1/24, and our core EPS estimates increase by $0.01 in 2024 and $0.04 in 2025 (essentially as per MFC’s guidance). MFC expects to release $1.2 billion in capital and to fully return this capital to shareholders via buybacks, as MFC announced its intent to launch an NCIB to repurchase up to 50 million common shares (approximately 3 per cent of shares outstanding) commencing February 2024.”
“We believe a significant portion of MFC’s relatively higher risk premium (lower relative valuation) could be attributed to LTC and/or ALDA [alternative long-duration assets] exposure,” he added. “Of the large Canadian lifecos, MFC currently has the largest risk premium of 8.3 per cent (above the peer average of 5.3 per cent) and its risk premium has generally been higher than peers since 2017.”
“We do not believe it is reasonable to expect MFC to completely remove its exposure to LTC over the foreseeable future, but at the same time, we also believe that a meaningful reduction in LTC (say 50 per cent) would have a significant impact on its valuation particularly if the reduction is near neutral to earnings and/or ROE as this first transaction was. In our view, a 50-per-cent reduction in LTC exposure would almost eliminate MFC’s relative valuation discount because at 50 per cent, MFC’s naturally high growth rate/ROE in Asia would begin to dominate that valuation discussion.”
Seeing a 50-per-cent chance of another transaction “and possibly more over the course of the next year or so, assuming interest rates do not materially decline,” Mr. Mihelic raised his target for Manulife shares to $34 from $32. The average on the Street is $29.58.
“MFC expects to dispose $1.7 billion in ALDA backing the transacted blocks, and this too is a mild positive provided the sale values are reasonable,” he said. “We simply do not see significant negatives to this reinsurance deal and even if future deals are on slightly less favourable terms, we suspect the company will be rewarded on the perception (and reality) of a lower risk profile while returns rise over time.”
Elsewhere, others making target adjustments include:
* National Bank’s Gabriel Dechaine to $28 from $27 with a “sector perform” rating, calling it “addition by subtraction.”
“Given the insignificant EPS impact, the stock’s reaction to this transaction will hinge on a valuation re-rating,” he said. “And the valuation re-rating can easily be justified by MFC de-risking its business, and by disposing of Legacy blocks at book value. We (and we suspect, investors) assumed that LTC block sale would result in a loss. Given the more favourable outcome, with increased probability of future LTC disposals in the future, we believe higher valuation multiples for MFC are warranted.”
* Desjardins Securities’ Doug Young to $29 from $27 with a “hold” rating.
“That it was able to put together an agreement which includes reinsuring a portion (14 per cent) of LTCI reserves is encouraging,” he said.
* Cormark Securities’ Lemar Persaud to $31 from $29 with a “market perform” rating.
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Citing “strong” free cash flow growth and the impact of both lower interest rates and “softer” macroeconomic conditions, Scotia Capital analyst Michael Doumet sees Boyd Group Services Inc. (BYD-T) positioned for outperformance for 2024 and beyond.
“Valuation appears attractive with its shares trading at a discount to its five-year average on an EV/EBITDA (12.0 times vs. 13.0 times) and FCF yield basis (6.2 per cent vs. 4.9 per cent) as we believe the company’s ability to sustain above-average FCFPS growth is underappreciated,” he said.
That led Mr. Doumet to raise his recommendation for shares of the Winnipeg-based company to “sector outperform” from “sector perform” on Tuesday.
“BYD’s EBITDA recovered by more than 65 per cent from the 2021 bottom,” he said. “In 2Q23, LTM [last 12-month] EBITDA exceeded pre-pandemic levels; and, in 3Q23, LTM EBITDA per shop exceeded 2019 levels. Despite the recent recovery, we believe BYD is still under-earning by 15 per cent (primarily due to lower margins/technician capacity). As BYD continues to recoup labour margins, expand its technician base, and roll out its calibration operation, we believe the company will be able to grow EBITDA at a CAGR [compound annual growth rate] of 20 per cent (or more) through 2025/26 as the story shifts from recovery mode to structural growth mode.”
