Top Canadian picks 2011

Energy

Tourmaline Oil Corp.
(TSX: TOU)
Market cap: $3.6 billion
P/E: 207.1
Calgary’s Tourmaline Oil Corp., a crude oil and natural gas exploration company, opened its doors in 2008, but only listed on the TSX in November 2010. Radlo likes the company because its CEO, Michael Rose, has a proven track record. He started and sold two businesses—Berkley Petroleum and Duvernay Oil Corp.—for billions. “What better witness of value than building a company and selling it at a much higher price?” asks Radlo. The company has already surpassed its expected oil production levels—it’s producing 30,000 barrels of oil equivalent a day, beating its own Q2 estimate of 27,500 boe/d. Tourmaline is currently trading at 10 times cash flow, and with deep reserves in key natural gas areas in Alberta and B.C., Radlo thinks its fortunes will only improve.

Cenovus Energy Inc.
(TSX: CVE)
Market cap: $29.2 billion
P/E: 36.6
Calgary-based Cenovus Energy formed in 2009 after natural gas giant EnCana spun off its oil operations. Until last year, though, management received much of its direction from its former leader. Radlo says the company is now free to make its own capital-spending decisions. That allows it to expand operations; it’s already planning to drill about 500 new wells over the next few years. Radlo also expects that through improved technology and well expansions, Cenovus will increase oil recovery by 25%. It’s trading at 10 times cash flow, which is more expensive than some of its competitors. But, says Radlo, “You’re buying this one for the recovery factor.” It also pays a 2.2% dividend.

Nexen Inc.
(TSX: NXY)
Market cap: $12.7 billion
P/E: 19.1
Calgary-based Nexen is a global energy company with exploration, production and energy marketing operations. The company has had trouble lately; Britain raised taxes on oil and gas companies, which has affected its North Sea operations, and political upheaval in Yemen has hurt its Middle East business. That’s caused people to think twice about owning the stock. “Sentiment is quite low,” says Zohny. Nonetheless, he thinks it holds the best value out of any large-cap energy stock. It’s trading at a cheap five times cash flow and 1.4 times book value, but it still has healthy profits, earnings $220 million in Q4 2010. A return to deepwater drilling in the Gulf of Mexico will give the company a boost going forward, while emerging market demand for crude oil should keep Nexen growing.

Sherritt International Corp.
(TSX: S)
Market cap: $2.4 billion
P/E: 9.9
Toronto-based Sherritt International’s main business is in nickel, cobalt, and oil and gas production. It operates in Cuba, Canada, Indonesia, Madagascar and Pakistan. Working in some of these volatile countries has weighed on the company’s investment potential, but with nickel prices steadily rising since early 2009, Zohny thinks Sherritt has plenty of long-term earnings potential. Analysts also like the fact the company is diversifying away from its main partner, Cuba. A Madagascar mine should go online soon, and in early December Sherritt invested in Rio Tinto’s Indonesian nickel project. Still, the geopolitical risks have made this a cheap buy. It’s trading at nine times earnings and 4.5 times cash flow. “If you look past those uncertainties, you’re getting a good bargain for strong future earnings,” says Zohny.

Keyera Corp.
(TSX: KEY)
Market cap: $2.8 billion
P/E: 21.4
Calgary’s Keyera is a midstream natural gas company. It stores, processes, transports and markets the commodity. Until Jan. 1, the company was an income trust. Fortunately, it’s kept its high dividend, paying investors a 5% yield. Radlo likes the company because of its acquisitive nature—it bought into three new gas plants last year, which added 625 million cubic feet per day of gross processing capacity. “They take partner after partner out,” says Radlo. With more acquisitions planned for 2011 and beyond, the company will continue to grow. It’s trading at about 21 times earnings and 12 times cash flow. “This is a company that’s continued to build value,” says Radlo.

