This series, brought to you by Yahoo! Finance, looks at which upgrades and downgrades make sense and which ones investors should act on. Today, our top trio of newsmakers includes newly buy-rated Gap (NYSE: GPS ) , now-downgraded Suntech Power (NYSE: STP ) , and an initiation at "buy" for Seattle Genetics (Nasdaq: SGEN ) . Let's dive right in.
The Gap crushed earnings last week, growing revenues, expanding profit margins, and delivering earnings 40% higher than what it collected a year ago -- and higher than the Wall Street consensus. This morning, it received its reward in the form of an upgrade to "buy," courtesy of the friendly analysts at Argus. Alongside a price target of $42, the new rating urges investors to pile into The Gap, in hopes of reaping 19% profits within a year.
Is this good advice?
In a word: No. Gap shares have more than doubled in price over the past year, so we know most of the "easy money" here has already been made. As for the extra 19% that Argus says remains on the table, well, that may be only a pipe dream. At 20 times earnings, Gap looks more than fully priced for the 10% long-term annual growth rate Wall Street ascribes the stock. And the 1.4% dividend? While nice to have, it's not enough to bridge the gap in valuation on this one.
Turn out the lights on Suntech
Retail isn't the only sector Argus covers, and this morning the analyst delivered us a two-fer. Simultaneous with the upgrade to Gap, Argus downgraded Chinese solar powerhouse Suntech to sell, and this time, Argus is right on the money.
Suntech isn't just an unprofitable producer of solar panels, you see. It isn't just mired in debt ($1.7 billion net of cash, and counting). It's also burning so much cash that the company could quite literally disappear into insolvency any day now. The company has only generated positive free cash flow once in the last five years (2009). Last year, management withdrew another $45 million from its ever-dwindling bank account, and promptly tossed it into the furnace.
For today, the company still has a few hundred million left in the bank to play with, and can string out its fortunes a while longer. But the hard truth is this: Unless Suntech learns how to generate consistent free cash flow from its business, it's really only a matter of time before it goes entirely out of business.
Cashless in Seattle
Speaking of serial cash-destroyers, we come to our third and final Wall Street stock pick of the day: Seattle Genetics. This morning, Cantor Fitzgerald initiated coverage of the stock with a "buy," but it's hard to see why.
Sure, on the one hand Seattle Genetics delivered earnings no worse than expected this month. Yes, many investors see a bright future for its stable of monoclonal antibody products, aimed at curing cancer in novel ways, and even the FDA's on board, approving Seattle Genetics' Adcetris last summer. On the other hand(s):
- Its no-worse-than-expected "earnings" were actually a $0.15-per-share loss.
- Adcetris sales fell short of expectations (and this is Seattle Genetics' only product on the market at present).
- Profits are nonexistent (and none are expected next year, either).
- Seattle Genetics' $106 million rate of annual cash burn means that if the company can't get new products to market soon, or ramp up the rate of Adcetris sales sooner, it could run out of cash in about three years. In which case, Seattle Genetics would need to issue new shares to raise cash, diluting current shareholders in the process.
Cantor Fitzgerald sees all of this adding up to a $30 stock price on this $26 stock within 12 months. Anything's possible. But you need to know that this future is far from certain.
Fool contributor Rich Smith holds no position in any company mentioned.