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." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.

And speaking of the worst ...
How the flighty have fallen. Once upon a time, TriQuint Semiconductor (Nasdaq: TQNT) was on top of the world, a major player building the innards of smartphones from Apple to HTC to Samsung. But ever since rumors began flying that it was not a major player in Apple's latest iPhone iteration -- and even after those rumors were debunked -- TriQuint shares have slumped. As the broader Dow Jones Industrial Average (INDEX: ^DJI) basically tread water this year, TriQuint shares have lost 65% of their value.

Ouch!
Ouch, indeed. Yet fear not, intrepid investor. According to one analyst at least, the worst is over and TriQuint will soon regain its mojo. Declaring the stock has finally become "too cheap to ignore," veteran semiconductor analyst DA Davidson announced Friday that it was upgrading the shares to "buy."

Why? According to Davidson, much of TriQuint's poor performance owes to its problems unloading excess inventory and getting just the right "product mix" out there to maximize profits. TriQuint may be in the iPhone 4S, but it's made little headway getting its power amplifying chips into phones running Google's Android operating system. Fixing these problems -- pricing its chips to capture market share, ramping production of the "right" chips, and making other necessary tweaks to the business -- could depress gross profit margins to as low as 30% "for several quarters," even as sales growth remains anemic, warns Davidson.

But according to this analyst, this bad news is actually good news... when you consider the price. You see, investors today aren't pricing the possibility of a turnaround into TriQuint. But Davidson believes there's every possibility TriQuint will win "multi-mode power amplifier" business from Qualcomm (Nasdaq: QCOM) in the near future. The analyst also sees TriQuint making inroads into the market for phones working on GSM technology, which AT&T and most the world's wireless networks favor. It also positions TriQuint well to win business as Microsoft (Nasdaq: MSFT) and Nokia (NYSE: NOK) begin introducing their new Windows phones.

But do all these possibilities add up to a good "buy" thesis for TriQuint?

Let's go to the tape
Based on Davidson's record in semiconductors, I'd have to say the chances are iffy. Although it's true that Davidson puts a lot of time into covering the semi-space (its second largest, by number of stocks covered), so far it's had little luck picking actual winners here.

Indeed, over the five years we've been tracking Davidson's performance in the Semiconductors and Semiconductor Equipment industry, the analyst has gotten twice as many picks wrong as it's gotten right, "boasting" a record of only 33% accuracy on its recommendations. Davidson was wrong about TriQuint the last time it recommended the stock -- and wrong about rivals Skyworks Solutions (Nasdaq: SWKS), Anadigics, and RF Micro Devices (Nasdaq: RFMD) as well:

Source: Motley Fool CAPS.

Not exactly a record to inspire confidence -- but could Davidson be right about TriQuint this time?

TriQuint by the numbers
After all, the analyst makes some good points about the stock's seeming undervaluation. At $4 and change per share, TriQuint today costs just 8.2 times trailing earnings and only eight times Davidson's estimate for full-year 2011 net profits.

That certainly sounds cheap. And yet, with profits growth in doubt, Davidson elects to base its valuation largely on book value, arguing TriQuint should fetch about 1.5 times current book value -- a valuation similar to what Skyworks receives, and higher than Anadigics' 0.8 P/B ratio, but lower than RF Micro's ratio of 2.3.

There's just one problem with that analysis: Both Skyworks and RF Micro generate substantial free cash flow from their businesses, and in my opinion, they therefore deserve valuations higher than what TriQuint currently receives. TriQuint, in contrast, is a net burner of cash. (And has been so for some time.)

Foolish takeaway
To me, this suggests that TriQuint has more in common with Anadigics (which is close to breakeven on FCF), than it has with either RF Micro or Skyworks. It suggests further that TriQuint is appropriately priced at today's 0.7x P/BV ratio. Unless and until TriQuint gets its free cash flowing, I see no reason why it would deserve the 1.5-times multiple that Davidson wants to give it ... and no chance TriQuint will hit Davidson's $8-per-share target price, either.

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