Celtic Exploration Ltd.
(TSX: CLT)
Market cap: $1.9 billion
P/E: 234
As its name suggests, Calgary’s Celtic Exploration is a junior energy producer, but it’s got big plans. The company, which is 78% weighted in natural gas and the rest in oil, is increasing its capital expenditure budget from $180 million to $260 million so it can expand drilling and finish building wells. With new production coming online, the company expects to increase output from about 18,500 boe/d to about 23,300 boe/d by the end of the year. Webb likes Celtic because of its growth potential. “They’re sitting on some outstanding reserves,” he says. While he hasn’t bought it as a takeover play, he wouldn’t be surprised if a larger company made an offer, boosting the stock price. “They have tremendous potential,” he says. “We think the stock is still not fully priced.”

Canadian Natural Resources Ltd.
(TSX: CNQ)
Market cap: $15.7 billion
P/E: 34.3
“I’ve watched this company build value for more than 20 years,” says Morphet about Calgary oil and gas exploration and production company Canadian Natural Resources. The Empire Life manager says it’s one of the best-managed energy companies in the world and has a history of low-cost production and above-average growth. Now’s a good time to buy, she says, because it’s had some problems. A fire at its Horizon oilsands project in January has affected production, scaring some investors off. But it’s still a “premier” energy company that’s generated an average 17% ROE over the past 22 years.  The company’s stock price has taken a hit lately—it’s down about 2% year-to-date—but that should improve as production picks up.

Slow and Steady

Metro
(TSX: MRU.A)
Market cap: $4.8 billion
P/E: 12.7
There’s one good reason to own Metro: people need to eat. The Montreal-based grocery store chain is one of the more stable buys an investor can make, explains Anderson. “There’s no substitute for food,” he says. Some people are weary of the sector as a whole—increased competition from companies like Target could put pressure on revenues—but Anderson isn’t worried. It’s already in prime residential areas, a luxury new competition won’t have, and it’s considering expanding its pharmacy network. Its ROE is a solid 16.8%, and it’s trading at 1.9 times book value. While this isn’t a growth play, revenues could increase substantially if inflation pushes food prices higher. “These companies will raise prices because they can,” says Anderson.

Shoppers Drug Mart Corp.
(TSX: SC)
Market cap: $8.8 billion
P/E: 15
Shoppers Drug Mart is a unit economics story, says Anderson. When it wants to grow, it’ll just open more stores—that’s why it reinvests 75% of its earnings. The company says it’s allocating $340 million toward capital expenditures this year, which includes opening about 50 new stores and expanding about 30 others. It also took a hit recently; changes to Ontario’s drug benefit plan hurt revenues, while the departure of CEO Jurgen Schreiber in January has made some investors queasy. But with a 15% ROE, a 2.5% dividend and steady growth potential, Anderson’s not about to overlook the business. Patricia Baker, an analyst at Scotia Capital, is also bullish on Shoppers’ future. “Over the longer term, inevitable industry consolidation will provide an unprecedented opportunity,” she wrote in a report.

Saputo
(TSX: SAP)
Market cap: $9 billion
P/E: 20.3
Like Metro, Saputo’s business is food, so its goods will always be in demand. The St-Léonard, Que.–based company is the largest milk processor in North America, and it owns a number of recognizable businesses, including Hostess and Dairyland. Through acquisitions, including its recent purchase of Wisconsin-based Fairmount Cheese Holdings, one of the largest specialty cheese makers in the U.S., it’s become a global player in the dairy industry. With a debt-to-equity ratio of 0.3, Webb wouldn’t be surprised if it bought another business this year or next. While Saputo’s not cheap—it’s trading at 20 times earnings—Webb points out that its ROE has consistently averaged between 15% and 20%, and its 1.5% dividend has been growing steadily for years.

Going for yield

Royal Bank of Canada
(TSX: RY)
Market cap: $86.6 billion
P/E: 16
Canadian banks have outperformed the market more then 70% of the time over the past 50 years, so it’s hard to go wrong with any of the Big Five. But if you have to pick one, Morphet says to choose Royal Bank. Soft earnings in its Canadian banking and capital markets divisions have hurt the company over the past year, but after seeing earnings climb 23% year over year in Q1, to a record $1.84 billion, things are looking up. Morphet expects the company to unload its poorly performing U.S. retail operations, and when it does, earnings should improve even more. Its ROE is higher than its peers—currently at about 18%—and it’s trading at 2.4 price-to-book and has a 3.8% yield.