Believing its shares are “not expensive enough,” Mr. Doumet raised his target to $315 from $275, maintaining his “high-growth outlook.” The average is currently $286.86.
“In the last several quarters, BYD’s profit growth exceeded Street expectations as it increasingly proves out it can complete its margin recovery as well as generate structural growth from its calibration operation,” he said. “In combination with lower 10-year interest rates, which have positive implications for EPS/FCF growth and its valuation multiple, we see continued and potentially meaningful upside to BYD. BYD trades at 9.9 times EV/EBITDA on our 2024 (or 12.0 times, pre-IFRS 16). We forecast FCFPS [free cash flow per share] growth more than 25 per cent in 2024 and 2025 — and believe that BYD’s FCF yield is supportive of a higher EV/EBITDA valuation multiple.”
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ATB Capital Markets analyst Nate Heywood sees a buying opportunity in Secure Energy Services Inc. (SES-T) following the removal of a significant “overhang.”
Shares of the Calgary-based company jumped 10.2 per cent on Monday following the premarket announcement of the $1.08-billion sale of a portfolio of 30 energy waste treatment and disposal facilities in Western Canada to Waste Connections Inc. (WCN-T). Expected to close in the first quarter of 2024, the deal involves all of the required divestitures mandated by the federal Competition Tribunal following Secure’s 2021 merger with Tervita Corp.
“This update marks a turning point for SES, as we expect the stock to see some relief following the long overhang following the TEV acquisition related to the Competition Tribunal decision and ensuing appeals process,” said Mr. Heywood. “With roughly 2/3 of the acquired TEV business remaining with SES, the combined entity continues to offer a resilient cash flow base and attractive returns to shareholders. In the near term, Secure is proceeding with modest growth initiatives, largely directed at contracted/production-based cash flows. This follows a recent emphasis on free cash flow generation, returns to shareholders and the repayment of current indebtedness.
“SES currently offers favourable shareholder return considerations, with a current dividend yield of 4.6 per cent, and has shown a willingness to repurchase shares after maxing its most recent NCIB (renewed for 23 million shares). Going forward, we expect SES to maintain a healthy balance sheet (targeting 2.0-2.5 times debt/EBITDA) while evaluating growth opportunities across the basin given its new-found financial position. SES currently trades at a discount to waste management and energy infrastructure peers with a 2024e EV/EBITDA of 4.5 times (peers: approximately 8 per cent).”
Mr. Heywood said the proceeds from the transaction immediately improves Secure’s balance sheet, which included a total debt balance of $950-million as of the third quarter, and be used toward the repayment of high-yield debt and credit facility as well as debt reduction, share repurchases and growth initiatives.
“Notably, SES announced the renewal of its NCIB after market close,” he said. “We roughly estimate SES could have nearly $70-million of funds available between the disposition and FCF (before growth capex) generation for management’s discretion beyond its high-yield and revolver debt repayment of $600-million.”
After updates to his financial forecast to reflect the deal, Mr. Heywood bumped his target for Secure shares to $10.50 from $9, reiterating an “outperform” recommendation, seeing “the current entry point as attractive.” The average is $9.91.
“With this asset disposition expected to close in Q1/24, we have currently modeled a half quarter contribution from the assets included in the sale in 2024,” he concluded. “With this expectation, we currently see EBITDA falling in line with management’s guidance range of $440-million-$465-million (ATB estimate: $455-million). Looking to 2025e, our EBITDA estimate declines modestly to account for the absence of half a quarter contribution from the assets, partially offset by ongoing growth initiatives and lower corporate costs. With the revision to sustaining capital expectations from $85-million to $65-million for 2024, we have now modeled a similar expectation for 2025e. Additionally, we expect management to move any remaining OFS business lines into the EWM segment beginning in Q1/24. EWM [Environmental Waste Management] is expected to account for 70 per cent of EBITDA before corporate costs in 2024.”
Elsewhere, other analysts making target adjustments include:
* National Bank’s Patrick Kenny to $10 from $8.50 with an “outperform” rating.
