5 Wall Street Buy Calls That Will Shock You

Goldman Sachs recently rated Berkshire Hathaway a buy.

That's not shocking.

Not just because Berkshire Hathaway has a large investment stake in Goldman Sachs. And not just because Warren Buffett, aka the greatest investor in the world, runs Berkshire. And not just because it's an all-star team of quality businesses and investments, from full ownership of GEICO and Fruit of the Loom to large stakes in Coca-Cola and Procter & Gamble.

Most of all, it's not very shocking because the Berkshire Hathaway story is backed up by the numbers, both historically and presently. It's had a decades-long run of creating value, growing its book value by a 20% compounded rate since 1965. Presently, Berkshire is trading for a discount to its historical price-to-book ratio.

Now, you may think Buffett and Berkshire are overrated, you may nitpick some of Goldman's modeling assumptions, and you may even rate Berkshire Hathaway a sell. Still, all except the most stubborn bear will grant that the buy thesis is at least a reasonable argument to make.

Unfortunately, that's not always the case with Wall Street.

Five buy calls that will shock you
I've explained in the past how Wall Street tends to have a bullishness bias. In other words, if the stock trades, it's at least a hold. On the off chance Wall Street has a consensus sell rating on a stock you own, you've most likely already lost your shirt.

Still, some buy calls are so outlandish it's shocking.

Company

Description

% of 52-Week High

Debt/Capital

Net Income (TTM)*

Analyst Recommendation

Virgin Media (Nasdaq: VMED  )

Cable and communications in the U.K.

95%

82%

($553 million)

Buy

Sun Communities (NYSE: SUI  )

Manufactured homes

88%

110%

($6 million)

Buy

Vonage (NYSE: VG  )

Telecom over the Internet

87%

138%

($34 million)

Buy

Las Vegas Sands (NYSE: LVS  )

Casinos in Vegas and Macau

87%

59%

($302 million)

Buy

US Airways (NYSE: LCC  )

Airline

84%

111%

($147 million)

Buy

Source: Capital IQ, a division of Standard & Poor's.
*Trailing 12 months.

You'll notice that the companies in the table are all trading near their 52-week highs. That's not damning evidence, but it's a bad sign if, like me, you tend to troll the 52-week low list for bargains.

Next, notice the high debt-to-capital ratios. Except for a few industries (like utilities), a debt-to-capital ratio above 50% sets off a red flag. For Vonage, Sun Communities, and US Airways, that ratio is over 100%. If you're wondering how debt can make up more than 100% of capital, it's because these companies have lost enough money historically to turn their equity negative.

It's risky for profitable companies to hold these levels of debt. All of these companies are losing money and would have to have pretty significant profitability turnarounds to justify their current share prices. Not only that, they haven't been profitable in years. The most recent sighting was Las Vegas Sands in 2008; Vonage hasn't posted a profitable year as a public company.

Yet they're all Wall Street buys.

Better places to look
For some better options, I searched for stocks that are down 25% or more from their 52-week highs, that have less than 50% debt in their capital structure, and have trailing profits. In other words, the opposite of the five stocks above. Graphics chipmaker NVIDIA (Nasdaq: NVDA  ) , seed and pesticide giant Monsanto (NYSE: MON  ) , and pharmacy Walgreen all fit the bill. My colleague Matt Koppenheffer recently wrote about the prospects for NVIDIA and Monsanto, which were two of the five biggest S&P 500 droppers during the first half of the year. They face bigger near-term challenges than Walgreen but also have more potential upside.

They all happen to be rated buys (or on the borderline between a buy and a hold) by Wall Street, but Wall Street's opinion has proven to be pretty irrelevant.

What I do consider relevant are your thoughts. Share your words of wisdom about any of the companies I've mentioned in the comments section below.

For more stock ideas, check out 5 Stocks That Are Cheaper Than You Think.

Anand Chokkavelu owns shares of Berkshire Hathaway and NVIDIA. Berkshire Hathaway, Coca-Cola, and Monsanto are Motley Fool Inside Value picks. Berkshire Hathaway and NVIDIA are Motley Fool Stock Advisor recommendations. Coca-Cola and Procter & Gamble are Motley Fool Income Investor recommendations. Motley Fool Options has recommended a synthetic long position on Monsanto. The Fool owns shares of Berkshire Hathaway, Procter & Gamble, and Coca-Cola. The Motley Fool has a disclosure policy.


