Desjardins Capital Markets published on Wednesday a report on its stock picks in the Diversified Industries sector, with a focus on companies that are likely to fare well in an economic downturn, including a number of tech-related names.
With inflation running rampant and central bankers doing what they can to clamp down on economies the signs are out there that if not a recession then at the very least we’re in for an economic slowdown.
Desjardins analyst Frederic Tremblay pointed to a recent Conference Board global survey of 750 CEOs and other C-Suite executives which found that over 75 per cent of those polled either expect a recession in their primary region of operation before the end of 2023 or believe one is already underway. Gloomy news and enough to prompt the investor to consider shoring up his or her portfolio.
“We believe that playing defence, with potentially a touch of proven offence, should be a successful game plan in a tough economic environment,” wrote Tremblay in his June 22 report. “To identify stocks with relevant defensive attributes, we looked at demand, profitability, leverage and valuation.”
The report gave three picks from Diversified Industries in personal mobility company Savaria Corp (Savaria Corp Stock Quote, Charts, News, Analysts, Financials TSX:SIS), janitorial services business GDI Integrated Facility Services (GDI Integrated Facility Services Stock Quote, Charts, News, Analysts, Financials TSX:GDI) and water treatment solutions provider H2O Innovation (H2O Innovation Stock Quote, Charts, News, Analysts, Financials TSX:HEO).
On Savaria, Tremblay said because its products (home elevators and wheelchair lifts, e.g.) play a key role in supporting the independence and health of people with mobility issues, an aging population plus seniors’ desire to age at home will keep demand high, while price increases and synergies should contribute positively to the company’s margins.
On GDI, Tremblay said its services will remain essential in keeping buildings clean and safe and noted that the company posted positive organic growth and steady margins during the Great Recession of 2007-09 and GDI remains well-positioned to grow profitably.
Of the three picks, H2O Innovation is the one real tech and innovation-linked name, and Tremblay says the essential nature of water along with a high proportion of recurring revenue in the company’s mix across several product and service categories should give the company resilience in an adverse economic environment, while HEO also has levers to maintain or even improve its recent margin levels.
“With a wide offering that includes specialty chemicals, consumables, equipment and O&M services for municipal and industrial clients in the water and wastewater treatment market, it should be no surprise that more than 80 per cent of HEO’s revenue is recurring (based on management’s estimate). Moreover, a recession could accelerate governments’ water-related infrastructure investments,” Tremblay wrote.
Other notable tech-related names mentioned in the report were solar industry materials supplier 5N Plus (5N Plus Stock Quote, Charts, News, Analysts, Financials TSX:VNP), online grocer company Goodfood Market (Goodfood Market Stock Quote, Charts, News, Analysts, Financials TSX:FOOD) and renewable natural gas platform Xebec Adsorption (Xebec Adsorption Stock Quote, Charts, News, Analysts, Financials TSX:XBC).
On 5N Plus, Tremblay said investors can expect to see strong demand for its products across its core and growth businesses such as renewable energy, space, health and pharma, while there’s a potential for upside from promising applications in sectors like medical imaging. At the same time, the analyst said ongoing global supply chain and inflationary headwinds along with the lagging effect of pricing will keep VNP’s margins under pressure in the coming quarters. Finally, on valuation Tremblay said VNP is compelling since it already appears to be trading at recession-like multiples based on trading history.
For Goodfood, Tremblay said although e-grocery services have yet to be tested in a recession and it’s possible customers at the lower end might stick with bricks and mortar rather than pay the extra service and delivery fees for online buying, the bread and butter for Goodfood is typically in the mid- to high-income categories anyway and its product mix leans toward private label, potentially reducing the brand’s sensitivity to economic shocks.
On Xebec, which makes biogas upgrading systems for operations like farms and landfills, Tremblay said while tailwinds for decarbonization remain, the company could see lost or delayed orders with customers potentially cutting back on capital spend due to economic uncertainty. Meanwhile, demand in Xebec’s support segment (parts and services) should stay solid.
Finally, Tremblay noted that both Goodfood and Xebec currently have negative EBITDA and so cash management, margin improvement and potential access to additional capital will be important themes for the companies.
“We remain positive on companies in our coverage universe that have a path to future profitability, such as FOOD and XBC. That said, we acknowledge that stock prices may be volatile if revenue growth slows meaningfully and/or if investors’ preference for immediate profitability grows. Patience may be required,” Tremblay wrote.
Desjardins’ ratings, target prices and expected returns at the time of publication for these companies are listed below:
Company: Savaria Corp
Rating: Buy
Target Price: $25.00
Expected total return: 93.3 per cent
Company: GDI
Rating: Buy
Target Price: $63.50
Expected total return: 49.1 per cent
Company: H2O Innovation
Rating: Buy
Target Price: $3.50
Expected total return: 96.6 per cent
Company: 5N Plus
Rating: Hold
Target Price: $2.50
Expected total return: 81.2 per cent
Company: Goodfood Market
Rating: Buy
Target Price: $4.00
Expected total return: 166.7 per cent
Company: Xebec Adsorption
Rating: Buy
Target Price: $3.00
Expected total return: 229.7 per cent