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This Just In: More 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.

Cracks in the CorningWare
Oops. They did it again. For the second time in as many weeks, a major Wall Street firm is downgrading Corning (NYSE: GLW  ) , as RBC Capital Markets joined Goldman Sachs in the bear pit this week.

Last week, as you may recall, the big news was Goldman's downgrade of the LCD glass-making giant. According to the analysts, any improvements that were to be expected out of Corning at its LCD glass division have already happened: "Corning beat 3Q and positively preannounced 4Q on higher LCD volumes and raised its dividend by 20%." On the one hand, that's a lot of good news all in one sentence.

On the other hand, though, after so much good news already, it's hard to see what else Corning might have to tell us to improve on what it's already said. Or as Goldman put it last week: The positive "catalysts are now largely exhausted." Now, all that remains to look forward to are "downside to estimates near-term on an LCD inventory correction in 1Q and FX headwinds."

I can hardly wait
I know. If that's all that Santa is going to put in Corning shareholders' stockings this year, I think I'd prefer coal myself. And believe it or not, it gets worse. While it's true that the 43.1% gross margin Corning earned on revenue last quarter was an improvement over Q2, 43% isn't really all that good a number in the grander scheme of things. Fact is, Corning hasn't had a year in which gross margins were as bad as 43% since 2009 -- and that's the good news.

The bad news is that if you look very closely at Corning, even the profit margins Corning is earning today don't hold up to close examination. To the contrary, the $1.9 billion that Corning ultimately earned over the past year, after those gross profit margins worked their way down to the bottom line, overstates true free cash flow at the company by about 79%. Put another way, for every $1 that Corning claims it has "earned" under GAAP accounting standards, the company actually generates a mere $0.56 in real cash profits.

Or more simply still: Corning is only really about half as profitable as it appears to be.

And now, the head fake
Are you depressed enough yet? Then I suppose now's the time to share the good news: "Half as profitable as it appears to be" is actually plenty profitable enough to make Corning a buy. Here's why:

There's a lot of pessimism going 'round in the world of tech these days. Apple's (NASDAQ: AAPL  ) said to be selling fewer iPhone 5s than it hoped to, and that's probably bad news for Corning's Gorilla Glass product. (Coincidentally, I don't think it's bad enough news to justify pricing Apple at a mere 11.5 times earnings, but that's a story for another day). Nokia (NYSE: NOK  ) , which also uses the Gorilla Glass, is selling a lot of Lumias... but it's still unprofitable based on trailing results, and priced at an unrealistic 452 times forward earnings to boot.

Meanwhile, running up the scale from small-LCD-screen smartphones to big-screen LCD and LED TVs, TV-selling superstore Best Buy is down 42% over the past year, priced as if it's going out of business -- despite the fact that it's actually expected to earn so much money next year as to give the stock a forward P/E ratio of less than 7.

And Corning? Here's the thing: Corning may not be as cheap as its 9.8 P/E ratio makes it look. But with $1.1 billion in annual free cash flow, and an enterprise value of only 15.6, it's still pretty darn cheap at an enterprise-value-to-free-cash-flow ratio of just 14.2.

Compare that to the 12% long-term growth rate analysts expect Corning to produce, and factor in a not-insignificant dividend yield of 2.9%, and I actually think the valuation on Corning is looking pretty good right now. So while Goldman and RBC may see fit to downgrade it, I actually go the other way. I think you should give some serious consideration to buying the stock. Because while Corning may not be as cheap as it looks... it's still cheap enough.

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Rich Smith

I like things that go "boom." Sonic or otherwise, that means I tend to gravitate towards defense and aerospace stocks. But to tell the truth, over the course of a dozen years writing for The Motley Fool, I have covered -- and continue to cover -- everything from retailers to consumer goods stocks, and from tech to banks to insurers as well. Follow me on Twitter or Facebook for the most important developments in defense & aerospace news, and other great stories besides.

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