Mainstreet Equity Corp

Mainstreet Equity Corp (TSX: MEQ) is a residential real estate company in Canada. It is focused on the acquisition, redevelopment, repositioning, and management of mid-market rental apartment buildings in Canadian markets.

Investment Rationale:

• Stable Collection rate: Despite a challenging operating environment, the company reported rent collection rate of 98% in June and 97% in July, which stood at par with the historical numbers. The mid-market rental industry stood relatively stable, as compared to the overall industry. We believe the mid-market rental industry is likely to remain as an essential and safe asset class, driven by long-term market fundamentals, like rising populations and relatively low supply of new rental units.

Recent Collection Status (Source: Company Reports)

• Low interest rates are likely to help in reducing finance expense: The fall in the interest rate would lead to lower cost of capital and would support the company’s overall liquidity, which is a key positive. The company has a CAD 160 million in maturing debts with an interest rate of 3.5%, while the company expects the cost to reduce to ~1.6%, which would lead to a lower interest expense.

Q3FY20 Financial Highlights:

• Rental and ancillary revenue stood at CAD 37.47 million, as compared to CAD 34.693 million in Q3FY19. The company reported a higher rental income from British Columbia, Alberta and Saskatchewan segments.
• Net operating income stood 10% y-o-y higher to CAD 23.511 million, while operating margin improved to 63%, against 61% in Q3FY19. The business witnessed an increased financing cost, higher general and administrative expenses and an increase in the depreciation expense.
• The company reported Net profit and total comprehensive income of CAD 10.873 million, as compared to CAD 11.357 million in Q3FY19. Average vacancy rate, at the end of the quarter stood at 8%, against 6.4% in the previous corresponding period (pcp).

Q3FY20 Income Statement Highlights (Source: Company Reports)

Risks: Increase in the vacancy rate would lead to lower operating performance. Due to various economic reasons, lower consumer spending, higher unemployment rate, etc., the company might see a weak rent collection.

Valuation Methodology: Price to Earnings Based (Illustrative)

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months

Stock Recommendation: The stock corrected ~17% so far this year. The management believes that the lower costs for acquisitions and debt will drive several opportunities for organic growth, which would expand its portfolio. The group is planning to accelerate its counter-cyclical growth strategy and expect the real estate market to provide favourable buying conditions. Furthermore, record-low interest rates, which resulted in a lower cost of capital, are likely to support the company’s overall liquidity and flexibility of capital. We have valued the stock using Price to Earnings-based relative valuation method and have arrived at a target upside of double-digit (in percentage terms). For the said purposes, we have peers like Killam Apartment REIT, Boardwalk Real Estate Investment etc. Considering the aforesaid facts, current price movement, we recommend a ‘Buy' rating on the stock at the closing market price of CAD 65.0 on October 22, 2020.

MEQ Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

Morneau Shepell

Morneau Shepell (TSX: MSI) is a human resources company that provides consulting and administrative services in four segments: well-being, administrative outsourcing, consulting, and absence management. The well-being segment, which produces the majority of income, offers educational and counselling services aimed at supporting employee and family needs. The company generates most of its revenue in the United States and Canada.

Investment Rationale:

• Excellent Client Service: The company has a track record of impressive client servicing. Recently, the company reported the highest annual client satisfaction and employee engagement results in the company's history. Despite the current downturn, the Management hinted of a strong sales pipeline, which indicates higher client's confidence in the company's products and solutions.
• Improved Cash flows: While most of the companies are struggling with liquidity, the business reported a higher Normalized Free Cash Flow in Q2FY20, at CAD 30.8 million, as compared to CAD 27.6 million in Q2FY19, driven by improved cash flows from operations.
• Foraying into a new market: The company has expanded into the rapidly growing telemedicine market to provide the employees of Canadian clients and their families with easier, more convenient access to digital health care services. To access this market opportunity, the company is launching a unified telemedicine service through its LifeWorks' business to provide Canadians with quick access to medical practitioners such as doctors, nurse practitioners, and other clinical professionals across the well-being spectrum

Event Update:

• The company would disclose its third-quarter FY20 results on November 11, 2020.

Q2FY20 Financial Highlights: 

• Q2FY20 revenue stood at CAD 246.175 million, reflecting an increase of 15.8% on y-o-y basis. The business was benefitted from the positive impact from the acquisition of Mercer during 2019, combined with the improved performance from health and defined benefit pension plan administration business in the United States, partially offset by the divestiture of the company's benefits consulting business.
• Adjusted EBITDA stood at CAD 52.075 million, as compared to CAD 45.882 million in pcp. The company reported its adjusted EBITDA margin at 21.2%, slightly lower than 21.6% in Q2FY19.
• Profit for the period stood at CAD 8.258 million, as compared to CAD 6.329 million in Q2FY19.

Q2FY20 Financial Snapshot (Source: Company Reports)

Risks: The performance of the company relies on information systems and technology and client-relationships. Entry of new players might result in pricing pressure or loss of clients.

Valuation Methodology: EV to Sales Based (Illustrative)

Note: All the forecasted figures are taken from Thomson Reuters, NTM: Next Twelve Months.

Stock Recommendation: The stock of MSI corrected ~16% so far this year. The company reported improved operational metrics in the recent past, underpinned by strong customer traction. Moreover, the company has a strong order pipeline as well, which would ensure stable cash flows. Furthermore, the company is foraying in the field of Telemedicine, where opportunities are immense. We have valued the stock using EV to Sales based relative valuation method and have arrived at a lower double-digit upside (in percentage terms). For the said purposes, we have considered industry (Industrials) mean on NTM basis. Considering the aforesaid facts, current price movement, we recommend a ‘Buy' rating on the stock at the closing market price of CAD 28.34 on October 22, 2020.

MSI Daily Technical Chart (Source: Refinitiv, Thomson Reuters)

Disclaimer

The advice given by Kalkine Canada Advisory Services Inc. and provided on this website is general information only and it does not take into account your investment objectives, financial situation and the particular needs of any particular person. You should therefore consider whether the advice is appropriate to your investment objectives, financial situation and needs before acting upon it. You should seek advice from a financial adviser, stockbroker or other professional (including taxation and legal advice) as necessary before acting on any advice. Not all investments are appropriate for all people. The website www.kalkine.ca is published by Kalkine Canada Advisory Services Inc. The link to our Terms & Conditions has been provided please go through them. On the date of publishing this report (mentioned on the website), employees and/or associates of Kalkine do not hold positions in any of the stocks covered on the website. These stocks can change any time and readers of the reports should not consider these stocks as advice or recommendations later.