“Combined with a $12.50-per-share SOTP [sum-of-the-parts] valuation, we continue recommending accumulating a position less than $10 ahead of management nailing down its allocation strategy for the net proceeds upon closing in Q1/24,” said Mr. Kenny.
* CIBC’s Jamie Kubik to $9.50 from $8.50 with a “neutral” rating.
* Cormark Securities’ Brent Watson to $12 from $10.50 with a “buy” rating.
* Stifel’s Cole Pereira to $11.25 from $10 with a “buy” rating.
Meanwhile, CIBC’s Kevin Chiang increased his target for Waste Connections to $167 from $156 with an “outperformer” rating, while Scotia’s Michael Doumet bumped his target to US$146.50 from US$141 with a “sector perform” rating. The average is $164.79.
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Expecting a return to organic growth in 2024, National Bank Financial analyst Rupert Merer said Innergex Renewable Energy Inc. (INE-T) stock “has been weak but should trade higher,” calling its discount to peers “unprecedented.”
“INE has underperformed our coverage universe for a couple of years now and is trading at a historic discount to the group,” he said. “It has shown negative EBITDA per share growth since 2019, following an equity issuance to Hydro Quebec (2020), the impact of storm Uri in Texas (2021) and below average production in B.C. for the last couple of years (at 80 per cent of LTA [long-time average]). However, with organic growth investments (and better weather), we believe INE should add almost $200-million in EBITDA by 2025 at an aggregate 8 times build multiple. As street forecasts come out or are revised for 2025E (over the next few months), we think they could be a positive catalyst for the stock.”
In a report released Tuesday, Mr. Merer suggested the Longueuil, Que.-based company could benefit from a dividend reduction as it continues “shoring up capital with sell-downs and refinancing.”
“With some poor weather, INE’s dividend payout has been more than 100 per cent of free cash flow this year,” he said. “However, we forecast a payout of closer to 80 per cent the next couple of years, with growth and normalized weather. However, the market is not giving the company credit for its dividend, currently at an more than 8-per-cent yield. With that, we believe it could benefit in the long-term by cutting the dividend to invest more into growth or share-repurchases. At this level, stock repurchases may be INE’s best investment opportunity.
“In mid-November, INE closed the non-recourse financing of three unlevered hydro assets for a total of $185.5-million from Canada Life. The structure included a $5.5-million reserve facility and two term loans ($59.4-million and $120.5-million) with maturities matching the end of the PPAs linked to the assets (2038 and 2034). Next year, the company could do another $80-million of refinancings, which, combined with its $188-million sell-down of the French portfolio, could net the company more than $400-million in aggregate to help fund its future growth and reduce liquidity concerns.”
Believing its fourth-quarter results are thus far “still not what they could be, but could beat the street,” Mr. Merer raised his target to $15.75 from $15.50, reaffirming an “outperform” recommendation. The average is currently $14.33.
“On a relative basis, INE shares have never traded at a lower valuation than they do today,” he said. “Based on our estimates, INE’s 13.5-per-cent implied cost of equity is nearly 3 per cent above the peer group average of 10.6 per cent. This discount rate and the spread to peers are the highest we have seen since we started tracking the data (nearly 7 years) and well-above the average spread at 0.9 per cent. On an EV/EBITDA basis, INE trades nearly 3 turns below its historical average 13.5 times multiple, compared to peers who are trading roughly 1.5 times turns below their historic averages. We believe the recent sell-off relative to the group is unprecedented and presents a compelling opportunity for patient investors.”
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Desjardins Securities analyst Brent Stadler is “optimistic recent headwinds improve” for Canadian power and utility companies heading into 2024.
“2023 was a tough year, but the silver lining is that exceptionally strong demand for renewables has driven elevated RFP/PPA prices, which in most cases are more than offsetting industry headwinds (primarily cost inflation and the rising cost of debt); as a result, project returns are up and generally commensurate with risk in the current environment,” he said in a research report released Tuesday. “In 2023, renewables targets continued to increase, with better clarity on recurring RFPs and continued calls to accelerate deployment.