Cineplex Inc.
(TSX: CGX)
Market cap: $1.3
P/E: 22.7
Just because more people are streaming movies online doesn’t mean they’re staying away from theatres. North American admissions totalled US$10.5 billion in 2010, a touch lower than 2009’s record numbers. That’s good news for Cineplex, Canada’s top movie-theatre chain. The company commands a 66% market share with more than 1,300 screens between B.C. and Quebec. It’s a steady, reliable investment, says Morphet, and until she sees online streaming seriously threaten the movie experience, she’ll continue owning the stock. Expect to see a more diverse use of its theatres. It may host live events, and it will likely show more sports on its screens. Higher 3-D ticket prices should also boost revenues. The company isn’t cheap, trading at 22 times earnings, but for a few extra multiples, investors get an attractive 5.4% yield.

BCE Inc.
(TSX: BCE)
Market cap: $26.6 billion
P/E: 12.4
Dividend-seeking investors should look closely at BCE. The Verdun, Que.–based communications conglomerate—it owns Bell Canada, CTV and 15% of The Globe and Mail—pays a whopping 5.5% yield. BCE has had problems. It bet on the wrong wireless technology, so it couldn’t carry the iPhone, while competition from other telecoms was fierce. But it has since upgraded its wireless capabilities, and after buying 100% of CTV in September, the company is poised to meet the increasing demands of mobile users. Anderson says its ROE of 17%—up from 12.5% a few years ago—proves they’re still a contender. Caldwell adds that if someone wants to get into the tech space, then this is the company to buy. “There will be growth, but it has good yield while I’m sitting around,” he says.

Labrador Iron Ore Royalty Corp.
(TSX: LIF.UN)
Market cap: $2.6 billion
P/E: 13.1
Toronto-headquartered Labrador Iron Ore Royalty Corp. (LIORC) does nothing other than collect money. The company has a 15% equity stake in Iron Ore Co. of Canada (IOC), the country’s largest iron ore producer. It receives a 7% royalty on the sale of iron ore and 10¢ per pound on all iron ore that IOC produces. Morphet likes it because its fortunes aren’t dependent on the profitability of IOC; it only matters how much that company produces and sells. “There’s a foundation of earnings based on royalties,” says Morphet. “That’s the beauty of it.” IOC is expanding its mine near Labrador City, which will result in more production, and Chinese demand is keeping sales high. LIORC pays a 2.7% yield, but special distributions during the year boost the payout to 7%.

Value plays

Research In Motion
(TSX: RIM)
Market cap: $28.3 billion
P/E: 8.8
It’s the company everyone loves to hate, which is why BlackBerry maker Research In Motion is dirt cheap. It has a P/E of 8.8 times and is trading at 7.5 times cash flow—far lower than the double-digit multiples it saw years ago. With Apple now the hot tech company, many people think RIM’s best days are behind it. But Zohny says that’s simply not true. While its North American business has slowed, RIM’s seeing 30% to 40% growth overseas. “It’s all coming from the outside,” says Zohny. Anderson also likes the company. With unique selling points like BlackBerry Messenger—which saves people texting fees—and its own secure network, it’s still a must-have for many businesses. Revenues continue to grow, too; it made $5.6 billion in revenue in Q4, up 36% from the same time last year.

Manulife Financial
(TSX: MFC)
Market cap: $30.8 billion
P/E: 157.9
Manulife, a Toronto-based financial services company, has been in the doghouse for a number of years. Investors fled after the company lost $2.4 billion in Q2 2010, and its previous quarters weren’t so hot, either. But it appears its worst days are over. Q4 2010 earnings were $1.8 billion, and analysts expect profits to grow. In March, UBS Securities Canada changed its rating from Neutral to Buy, saying increased hedging has reduced its risks. It’s also moved its customers into less risky products, says Zohny, while its growing Asian operations continue to boost its bottom line. It’s trading at 2.5 times cash flow and 1.2 times book value. Zohny expects share prices to climb from $16 today to $20 by the end of the year, while Caldwell thinks it could hit $26.

