James Telfser, partner and portfolio manager at Aventine Asset Management
Focus: Canadian equities

MARKET OUTLOOK

While the S&P 500 and the TSX remain near their nominal all-time highs, we believe that there’s ample evidence that the global economic slowdown is continuing. The European Central Bank looks as if they will restart stimulus as Germany heads into recession, and Japan appears poised to follow suit. In addition, the Reserve Bank of Australia is now cutting rates after 30 years of economic expansion due to demand weakness in China. It is unlikely that North America can remain decoupled from the global economy and in fact we are already starting to see the economic data roll over. For example, the Cass Freight Index has now been down for six months in a row, auto sales are slowing and intermodal rail has weakened. These figures are especially relevant for a consumption driven economy such as the U.S. and Canada. These are all leading indicators.

As a result, we continue to take a more defensive stance in our private client accounts and funds by focusing our efforts on positions that will thrive in this environment, positions that have higher probability near term catalysts and as always building up our list of companies that we would like to add at more attractive valuations. 

TOP PICKS

EMERA (EMA.TO)

Emera offers a compelling combination of growth and defense. The team here has executed exceptionally well over the years and has clearly demonstrated that they are good stewards of our investor’s capital. We would expect gains here to come from a combination of valuation expansion, dividend growth and organic growth. Interest rates globally remain depressed, which bodes well for the valuation of utilities and other interest-sensitive sectors. Emera is trading at 18 times expected earnings and has a dividend yield of 4.7 per cent. This comes with 95 per cent of their asset base being regulated or very predictable. Management recently reiterated their target for 4 to 5 per cent dividend growth and 6 to 7 per cent earnings growth.

OPEN TEXT (OTEX.TO)

Open Text is a solid long-term investment with mid-single digit organic growth, substantial free cash flow growth and catalyst potential through acquisitions ($6 billion spent on 30 acquisitions in the last 10 years). Open Text trades at a significant discount to peers in the software space (11 times EBITDA versus peers at 17 to 18 times). While this discount has been driven by “lumpy” quarterly results over the years, we have noticed a change management focus on consistency, return on capital and organic growth which will help close this gap. We like the fact that annual recurring revenue makes up 75 per cent of total revenue, including cloud-based services which in the recent quarter were up 14 per cent year-over-year. We also like that the business model of Open Text drives significant free cash flow, which helps drive the M&A cycle. If you think in years versus quarters with Open Text we believe you will be rewarded with strong shareholder returns that will likely outpace the major indexes. 

GDI INTEGRATED FACILITIES SERVICES (GDI.TO)

GDI is one of those great businesses that offer stability (recurring revenue), organic growth and significant catalyst potential. GDI provides services such as cleaning, food sanitation, hotel services, disaster recovery, technical and event support services and maintenance for offices, hospitals, institutional buildings, laboratories, shopping centers and airports. There are several elements to like here, including a recent inflection higher in organic growth, a very aligned management team with directors and officers owning 50 per cent of the shares outstanding and a free cash flow profile that provides flexibility. We also believe there will be further consolidation in the industry, which provides a significant opportunity for the shares to outperform. GDI has completed over 20 acquisitions since 2005. Taken together, we conservatively model a 15 per cent internal rate of return over the next few years given management’s targets and multiple expansion as this relatively underfollowed story attracts more attention.

PAST PICKS: APRIL 24, 2018

PEOPLE CORPORATION (PEO.V)

• Then: $7.25
• Now: $8.80
• Return: 21%
• Total return: 21%

EVERTZ TECHNOLOGIES (ET.TO)

• Then: $17.48
• Now: $19.06
• Return: 9%
• Total return: 15%

DESCARTES SYSTEMS GROUP (DSG.TO)

• Then: $38.07
• Now: $49.37
• Return: 30%
• Total return: 30%

Total return average: 22%