“A notable shift recently has been that growth in Canada is back, which provides a number of the IPPs with home court advantage. The need to decarbonize, satisfy growing power demand (forecasts continue to increase) and achieve energy security and independence are the overriding tailwinds. Furthermore, we are optimistic and are seeing encouraging signs of 2023 headwinds dissipating, which should be incrementally positive for the sector. Given attractive returns and PPAs, and optimism that headwinds are improving, we prefer names that are signing PPAs and maintaining a growth focus in the current environment — which we believe is offering some of the most lucrative projects we have seen.”
While acknowledging it is “a fluid situation,” Mr. Stadler said he’s encouraged by “current trends that are creating a good setup for 2024.
“Rate cuts are generally expected to begin in mid-2024, there are signs of cost deflation, and we expect that continued significant investment in clean energy manufacturing could aid supply chains and benefit project costs,” he said. “While funding growth is a frequently cited concern, many of the IPPs have put plans in place to reduce reliance on equity capital markets, with optionality to utilize capital recycling as a funding tool; however, over the near term, capital allocation will likely remain topical among investors.”
Mr. Stadler upgraded his recommendation for Boralex Inc. (BLX-T) to “top pick from “buy” previously, expecting it “take advantage of current attractively priced PPAs and to continue sourcing new projects in an impressive fashion in all core growth regions.”
“BLX has a best-in-class management team, with exceptional breadth of knowledge and experience with renewables and strong relationships in its core growth markets,” he said. “BLX’s strong track record of success and ability to manage industry headwinds/tailwinds should give investors confidence in investing in the name.”
Calling it “a top onshore renewables developer—well-positioned for growth in all core markets,” he added: “BLX had an impressive 2023 ... increasing expected project to returns to be more reflective of the current environment (10‒15 per cent vs 8‒10 per cent previously) and continue to organically source growth in all of its core markets (Canada, the US and the EU). With relatively higher retained free cash flow, growth back in Canada and ambitious targets in all core regions, BLX has a strong growth outlook.”
“BLX’s goals include an EBITDA target of $790–850-million (five-year CAGR (2020–25) of 12–14 per cent), an AFFO target of $240–260-million (five-year CAGR (2020–25) of 14–16 per cent) and installed capacity totalling 4,400MW (200-per-cent increase from its 2020 installed capacity) by 2025. These targets assume M&A, and while we would still prefer BLX to transact on strategic, strongly accretive M&A, we acknowledge the somewhat challenged equity capital markets. Regardless, BLX is building strong return projects that should drive solid FCF/share growth, with still more than two years remaining to hit its targets.”
His target for Boralex shares rose to $43 from $40 to reflect his view that “the stock is lower-risk vs peers given management’s track record, discipline and ability to manage industry headwinds, resulting in strong expected project returns.” The average target on the Street is $39.
Mr. Stadler selected Capital Power Corp. (CPX-T) as his “preferred name” for 2024 with a “buy” rating and $51 target, down from $53. The average is $45.11.
“We view CPX as the value and dividend growth player within our space,” he said. “It is currently trading at 6.2 times EV/EBITDA compared with renewables peers at 10.9 times; while a discount is warranted, we believe the current spread is too wide. Additionally, given its solid payout ratio (40 per cent) and below-peer debt levels (2.3 times net debt/EBITDA), its balance sheet is in very good shape, which supports its 6-per-cent annual dividend growth guidance out to 2025.”
“In our view, CPX has the ability to drive real change in its emissions profile, which should earn a re-rate and create value for shareholders. CPX plans to remove the remaining coal in its portfolio by mid-2024 and to repower these facilities to become some of the most efficient gas assets in North America (generating carbon credits rather than paying a carbon tax); it plans to further clean up these assets through a carbon capture solution (by 2027), removing 7.5m tonnes of emissions in total from its portfolio. We believe green thermal assets should be valued closer to renewables peers, which could provide significant upside from current levels.”
The analyst also made these target adjustments:
- Northland Power Inc. (NPI-T, “buy”) to $29 from $30. Average: $31.67.
