This Just In: Upgrades and Downgrades

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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 worst ...
Are you scared yet, SanDisk (Nasdaq: SNDK) shareholders? Yesterday, Wedbush Morgan downgraded your stock to the equivalent of a sell rating, sending the stock into a 3% tailspin. And why did it do that? You tell me:

Q1 NAND supply will likely exceed demand due to NAND process technology die shrinks increasing NAND output coupled with typical weak seasonal Q1 end market demand. We expect the imbalance in the NAND supply environment to pressure Q1 bit growth, ASPs, gross margin and revenue below our prior expectations.

"Technology die shrinks?"

"NAND output coupled?"

"Q1 bit growth?"

Who talks like that? It's like the analysts at Wedbush are the same folks who write the instruction manuals that "help" us set up our plasma TVs, and assemble the kids' bicycles late at night on Christmas Eve.

Clear writing equals clear thinking ...
... and judging from Wedbush's record in the semi-space, the converse is also true. For while it's true that Wedbush has picked the odd winner in this industry from time to time ...

Stock	Wedbush Says:	CAPS says:	Wedbush's Picks Leading S&P By:
Intel (Nasdaq: INTC)	Outperform	****	12 points
Broadcom (Nasdaq: BRCM)	Outperform	***	2 points

... it's more often the case that when Wedbush says a semiconductor stock is going up, it proceeds to drop instead:

Stock	Wedbush Says:	CAPS says:	Wedbush's Picks Lagging S&P By:
NVIDIA (Nasdaq: NVDA)	Outperform	****	12 points
Micron Technology (NYSE: MU)	Outperform	***	11 points
Texas Instruments (NYSE: TXN)	Outperform	***	6 points
Advanced Micro Devices (NYSE: AMD)	Outperform	**	2 points

In fact, over the course of the three years that we've tracked Wedbush's recommendations in the semi-industry, this analyst has racked up the unenviable record of getting only 38% of its picks right -- and underperforming the stock market across the board.

Putting the chips in order
So to review, what we have here this week, folks, is an incomprehensible analyst with a lousy record on semi stocks, telling you to sell SanDisk ... a semiconductor stock. Is there any reason on earth that you should follow that advice?

Actually, yes, there is. The reason being: SanDisk costs too much.

Really, it's as simple as that. Unprofitable over the past 12 months, and with cash profitability so anemic as to leave this stock trading for nearly 100 times its annual free cash flow, SanDisk looks vastly overpriced relative to consensus estimates of 16% five-year growth.

That alone seems to me more than enough reason to avoid this stock. But if you can navigate your way through Wedbush's verbiage to discover the real significance of its report, what the analyst is trying to say is that even this growth estimate looks unreliable. Swelling chip supplies mean more competition for sales, and more incentive to discount wares to get inventory out of the warehouse and onto an already flooded market. All of which threatens to lower the prices SanDisk can charge, which in turn will decimate its profits and crimp the rate at which those profits will grow.

Foolish takeaway
Don't be put off by Wedbush Morgan's unfamiliarity with the English language. The message of this downgrade, and the implication of SanDisk's stock price relative to its earnings and growth prospects, are clear: Stay away from SanDisk.