Read/Post Comments (10) | Recommend This Article (47)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On July 16, 2010, at 5:50 PM, dragonLZ wrote:

    "It's risky for profitable companies to hold these levels of debt. All of these companies are losing money and would have to have pretty significant profitability turnarounds to justify their current share prices. Not only that, they haven't been profitable in years. The most recent sighting was Las Vegas Sands in 2008; Vonage hasn't posted a profitable year as a public company."

    Las Vegas Sands had high debt last year as well, and it was unprofitable too. Last year, LVS was at $2, it's at $23 today.

    LCC is a similar story.

    Having a buy opinion/rating on a stock doesn't mean that one believes the company will turn profitable, but that its stock price will go up.

    I'm not saying buy ratings on these 5 stocks are justified at this time. I'm just saying people who base their buy calls only on debt and profitability miss "easy" 10-baggers a lot of times...

    p.s. Last time I checked, stocks of profitable companies with no or low debt lose people money too...

  • Report this Comment On July 16, 2010, at 7:03 PM, ToolinFoolin wrote:

    After this last week and ES and JST you should be more humble making fun of 5 buy recommendations of other research teams.

    Toolin Foolin

  • Report this Comment On July 16, 2010, at 8:09 PM, TMFBomb wrote:

    dragonLZ,

    The difference between last year and this year is the price appreciation you're talking about. Remember that these are companies that are trading near their 52-week high. Las Vegas Sands, for example, was priced in a left-for-dead situation last year. The possibility of total loss was weighed against the potential for a multibagger if the economy/stock market improved (which, in hindsight, it did). Now, not so much.

    It's possible that Las Vegas Sands et al beat the market from here...I just don't think it's a great bet.

    -Anand

  • Report this Comment On July 16, 2010, at 8:50 PM, dragonLZ wrote:

    Anand, I do agree with that.

    Btw., I agree wit a lot of other stuff you said, I just don't think one should discard a stock idea because a company behind it has high debt and is not profitable. I learned that back in 2002 when I watched a bunch of fundamentally bad stocks go from $1-2 to $40-$50.

    p.s.

    LVS also seemed like a bad idea at $13, back in August ( http://caps.fool.com/Blogs/lvs/244014 )...

  • Report this Comment On July 16, 2010, at 11:44 PM, dgroves0 wrote:

    Investing is all about looking forward. Things change, quickly sometimes.

    I feel the necessity to look forward, extrapolate from the numbers we know and try to give an Idea where this will be in six months.

    Vonage's cash and earning situation is changing quickly.

    CASH FLOW

    http://www.acronet.net/~dgroves0/balance.JPG

    Last quarter Free Cash flow was $.09 a share.

    http://finance.yahoo.com/q/cf?s=VG

    That translates into $.36 a year, if continued.

    Ttm free cash flow is $.25 http://www.mysmartrend.com/news-briefs/news-watch/shares-von... so $.36 is no big stretch.

    Now look at the industry chart:

    http://biz.yahoo.com/p/846mktd.html

    And you will see that the Diversified Communication Services, Price to Free Cash Flow ratio, is an average of 40 which translates to a PPS of $14.40 a share!

    EARNINGS

    The analysts are Woefully behind. they say -$.03 in the 4th quarter, its +$.03, in the first, $.00, it was $.06.

    If you look at finvar or yahoo, you will see they are predicting $.09 for next year! Idiots, they made $.06 last Qtr! It will probably be 4x as much!

    4th = $.03 1st = $.06 Extrapolate the 2nd and the 3rd as $.06 each (same as the 1st) and we end up with $.21ttm earnings (I think earnings will be higher)

    Why look 4 months ahead? Vonage had a non-cash charge in 3rdQ09, that gums up the earnings and it will roll off the ttm Earnings.

    http://www.acronet.net/~dgroves0/netincome.JPG

    In 4 months, after the 3rd QTR Earnings CC when the ttm Earnings are $.21, a very conservative 14 PE would make this $3.00.

    Looking here though, you will see the Diversified Communication Services INDUSTRY PE IS AN AVERAGE 28.4

    http://biz.yahoo.com/p/846mktd.html

    Using that PE you will see those $.21 in ttm earnings translate into $6.00

  • Report this Comment On July 17, 2010, at 2:39 PM, kahunacfa wrote:

    KCFA has been an investment professional since 1974; on the Sell-side of the street from 1985-1992, a Venture Capital Portfolio Manager since 1977. Historically most strong BUY stocks have been nearer their lows than their highs.