Barrick Gold Corp.
(TSX: ABX)
Market cap: $49.4 billion
P/E: 15.9
As gold prices rise, so do the profits of Barrick, the world’s biggest gold mining company. But because people are more focused on buying bricks and gold ETFs these days, and because Barrick’s April 25 acquisition of copper miner Equinox Minerals caused many investors to worry that the company is deviating from what it does best, Barrick’s trading at a big discount. Nield hasn’t seen the company this cheap in his life. As long as copper and gold prices don’t drop, he doesn’t expect the share price to fall further. Barrick still has strong long-term potential—it has 18 years’ worth of gold reserves, Nield observes—meaning it’ll be mining the yellow metal for decades.

Agrium Inc.
(TSX: AGU)
Market cap: $14.1 billion
P/E: 20.2
While Calgary-based Agrium mines potash, it’s nitrogen and retail operations that are driving the company’s growth. Nitrogen is made from natural gas, which gives Agrium a competitive advantage over many of its overseas peers, says Nield. Natural gas is about $5 cheaper per million British thermal units in North America than Europe or Russia, so it costs a lot less for it to produce nitrogen here. “Agrium has a huge cost advantage,” he says. It also sells agricultural products, such as fertilizers, to farmers. That side of the business got pummelled in the downturn, as financially strapped farmers stopped buying, but it’s coming back. Agrium recently purchased Australian agricultural retail company AWB Ltd. too. It’s trading at a cheap 11.6 times 2012 earnings, and its enterprise value to EBITDA is seven times, about two multiples lower than its peers.

Go for growth

Onex Corp.
(TSX: OCX)
Market cap: $4 billion
P/E: 136
Investors wishing they could get into the venture capital game should consider buying this Toronto-based company. The investment firm buys and turns around businesses—it has an 8% stake in Celestica and a 68% ownership in customer-care company Sitel Worldwide—and has made private equity investments in numerous other businesses. “You don’t have to be a venture capital fund. This company will do it for you,” says Radlo. Onex makes money when it sells off its companies, but it also receives recurring revenues and fees from its growing asset-management division which, according to UBS Investment Research, has a 25% compound annual growth rate (CAGR) over the past five years. It’s trading at $33, but analysts expect it to hit $40 by the end of the year.

Sino-Forest Corp.
(TSX: TRE)
Market cap: $6 billion
P/E: 16.9
Lumber isn’t the first commodity people think of buying, but thanks to increasing demand from China, its prices should climb significantly over the next few years. That’s why Webb is bullish on Mississauga-based Sino-Forest, the largest forestry plantation operator in China. It harvests and sells logs to the Chinese, which means it should capitalize significantly on the country’s rapidly growing demand for wood fibre. Since the company is already in China—it has about 512,700 hectares of forest plantation in the country—it has “first-mover advantage,” says Webb. It’s trading at what Webb says is a cheap 12 times forward earnings, and it’s ROE is a healthy 14%. He expects earnings to grow by at least 20% in 2011 and 2012.

MacDonald Dettwiler & Associates Ltd.
(TSX: MDA)
Market cap: $2.2 billion
P/E: 33.5
MacDonald Dettwiler & Associates, the company behind the Canadarm, does a lot more than build neat space gadgets. The company’s main business is satellite imaging. It sells images of the earth to agencies in the defence, environmental and urban-planning industries, and its robotics division controls the Canadarm and a system inside the International Space Station. Webb has owned the company for about decade. It’s a stable but growing business, he says. It’s starting to repair other people’s satellites from space—usually old satellites become space junk—which should add to its already large profits, while its sale of an insurance and real estate information division allows it to better focus on its space-related businesses. ROE should be over 20% this year.

