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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." 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...
On a miserable day for the markets Friday, at least some investors got good news, when Sprint Nextel (NYSE: S  ) shareholders received word of an upgrade from JPMorgan. Citing a series of factors working in Sprint's favor, the international megabanker upgraded Sprint shares from neutral to overweight.

Why? According to JP, Sprint is making good progress with its launch of LTE, fourth-generation cellular capability, and plans to expand to six more cities by "mid-2012." (Isn't it already mid-2012)? The company's also pushed through a $10 monthly fee increase on its all-you-can-eat data plan for smartphones. (That happened last year.) Based on these projections, JP sees Sprint booking about $35 billion in revenue this year, and earning just over $3.9 billion in earnings before interest, taxes, depreciation, and amortization, or EBITDA.

Here be dragons
But that's just the thing. What worries me about Sprint isn't its earnings... BITDA. It's the "BITDA" part itself that concerns me. Look past JP's happy talk, and the facts surrounding Sprint look quite a bit grimmer than JP suggests. For example, Sprint labors under a massive debt load of $14.7 billion (net of cash), or nearly twice its own market cap. This adds up to more than $1 billion in interest charges Sprint must pay, even with today’s ultra-low interest rate environment.

Depreciation and amortization charges are even more significant (more than $4 billion a year). Combined, "BITDA" costs are keeping Sprint from earning any net profits today. Indeed, most analysts will tell you they foresee little chance of Sprint breaking even before 2015. Meanwhile, JP itself admits that ARPU, or average revenue per user, is low at Sprint, even after the hike in data plan rates.

Is Sprint as bad as it looks, or as good as JPMorgan makes it sound?
I don't mean to sound all doomy and gloomy about Sprint. The company's not all bad. For example, while net profits have gone missing (along with the dividend), Sprint does generate free cash flow (albeit not at the levels of years past). Despite continued cash infusions to the black-hole money pit that is Sprint partner Clearwire (Nasdaq: CLWR  ) , Sprint's own free cash flow over the past 12 months still amounted to $481 million.

The problem, though, is that once you factor Sprint's massive debt load into the picture, this results in an enterprise-value-to-free-cash-flow ratio of more than 46 times on Sprint stock. By way of comparison, rival AT&T (NYSE: T  ) costs only about 18 times free cash flow, while Verizon (NYSE: VZ  ) sells for the comparatively modest sum of 14 times FCF.

More happy talk from JP
Speaking of which, the final reason JPMorgan believes Sprint will surprise us is because "a modest glut of facilities-based carriers and an untold number of off-brand virtual operators in the market" will give way to consolidation in the industry. If JP's right, this would reduce competition among the remaining players, and give greater pricing power to all of them -- Sprint included.

To which my only response can be: "Is JPMorgan serious? Do these guys even read the papers?" I mean, the U.S. government just finished stomping all over the last big telco consolidation move, when it quashed AT&T's attempt to merge with T-Mobile. And considering how big the major players -- Verizon, AT&T, T-Mobile, and Sprint -- are today, it's hard to see feds allowing any other big merger ideas among the survivors. Meanwhile, mergers with smaller players seem unlikely to move the needle much for anybody.

On the contrary, those smaller players appear to be ramping up the competition, as we saw last week with Leap Wireless' (Nasdaq: LEAP  ) decision to market a prepaid iPhone. This bodes ill for Sprint, which bet big on the iPhone last year, and now faces a small-fry trying to undercut it on price and convenience.

Foolish final thought
Long story short, with too much debt and too high a share price, no earnings and weak free cash flow, Sprint has its work cut out for it if it's to prove JPMorgan right.

Could it succeed? Could JPMorgan be right to recommend the stock? I honestly don't think so -- partly because the numbers just don't work for me, and partly because JPMorgan itself has a record of only getting it right on its telecom stock picks about 33% of the time. (To see how we came to this conclusion, click here to see a detailed rundown of JPMorgan's record.)

Instead of buying Sprint, I think you're better off investing in another stock positioned to capitalize on the next trillion-dollar revolution in mobile. In this special report, which you can download for free today, we outline a hidden component in mobile devices that is being found in an increasing number of mobile devices. The company behind it has already grown to be a leader in one market it serves, and now looks to become a dominant force in mobile. Click here to grab your copy today!

Fool contributor Rich Smith does not own shares of, or short, any company named above. You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 334 out of more than 180,000 members. The Motley Fool owns shares of Apple and JPMorgan Chase. Motley Fool newsletter services have recommended buying shares of Apple, as well as creating a bull call spread position in Apple. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Read/Post Comments (3) | Recommend This Article (3)

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 June 04, 2012, at 11:14 AM, motleyinfo7 wrote:

    I am going to tell you what's up, so this article is correct in some aspects and gravely wrong in other.

    First he is wrong on that the depreciation and amortization matter, those are cash flow neutral so that does not matter at all to the bottom line, but he is dead right on the interest part.

    Sprint is a debt loaded pirate ship with no compass, what that means is they are on a catch 20/20 they can throw overboard the crew so that they have less debt but then there will be no one to row the boat, hence Sprint is a strong sale over here, a fire sale it may, it also is weak from very bad management and now their prepaid units are under fire by Carlos Slim's Simple Mobile outfit which is geared to cause terror for any competitor that stands in its way.

  • Report this Comment On June 04, 2012, at 12:47 PM, Sprintmgr wrote:

    This was well written with a lot of facts. Sprint fallen from 70 dollars to the what it is today.

    The price of a share of Sprint is LESS than it was back in the 1987 IPO.

    Sprint has lost money the past 10 years.

    Sprint has lost stock value the past 10 years.

    Sprint has a broken business model.

    Sprint will be gone by 2013.

    I have an inside view of what is going on and it is not good.

  • Report this Comment On June 04, 2012, at 2:04 PM, MrSinnister wrote:

    Why not do an in-depth research report on both why Discovery Labs isn't moving and why now is the perfect time to both invest in Biotechs and DSCO? They have been major M&A targets the past Spring, and I don't see that stopping in the near future.

    Received FDA approval for 1 of its drugs, SURFAXIN, and its nebulizer Affectair on March 5th of this year. PPS Spiked at 5.39 until a week later, a secondary offering of 16 million shares @2.80 was submitted, killing the momentum from the FDA approval and leaving it in the doldrums where it sits today, lagging behind companies with only ONE drug and deeply in the red like Seattle Genetics SGEN, currently trading at over 19. DSCO is slated to have it's distribution pipeline for its infant RDS (Respiratory Distress Syndrome) drug out by the end of the year, with EU approval next year. Trading at currently 2.52, this stock could be the steal of the year, and can actually beat Bank of America (before the crises) as comeback stock or Stock of the Year. The volume is currently dismal as longs have rooted into their positions and currently not selling. Check it out and do your own due diligence.

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