- EverGen Infrastructure Corp. (EVGN-T, “buy”) to $4 from $4.25. Average: $5.
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In RBC’s 2024 Global Consumer Outlook report released Tuesday, analyst Christopher Caril named Restaurant Brands International Inc. (QSR-N, QSR-T) as his top pick for North American restaurant and fitness stocks, while Irene Nattel selected Alimentation Couche-Tard Inc. (ATD-T) as her best bet for Canadian consumer stocks.
“We share many of the same views on factors that we expect to broadly influence consumer markets in tandem across the globe and will likely be the focus of investors as a result: 1) Deteriorating Financial Health of the Consumer – Our analysts largely share the belief that the health of global consumers will worsen as the effects of higher interest rates and persistent inflation continue to take their toll. Household savings rates have declined while their credit levels have increased post-Covid, which we view as a warning sign. 2) Value Seeking Behavior – Across the globe, our teams are seeing that consumers are in search for value, which can come in several forms: A spend rotation towards experiences vs. goods, increased share of private label, lower willingness/ability to participate in luxury consumption, prioritizing essentials over discretionary, increased preference of discount/value channels, and even overall decrease in spend. 3) Moderating Inflation – While there are nuances across countries, RBC’s consumer teams generally believe that inflation will continue to ease in 2024 but remain elevated vs. historical levels. As a result, some of us (especially those with discretionary-focused coverage) have expressed concerns that the effects of higher costs of living will weigh on consumer spending. 4) Rising Unemployment/Slowing Wage Growth – Unemployment remained low in 2023 across the regions leading to a strong labor market and generally resilient consumer, accompanied by strong wage growth. That said, we believe that unemployment will rise in 2024 in the US + CAD, and in Europe the labor markets have also shown signs of softening in the recent months. The unemployment outlook adds to our caution on the consumer,” the firm said in a report.
While the forward earnings outlook for North American restaurants has “remained largely stable,” Mr. Caril warned of recent volatility as the group appears poised to underperform the broader market.
“Traffic trends will be the primary focus for 2024, as more visible top-line tailwinds (e.g. pricing) moderate and as consumer financial health remains debated,” he said. “Ultimately, while we see our coverage as largely advantaged versus the broader industry given scale advantages, valuation has become more demanding in recent weeks. Meanwhile, we remain constructive on Fitness, as valuation is not stretched, in our view, and fundamentals appear to be healthy.”
Mr. Caril has an “outperform” recommendation and US$87 target for Restaurant Brands shares. The average is US$79.63.
Ms. Nattel and colleague Sabahat Khan said their positioning on consumer stocks is unchanged heading into 2024.
“Against the backdrop of muted and value-oriented consumer spending augmented by uncertainty around the effects of mortgage renewals on purchasing power, our primary focus remains on the less cyclical elements of retail,” they said. “Nonetheless, recognizing the valuation opportunity in certain small-cap and discretionary names, and mindful of anticipated flow of funds toward more cyclical stories as visibility on the macro backdrop improves, we also recommend exposure to a basket of small-cap/growthier stocks as the year evolves. Against this backdrop, we narrow our best ideas for 2024 to: i) ATD, L and DOL as our best quality growth ideas on particularly solid footing to cater to a value-oriented consumer, and with upside bias to earnings revision, ii) MFI as our best self-help idea poised to harvest benefits of multi-year capital intensity, driving pivot to significant free cash flow, and iii) ATZ, TOY and JWEL as our best small-cap/discretionary ideas, each with specific catalysts and opportunities.”
Ms. Nattel has an “outperform” rating and $94 target for Couche-Tard shares. The average is $86.25.
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In other analyst actions:
* JP Morgan’s Michael Gambardella upgraded Stelco Holdings Inc. (STLC-T) to “overweight” from “neutral” with a $52 target, rising from $45 and above the $47.93 average.
* Stifel’s Tom Stephan initiated coverage of Bausch + Lomb Corp. (BLCO-N, BLCO-T) with a “hold” rating and US$16 target, while Citi’s Joanne Wuensch cut her target to US$21 from US$23 with a “buy” rating. The average is US$21.82.