ShawCor Ltd.
(TSX: SCL.A)
Market cap: $2.6 billion
P/E: 29.1
Toronto-based ShawCor is one of the few companies that coats oil and gas pipelines to prevent corrosion. It has operations around the world, including in the U.S., Scotland, Singapore and the United Arab Emirates. Nield is bullish on the stock because it has a backlog of $375 million in business, so it still has a lot of money to collect. ShawCor also has bids in for $1.5 billion of business, and while it won’t get it all, as a leader in the industry, it should get a good chunk. The company’s also acquiring; in March it announced it was buying Altus Energy Services’ coating business. The company has net cash of $130 million and, says Nield, should see revenue growth around 15% this year.

Methanex Corp.
(TSX: MX)
Market cap: $2.8 billion
P/E: 33.6
Vancouver’s Methanex Corp. is the largest producer of methanol, a chemical that’s often blended with gas, and Dimethyl ether (DME), a propane substitute. The company has benefited from China’s growing demand for fuel and from emerging market demand for DME. Bad timing has hurt the company. It opened a new plant in Egypt just as the country was ousting its leader. The Mideast turmoil could slow production, while plants in Chile and New Zealand have had difficulties accessing natural gas. This year will be a soft one for the company, says Nield, so look to 2012 for growth. It’s trading at 10 times 2012 earnings. “For a company that will generate a lot of cash flow, we look at it as quite inexpensive,” he says.

CGI Group Inc.
(TSX: GIB.A)
Market cap: $5.6 billion
P/E: 15.1
Managers love Montreal’s CGI Group, with four of them choosing it as a top stock pick. The tech company offers businesses, mainly in the telecom, financial and government industries, a host of IT solutions including outsourcing and data centre management. It’s a global company operating in 15 countries, so it’s well positioned to take advantage of growing IT needs everywhere. All four managers were excited by its recent $903-million purchase of Virginia IT company Stanley Inc., which significantly expands CGI’s U.S. government business. Morphet points out that its ROE has doubled to 16% over the past 10 years, and it has a backlog of $13.1 billion in business. Webb likes that 20% of its shares are owned by company insiders, and its free cash flow yield is an attractive 10%.

Cameco Corp.
(TSX: CCO)
Market cap: $11.6 billion
P/E: 23.4
Saskatoon’s Cameco Corp. is one of the biggest uranium producers on the planet. Uranium is the main fuel in nuclear energy production, so it’s no surprise that the stock has dropped 25% since Japan’s nuclear plant problems began. However, most analysts think nuclear power will bounce back—Chinese demand for nuclear is still strong—so when sentiment turns positive, Cameco’s share price will improve. Caldwell’s thrilled that attention has turned away from uranium. “I can get a company that’s significantly off its highs, but still has good earnings trajectory,” he says. It’s trading at one times book value, which is cheap for a mining company, Caldwell explains.

Note: Market cap amounts and P/E ratios as of April 1, 2011.

Our panel of stock pickers

Alan Radio	Youssef Zohny	Duncan Anderson	Richard Nield	Gaelen Morphet	Bill Webb	Tom Caldwell
Chief Investment Officer, Cambridge Advisors	Portfolio Manager, Van Arbor Asset Management	Managing Director and Senior Portfolio Manager, Manulife Mutual Asset Management	Portfolio Manager, Invesco Trimark	Chief Investment Officer, Empire Life	Executive Vice-President and Chief Investment Officer, Gluskin Sheff	Chairman and CEO, Caldwell Securities
Picks: TOU, CVE, KEY, OXC, CGI	Picks: S, NXY, RIM, MFC, AGU	Picks: BCE, MRU.A, SC, RIM	Picks: AGU, SCL.A, CGI, MX, ABX	Picks: CNQ, RY, CGX, LIF.UN, CGI	Picks: CLT, SAP, MDA, TRE, CGI	Picks: CCO, ABX, MFC, BCE