Monday's Top Upgrades (and Downgrades)

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 Cablevision (NYSE: CVC  ) , said to be a buyout target. It also includes two companies getting panned on the Street: banker BB&T (NYSE: BBT  ) and train operator Kansas City Southern (NYSE: KSU  ) .

Good news first
Let's start with the happy news, before breaking into tears. This morning, analysts at Canaccord Genuity gave a big vote of confidence to cable operator Cablevision.

According to Canaccord, Cablevision's financials are "improving" as the operator is set to raise rates in fiscal 2013. Free cash flow is on the upswing, and at $294 million, already surpasses the amount of GAAP "net earnings" the company reported over the past 12 months. Finally, Canaccord argues that eventually, "it's likely that the Dolan family attempts again ... to take the company private." Presumably at a premium.

And that will be great -- if it happens. But what if it doesn't? If you buy the stock, and the Dolans do not then promptly ride to your rescue and buy it off of you at a premium, then you're stuck owning a stock that costs 23 times earnings, but is growing profits at less than 10% per year. A stock that, absent a buyout, has lagged the market significantly over the past year. At today's high price, it could continue trailing the market for quite a few years yet to come.

Bad news and good news for BB&T
In happier news, BB&T reported in-line earnings of $0.70 per share last week. That wasn't good enough for analyst Sterne Agee, however, which today downgraded the stock to neutral. Meanwhile, though, another analyst -- Citigroup this time -- focused on the fact that BB&T had beat estimates for revenues, and up-graded the shares to buy.

Which analyst is right? Well, let's see here. At 11.6 times earnings, BB&T actually doesn't look all that expensive today. The growth rate is projected to average 10% per year over the next five years, and BB&T pays a tidy dividend yield of 2.7%, more than making up for the slightly slower-than-we'd-like-to-see growth rate.

Best of all, even Sterne Agee, which doesn't love the stock, thinks it's worth $32 a share. Seeing as BB&T currently costs only $29 and change, this suggests even pessimistic prognosticators see every likelihood the shares will return 8.5% in capital gains, and another 2.7% in dividends. Not bad for a year's work.

Turnabout is fair play
Coincidentally, at the same time its own stock was being furiously debated on Wall Street, BB&T was making a few stock predictions of its own this morning. Chief among them: A modestly bearish call on railroad operator Kansas City Southern.

On the one hand, BB&T's decision to cut its rating on KC makes a lot of sense. At 23 times earnings, the stock sells for a significant premium to even its projected 16% long-term earnings growth rate. On the other hand, though, BB&T arguably didn't go far enough in only downgrading to hold.

The main problem with KC, you see, is that while its P/E ratio looks too high for projected growth, the company actually doesn't generate anywhere near as much free cash flow as its GAAP "earnings" would suggest. Over the past year, for example, KC's GAAP earnings were reported to be $381 million. Meanwhile, real free cash flow amounted to a mere $123 million -- less than a third of reported income.

Result: Valued on free cash flow, the company sells for almost precisely 70 times annual cash production. If that doesn't justify a full-fledged sell recommendation, I don't know what does.

Fool contributor Rich Smith has no positions in the stocks mentioned above.


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