    A classic example was the KCFA BUY recommendation on Zycad(ZCAD) at 3/8 or $0.375 per share. When that recommendation was made in 1990, the company had $1.25 per share in cash, no debt, and Philips W. Smith as its Chief Executive Officer. Mr. Smith later moved on to become Chairman of Taser Corporation(TASR) where his sons were also in top management positions.

    Zycad won the avionics simulation contract of the Air Force Advanced Tactical fighter later called the F-111B. Zycad reached $15.50 per share the Fall of 1995. Let's see, $0.375 to $15.50 in about five years, that is a 41.33-bagger or so in five years. For the most part, KCFA is satisfied with four-baggers in three to five years such as Xerox from $4 to 16.375, Nanometrics from less than one dollar per share to over sixty at one time - now around $8.55 - and a BUY, I might add.

    Berkshire Hathaway, yes KCFA does own a token amount - not a large position because there are many more attractive companies to buy - especially in the technology sector<AMAT, HPQ, IBM, INTC, ... etc.

    Kahuna, CFA

    Kailua-Kona

    le 17 juillet 2010

  • Report this Comment On July 19, 2010, at 10:56 AM, Gregeph wrote:

    Consider the following quote I posted on my blog last week from value investing guru Seth Klarman, “Wall St. exists to make money, not to benefit Baupost. I know that Wall St. will always try to take our money, I go in with open eyes, you need to think “Caveat Emptor” when dealing with Wall St."

    These recommendations and their related price targets are designed to generate business. It's not uncommon to see a price target of 70 when a stock is at 60 and then, with the same stock, a price target of 50 when the stock drops to 40. Did the value drop 30%?

    Learn how to value a business and let that be your north star, not a brokerage firm's opinion. Price is what you pay, value is what you get. http://gregspeicher.com/

  • Report this Comment On July 19, 2010, at 1:32 PM, afamiii wrote:

    Unfortunately, I don't have sufficient knowledge of the companies mentioned.

    However, I do know that there is more than one strategy that works on Wall Street.

    If no one bought companies that had high debt loads, then their prices would fall to a sufficently low level to make them good investments (despite their high levels of debt.)

    So an investor who's knowledge, experience and strategy, enabled him or her to properly evaluate the risk of default would make an outsize return, attracting more invsestors (over time) into this type of strategy.

    It is not by accident that their are insufficient Graham net-nets to build a portfolio on and they are unlikely to make a come back as long as his books remain in print.

    Or that companies with durable competitive advantages can seldom be found at prices that would deliver over 15% return (I think Buffet would struggle with that strategy if he were starting out now.)

    The Fool needs to refocus itself on articulating its investing strategies and talking about companies that fit these strategies and away from talking about what they don't understand.

  • Report this Comment On July 24, 2010, at 12:39 AM, philkek wrote:

    Thanks MF & fools. I should have listened to you fools instead of Wall Street. Still not too late to learn something about investing. Fool on for profits.

  • Report this Comment On July 28, 2010, at 2:50 PM, danobe wrote:

    Former employee of SUI and current shareholder . . .

    Always amazed when Sun Communities gets lumped in with tech stocks and other non-real estate plays. When you buy real estate, you use leverage. Period. The fear of not being able to refinance its debt took the stock from 35 to 7/share. All the while, they have continued to pay their 0.63/share per quarter dividend. For those in at say $10 that's a 25% yield.

    As the banking situation works itself out, the stock continues to rise. In the meanwhile, SUI's business has grown steadily as measured by FFO, occupancy, home sales, you name it.

    I'm taking some profits, but for those without it, I think it deserves its BUY rating.

Add your comment.

DocumentId: 1236246, ~/Articles/ArticleHandler.aspx, 7/26/2014 9:22:23 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...

TREND TRACKER: Get Rich When the Web Goes Dark

It's time to say "goodbye" to your Internet! One bleeding-edge technology is about to put the World Wide Web to bed. And if you act right away, it could make you wildly rich. Experts are calling it the single largest business opportunity in the history of capitalism… The Economist is calling it "transformative"... but you'll probably just call it "how I made my millions." Big money is already on the move. Don't be too late to the party – find out the 1 stock to own when the Web goes dark.


Advertisement