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 track the long-term performance of Wall Street's best and brightest -- and its worst and sorriest, too.

And speaking of the best ...
I admit it: Like many investors, I had written off Motorola (NYSE: MOT  ) for dead months ago. So imagine my surprise when, upon waking this morning, I saw that the cell phone maker received an upgrade -- and from one of the best analysts in the business.

Banc of America Securities, which now incorporates the veteran tech traders at Merrill Lynch, started off Tuesday with a shocker of an upgrade. Predicting Motorola shares will fetch $9 within a year, B of A is expecting 50% profits for investors who buy Motorola shares today.

Huh? Why? How?
The reason is simple: Motorola's been so badly beaten down these past few years that almost any improvement in its business could yield dramatic improvement on the income statement. B of A believes that a new line of Google (Nasdaq: GOOG  ) Android-based smartphones will boost revenues beginning in Q4. Combined with aggressive cost-cutting in the handset business and slow, stable growth throughout the rest of the company, B of A predicts that plenty of profits will fall to the bottom line.

And yet ...
It all sounds so logical. So inevitable. Plus, this is B of A we're talking about, folks -- a banker that beats the market 56% of the time on its recommendations, outperforming 95% of CAPS investors. An analyst that, as CAPS informs us, often does even better when analyzing firms working in Motorola's line of business:

  • Although B of A gets only 50% accuracy when recommending firms like AT&T (NYSE: T  ) or Verizon (NYSE: VZ  ) in the diversified telecommunication services industry ...
  • it scores 82% accuracy on software picks like Google ...
  • and 83% accuracy when rating communications equipment makers like Nokia or Research In Motion (Nasdaq: RIMM  ) .

So why is it that, in spite of this banker's record, I'm not buying B of A's bull thesis today? Well, first and foremost, there's the matter of The Spinoff.

Last I heard, Motorola was still planning to abandon the cell-phone biz and spin off its handsets division. So, even if B of A is right about the Android phone, I've got my doubts as to how this will help the stock after Motorola gives the business up for adoption.

And on the other hand, if Motorola should pull a 180 and reverse its decision to spin off handsets, my other objection to today's recommendation remains ...

Valuation matters
Just like B of A, when Wall Street looks at Motorola, it sees not just a company that's losing money today, but a company that might well turn a profit in 2010. If you take consensus estimates at face value (I do not), then Motorola today is selling for about 27 times fiscal 2010 profits of $0.23 per share.

While these hypothetical profits would be better than Motorola losing money, the stock still looks expensive relative to Motorola's expected 10.4% five-year growth rate. Especially when in all of telecom-dom, there's only one handset maker even close to as expensive as Motorola:

  • At 22% projected growth, Research In Motion sells for only 14 times expected forward earnings -- twice the growth at half Motorola's price.
  • iPhone maker Apple (Nasdaq: AAPL  ) also looks like a better bet than Motorola at 18% projected growth and only a 21 forward P/E.
  • Likewise, Nokia, Garmin, and Hewlett-Packard -- every one of 'em is expected to outgrow Motorola, yet every one of 'em sells for a lower price-to-earnings ratio.

(Oh, and that one stock I mentioned that's more expensive than Motorola? Palm (Nasdaq: PALM  ) , which analysts expect will keep losing money in 2010 even as Motorola emerges back into the black.)

Foolish takeaway
Banc of America is a superb stock picker, with a superlative record of outperforming the market on its picks. As such, I do not dispute its recommending Motorola lightly. But the cell-phone stream is looking awfully crowded, folks. Motorola's not just motoring against a current of iPhone, CrackBerries, and Nokia smartphones anymore. It's also got a Pre-vitalized Palm to contend with, and cell phones from Garmin, H-P, and a host of Japanese, Chinese, and Korean competitors.

Seeing as almost every one of these rivals offers an opening into the cell phone market at a better price than Motorola, I can't countenance gambling on a loser today. Sell Motorola.

Fool contributor Rich Smith owns shares of Nokia. You can find Rich on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 803 out of more than 135,000 members. Google is a Motley Fool Rule Breakers pick. Apple is a Motley Fool Stock Advisor recommendation, and Garmin is a Motley Fool Global Gains selection. The Motley Fool has a disclosure policy.


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