This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." So you might think we'd be the last people to give virtual ink to such "news." And we would be -- if that were all we were doing.

But in "This Just In," we don't simply tell you what the analysts said. We'll also show you whether they know what they're talking about. To help, we've enlisted Motley Fool CAPS, our tool for rating stocks and analysts alike. With CAPS, we'll be tracking the long-term performance of Wall Street's best and brightest -- and its worst and sorriest, too.

And speaking of the best ...
There's no two ways about it -- the markets were a mess yesterday, and bears stalked the Street. Major indexes dropped 2% or more, pulling many a good company (and many a bad) down in their wake. One of the stocks worst hit in the carnage, though, owed its misfortune not just to general market malaise but to one analyst in particular. For Thursday was the day that Citigroup threw in the oil rag on Harley-Davidson (NYSE: HOG  ) .

Predicting that Q4 sales will turn out much worse than the single-digit decline most analysts expect, Citi downgraded the stock from "hold" to "sell." (Apparently, there are some pigs that even Wall Street bankers won't grace with lipstick.) Adding insult to injury, Citi argued that Harley's 2008 model line doesn't measure up to its 2007 offerings. This opinion, combined with what the analyst describes as the "discretionary purchase" nature of motorcycles, means bikers may well sit on the sidelines in the fourth quarter, and see if Harley can come up with anything better in July 2008.

But does Citi know choppers? For that matter, does it know stocks? To get a read on the banker's investing chops, we turn to CAPS for a glimpse at its past performance.

Born to be mild
What we find there is an analyst that's developed an "All-Star" record despite its flip-a-coin accuracy. Even though Citi guesses wrong as often as right, it tends to do better on its right guesses than badly on its wrongs, resulting in a respectable CAPS rating of 87.42.

For example, Citi has done a great job of picking commodities stocks:

Company	Citigroup Said:	CAPS Says:	Citigroup's Pick Beating S&P by:
Monsanto (NYSE: MON  )	Outperform	****	102 points
Steel Dynamics (Nasdaq: STLD  )	Outperform	****	19 points
U.S. Steel (NYSE: X  )	Outperform	***	18 points

On the other hand, the closer Citi gets to anything with an internal combustion engine, the more it gets burned:

Company	Citigroup Said:	CAPS Says:	Citigroup's Pick Lagging S&P by:
General Motors (NYSE: GM  )	Outperform	*	15 points
Advance Auto Parts (NYSE: AAP  )	Outperform	***	7 points
Lear (NYSE: LEA  )	Outperform	**	10 points

At first glance, this seems to suggest that we should eye Citi's Harley skepticism with suspicion -- the analyst may not know a Hog from a trike. But let me play devil's advocate for a moment, and speak in Citi's defense on this one.

From a valuation perspective, Harley really doesn't look attractive to me. Yes, the stock sells for a P/E of 9, which appears cheap if you believe most analysts' predictions that the firm will grow its profits at about 11% per year long term. That said, I've described in the past how Harley's sales look pretty anemic in comparison to the startling rise in its inventories. The company is tying up vast amounts of cash in unsold inventories, with the result that whatever its GAAP numbers tell you, Harley's cash flows just aren't measuring up. Free cash flow growth has slowed noticeably at Harley, with the result that the firm now sells for roughly 15 times its trailing cash profits.

Foolish takeaway
If the firm can hit the 11% growth target Wall Street has set for it, 15 times FCF may not be such an awful price to pay for the world's pre-eminent motorcycle maker. It might make this stock more of a "hold" than a "sell." Moreover, if Harley can find a way to unclog its cash spigots, and move some of that unsold inventory, I suspect we could see free cash flow growth quickly outpace net income growth.

But until it does, I'm inclined to remain in "trust but verify" mode on Harley-Davidson. I suggest you idle this one a bit longer, before heading out on the highway to buy.