Since the broad market lows of March, investors have been somewhat taken aback by the outstanding recovery this market has seen. While many of us welcomed this rally with open arms (especially those who did nothing or bought near market lows), some of us almost wish the market did not recover so quickly to allow for more time to pick out some quality names to add to our portfolios.

At this point, it is normal for some investors to feel that they have missed the boat on a lot of opportunities. However, investors should remember that broad market indices like the TSX and S&P 500 do not necessarily reflect what opportunities remain. Certainly, making calls today are not as obvious as they were in March and April, where it seemed (in hindsight) that one could have bought almost anything and made significant gains. However, just as it seemed obvious to ‘buy the market’ a few months ago under the premise that we would eventually overcome the economic slowdown caused by the pandemic, the same analysis can be done on individual companies that still appear undervalued based on their fundamentals.

The List

The TSX composite is only down about 8% year-to-date compared to a low of -33% seen in March. This impressive recovery was likely very heavily influenced by improved prospects of economic recovery and a slight improvement in the oil market. However, there remain several names that are still well below -10% on a year-to-date basis with impressive fundamentals that are worth a look. Below is a screen we conducted to find Canadian companies that were ranked in the top 100 in Return on Invested Capital (ROIC) last year, a Debt to Equity ratio of less than 50% and total return of less than -10% YTD:

The companies in the list above are sorted from highest to lowest ROIC. ROIC is an important measure when looking for companies that are strong capital allocators. It is different than return on equity (ROE), which only looks at return on shareholder’s equity and arguably a more accurate measure of management performance as it includes capital invested in a company by bondholders AND shareholders. What’s interesting to note is that many of the companies returning the highest ROICs are smaller companies that are either on the TSX Venture or not as well-known on the TSX composite. This indicates that these could be companies investors are paying less attention because they are less know and  (understandably) because of their smaller size.

Names of Interest

One such company is Macro Enterprises Inc. (MCR.V) a company in the Growth Model Portfolio that has seen strong growth prior to the pandemic. While the company does operate in the energy space, MCR continues to be profitable with an impressive ROIC of 104% over the last year and is less directly exposed to fluctuations in oil prices as they provide pipeline construction and maintenance services. Due to the company’s small size and association with the energy markets, investors have likely shied away from the name, but at current levels (down ~35% YTD and forward P/E under 10x) the company trades at attractive levels for a long-term entry point. 

A potential recovery play company similar to MCR is Pason Systems (PSI), which also operates in the oil and gas equipment space and has an impressive ROIC of 39%. The company has an even more impressive debt to equity ratio of 4%. PSI is also nearly ten times larger in size and has been around for decades longer than MCR. 

Another name in our Growth Model Portfolio we see in this screen is Quester Technology Inc. (QST), a name that has fallen nearly 67% YTD but presents strong recovery potential in the long-run. While the company may face a tough year due to less energy waste management needed, the long-term prospects of the company remain promising and QST continues to operate very profitably with almost no debt. Other names also found in our Model Portfolios and coverage list are Suncor (SU), Magna International (MG) and Winpak Ltd. (WPK).

COVID uncertainty remains

Of course, there is no guarantee that all of these names will recover or even not fall further into negative territory. We also should not forget that the full effects of COVID-19 have not yet been reflected in corporate earnings and forecasts (despite some re-opening). Not to mention the further uncertainty of a second wave or second-order effects of the virus. However, strong profitability/capital allocation and low debt levels coupled with share prices that remain depressed offer a combination of a long-term value play and a lower probability of further downside. The companies mentioned above as well as others on this list are solid recovery candidates worth looking into at least as a starting point.

Happy Investing,

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Disclosure: Employees of 5i Research involved in the research process cannot trade in Canadian traded stocks and do not hold a financial interest in Canadian companies mentioned. Employees, directors, officers and/or partners may hold a financial or other interest in funds or US and international securities mentioned.