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 ...
According to our CAPS supercomputer, Wall Street investing house RW Baird ranks among the best investors we track, placing just within the top quintile. So you can imagine how great was the rejoicing when Baird upgraded Visa (NYSE: V  ) to "outperform" yesterday -- great enough to lift the stock more than 4%.

When combined with Friday's news that Visa would be taking Ciena's place on the S&P 500, Baird's bullish comments regarding improved retail sales trends and stabilizing patterns of international travel helped to add nearly $2.7 billion to Visa's market cap over the course of just a few hours' trading. That's more than a lot of companies' entire market worth, but the question facing investors today is whether the upgrade alone was worth the price bump.

Let's go to the tape
At first glance, you might be inclined to think it was. After all, not only is Baird a top-ranked stock shop generally; it's record in the "IT Services" sector (this being the one into which Visa gets lumped) is simply stellar:

Stock	Baird Says:	CAPS Says:	Baird's Picks Beating S&P by:
Accenture (NYSE: ACN  )	Outperform	****	34 points
Global Payments (NYSE: GPN  )	Outperform	***	16 points
MasterCard (NYSE: MA  )	Outperform	**	15 points

In fact, fully 85% of Baird's picks within this category filled with a hodgepodge of companies have gone on to beat the market. Which certainly seems to give grounds for optimism about Visa. Still, call me crazy, but I personally have always thought of Visa as more a "bank" company than an IT "techie" stock. As such, I'm more interested in learning how well Baird's done in calling ups and downs in the banking world, than in IT.

Sadly, the answer to this question is: "Not so well." In fact, Baird boasts only 40% accuracy on its predictions within the Commercial Banking industry. For example:

Stock	Baird Says:	CAPS Says:	Baird's Picks Lagging S&P by:
SunTrust (NYSE: STI  )	Outperform	**	12 points (three picks)
Fifth Third Bancorp (Nasdaq: FITB  )	Outperform	**	31 points (two picks)
Wells Fargo (NYSE: WFC  )	Outperform	***	61 points (two picks)

So when Baird tells us this week that it expects to see "reaccelerating growth over the next couple quarters, along with annual earnings-per-share growth of more than 20 percent over the next couple years" at Visa, you'll understand if I take these predictions with a few grains of salt.

Hold the salt, please
But even if we assume Baird is right in its projections (and in all fairness, I should point out that Baird's soothsaying lies right in line with the Wall Street consensus for Visa's long-term growth trends), I'm still not convinced that this makes the stock a buy.

Why not? Well, there's the stock's 26.8 P/E ratio, for one thing. Divide Baird's happy-talk growth estimate into this number, and you're looking at a pretty pricey 1.34 PEG ratio. But even that I could forgive -- great companies like Visa aren't often found trading at bargain-basement prices, and a 1.35 PEG isn't that unreasonable. Problem is, it's not the only problematic valuation we find at Visa.

To see what I mean, take a gander at Visa's SEC filings for the past few years. What you'll see there is that, firstly, the "E" component of Visa's P/E -- its trailing "earnings" -- overstate actual free cash flow by a factor of nine times. Nor is this some kind of fluke or one-year aberration. To the contrary, over the past four years for which we have data, Visa's free cash flow has averaged a number remarkably consistent with its most recent performance: About $265 million in free cash flow produced annually on average -- versus average reported earnings upward of $630 million.

Foolish takeaway
To my Foolish eye, this means that Visa is not nearly as cheap as Baird suggests it is. To the contrary, the stock looks quite pricey to me. And while, yes, I admit that sometimes you need to pay up for quality ... the fact remains: Valuation still matters.

And that's why I must conclude: Visa costs too much.