* Echelon Partners’ Stefan Quenneville, currently the lone analyst covering Quebec-based Diagnos Inc. (ADK-X), raised his target to $1.50 from $1 with a “speculative buy” rating.
“Top Pick DIAGNOS announced [Monday] that it has entered into a Canadian distribution agreement for its FLAIR AI platform with EssilorLuxottica (EL-PAR, NR), the world’s largest eyecare company (expected 2023 revenues of US$27.5-billion and a market cap of US$87-billion),” he said. “This deal is transformational for ADK as it provides access to 18K EL owned retail locations globally and 6,400 optometrists in 3,700 optical retailer locations in Canada that are supplied by EL, as well as undeniable validation of the value of its AI technology platform. While questions remain as to how quickly ADK will be able to roll-out its technology across the EL store/distribution base given its slow progress with current key client, New Look, we think this represents a potential base case of $50-million-plus revenue opportunity. Longer-term potential expansion to other geographies and additional types of retinal test (e.g macular degeneration, hypertension, OCT etc.) could drive multiples of this amount. Given this optionality we are increasing our target price to $1.50/shr (from $1.00) and re-iterating our Speculative Buy rating with meaningful potential upside should DIAGNOS successfully execute on the roll-out in the coming quarters and years. Furthermore, the validation of its AI platform by an industry leader strengthens its position to win the Quebec government RFP that is expected to be awarded in early February 2024.”
* In response to the release of Dundee Precious Metals Inc.’s (DPM-T) initial inferred resource for its Coka Rakita project in Serbia, Stifel’s Ingrid Rico raised her target to $13 from $12.25 with a “buy” rating. The average is $13.08.
“Coka Rakita’s initial resource estimate of 1.8Moz at 5.67g/t (we were looking for ~1.5Moz at 5 g/t) serves as a starting base for a project that has quickly evolved to become a valid organic pipeline project with high-grades and the prospect of strong economics,” she said. “Importantly, this maiden resource is also outlining a higher-grade core containing 0.91Moz at 10.12g/t. Despite being an inferred resource only, it is important to put into context the exploration success with 11 months of drilling since initial discovery, to a high-grade maiden resource in this short period of time.”
* Adjusting his projections to remove all production from Cobre Panama for 2024, Raymond James’ Farooq Hamed cut his First Quantum Minerals Ltd. (FM-T) target to $13 from $20 with a “market perform” rating. The average is $19.60.
“Despite the significant sell off in FM we believe the short term EV/EBITDA valuation still does not look compelling relative to copper peers and would advise investors to remain on the sidelines,” he said.
* Based on Mr. Hamed’s reductions, colleague Brian MacArthur lowered his Franco-Nevada Corp. (FNV-N, FNV-T) target to US$141 from US$148 with an “outperform” rating. The average is US$147.73.
* JP Morgan’s Richard Sunderland cut his Fortis Inc. (FTS-T) target to $53 from $54 with an “underweight” rating. The average is $57.19.
* Following a pair of Permian acquisitions from private sellers for $112-million, CIBC’s Jamie Kubik moved his target for Freehold Royalties Ltd. (FRU-T) to $16.75 from $16.50 with a “neutral” rating. Other changes include: Cormark Securities’ Brent Watson to $18 from $20 with a “buy” rating and Desjardins Securities’ Chris MacCulloch to $19.25 from $18.75 with a “buy” rating. The average is $18.55.
‘”Although the deal metrics were a touch on the richer side, we view the transactions positively to the extent that they were inventory- and counterparty- accretive and financed without issuing equity,” he said. “The acquisitions are scheduled to close next month, prior to the release of 4Q23 financial results and 2024 guidance on February 28, 2024.”
* Canaccord Genuity’s Katie Lachapelle bumped her Lithium Royalty Corp. (LIRC-T) target to $20.50 from $20 with a “buy” rating. The average is $17.96.
* TD Securities’ Linda Ezergailis raised her Pembina Pipeline Corp. (PPL-T) target to $51 from $50 with a “buy” rating. The average is $51.07.