National Bank Financial analysts Richard Tse and John Shao just released a report on Canada’s tech sector stocks, saying that while longer term prospects are still positive, third quarter earnings season is likely to be a rough one.
Technology has slowed down this year from the frenzied pace set in 2020 when a pandemic-related run saw stocks take on huge double- and sometimes triple-digit gains. But the sector has still been a bright spot in 2021. The TSX Information Tech Capped Index, for example, is up about 24 per cent year-to-date, while south of the border the tech-heavy NASDAQ is up 19 per cent.
Yet Tse and Shao said quarterly earnings for the third quarter aren’t likely to lift the sector to higher ground.
“While the past few weeks have given the Technology sector some relief, our view going into this Q3 calendar quarter is one of more caution,” Tse and Shao wrote in an October 24 report to clients. “While rallies provide a clean slate for sentiment, we believe the risks specific to our sector that surfaced prior to the recent relief recovery have not abated.”
The analysts point to a number of issues, including the ongoing ebb and flow on interest rates, a rising inflation risk, continued supply chain challenges worldwide and an anti-trust regulatory environment which is zeroing in on the global tech giants.
“More importantly though, we believe the market already has high expectations for earnings going into the quarter, and that such thinking is likely priced into the group, to some extent,” they said.
Tse and Shao maintained that valuations across the tech sector are heightened and, by the numbers, the risk-to-reward isn’t very compelling.
“Where we could be wrong is in regard to the chase for performance going into year-end. Given the strength of the sector, we know that success can fuel continued upside. In addition, while we believe the market is already going into the quarter with high expectations, upside surprises to those expectations would make our cautious view unwarranted,” Tse and Shao wrote.
At the same time, the analyst said sector tailwinds including the ongoing digital transformation across all sectors of the economy make for brighter skies longer term and, for those of us keen to invest even in these turbulent times, they point to a number of names in their coverage universe that may be currently flying under the radar, including CGI, Kinaxis, Telus International and Thinkific in that category.
“We continue to believe the pace of innovation (and adoption) for technology points to a substantial value runway for the sector. On that note, our analysis of valuations against implied long-term growth still suggests upside for many of our names,” they wrote.
On CGI (CGI Stock Quote, Charts, News, Analysts, Financials TSX:GIB.A), National Bank has maintained its “Outperform” rating and price target of $135.00, representing a to target projected return of 18 per cent, saying the company should post solid in-line numbers for its third quarter. Down the road, the analysts said the global IT services provider should benefit from acceleration in digital transformation caused by COVID-19.
“We’re expecting a solid in-line quarter for CGI relative to consensus expectations. If you’ve been following our research, you know our view is that IT Services stand to benefit from an accelerating pace of digital transformation projects driven by COVID. We see an acceleration in organic growth in H2 with potential option value from acquisitions for CGI,” the report said.
Supply chain management company Kinaxis (Kinaxis Stock Quote, Charts, News, Analysts, Financials TSX:KXS) had a huge 2020 but has been more muted this year, returning six per cent so far, but NBF is reiterating its “Outperform” rating and one-year target of $225.00, which at press time represented a one-year return of 18 per cent.
The analysts say they’re buyers of Kinaxis due to the structural market tailwind for supply chain solutions and the company’s track record of being prudent allocators of capital to meet market demands.
“We believe KXS’s valuation does not fully value a ‘normalized’ financial run rate looking ahead, particularly given that the total addressable market has expanded meaningfully from 3,000 to 7,000 customers,” the analysts wrote.
Next, on Telus International (Telus International Stock Quote, Charts, News, Analysts, Financials TSX:TIXT), the digital customer experience and IT solutions wing of Canadian telco Telus, NBF is calling for in-line third quarter financials showing strong growth from both organic and inorganic facets of the business. And with content moderation playing a more prominent role for tech companies worldwide, Telus International should see brisk business for its AI solutions and moderators.
“We believe TELUS International is a Company that’s been able to leverage its roots in Customer Experience. Time has allowed the Company to hone and fortify its offering which has shown already in its execution with expectations of outsized growth versus the sector,” the analysts said.
NBF reiterated its “Outperform” rating and US$50.00 target for TIXT, which at press time represented a 12-month return of 27 per cent.
Finally, on online course creation platform Thinkific Labs (Thinkific Labs Stock Quote, Charts, News, Analysts, Financials TSX:THNC), NBF is expecting solid, in-line quarterly results, saying investors should be watching the company’s execution in its Payments segment, which the analysts see as the next service to enable monetizing a greater portion of the gross merchandise volume on its platform.
“We see a name that continues to be ‘under the radar’ for investors that’s partly tamped given challenging year over year comparables care of COVID. In our view, as the Company laps those outsized comps, we believe the normalized growth trajectory will show the potentially meaningful runway of value,” the analysts said.
NBF reiterated its “Outperform” rating and $20.00 target for THNC, which at the time of publication represented a projected one-year return of 55 per cent.
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