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The broad-based S&P 500 may be having one heck of a time trying to eclipse its previous all-time high, but that hasn't stopped a breathtaking 54% of companies listed in the Motley Fool CAPS Screener from trading 10% or less from a new 52-week high. For skeptics like me, that's an opportunity to see whether companies have earned their current valuations.
Keep in mind that some companies deserve their current valuations. Shares of health care conglomerate Johnson & Johnson (NYSE: JNJ ) , for instance, are valued at an all-time high in anticipation of receiving a favorable ruling from the Food and Drug Administration on Invokana later this week for Type 2 diabetes. In trials, this SGLT2 inhibitor mopped the floor with Merck's Januvia and could represent the next wave of Type 2 diabetes treatments.
Still, other companies might deserve a kick in the pants. Here's a look at three companies that could be worth selling.
So nice, I'll bet against it twice!
The first time I bet against independent energy producer Dynegy (NYSE: DYN ) , it went bankrupt. Having emerged once again in October, I'm going to advocate pulling the trigger again on a company that simply hasn't learned.
Dynegy shares have rallied significantly since it debuted on the NYSE in October -- especially after announcing a deal to purchase five coal plants from Ameren Energy Resources, a subsidiary of Ameren (NYSE: AEE ) . Dynegy's Illinois subsidiary will acquire the additional 4,119 megawatts in production from Ameren which should result in $60 million in annual synergies, according to Dynegy. However, the deal isn't being financed with cash or stock, but with Dynegy assuming $825 million in Ameren's debt... and debt had nothing to do with Dynegy's first bankruptcy (I wish you could see me rolling my eyes over here).
The stark reality is that Dynegy forecast a loss in 2013 of up to $332 million in mid-January as it struggles under weak electricity pricing and to refinance its debt. Normally when a company emerges from Chapter 11 bankruptcy, it's in decent shape. But, a closer examination of Dynegy would show that the Ameren deal would push its net debt position from approximately $1 billion to greater than $1.8 billion. Even with $592 million in liquidity, shareholders should be sweating bullets. With few growth prospects and plenty of losses on the horizon, Dynegy is still the horror of an investment it was when I chose it to underperform in 2011.
You're at a 10; I need you at a two
Guidewire Software (NYSE: GWRE ) , a developer of software for the property and casualty insurance industry, certainly has reason to celebrate after four consecutive quarterly beat downs of the Street's estimates. Its most recent quarter was the most impressive, with the company earnings $0.21 per share on $72.2 million in revenue when the Street called for just $0.02 in EPS on $64.3 million. Management attributed the solid results to up-selling customers, as well as early payments from customers.
While I feel optimism is deserved, investors are currently expecting the world from Guidewire when they should, in reality, be dialing back their expectations. To begin with, management clued investors into the reason for the beat: up-selling and prepayments. I'd speculate that those prepayments are unlikely to be there next quarter and were more of an end-of-the-year type event. That will drastically reduce quarter-over-quarter comparisons.
Valuation is another big sticking point. Even if Guidewire were to grow by 23% to 26% in 2013 as its management forecast, it would need to earn about $0.78 in EPS just to maintain a PEG ratio of 2 (an aggressive growth level for high-tech companies). But, Guidewire's estimates aren't anywhere near $0.78. In fact, looking ahead to 2014, it's only expected to net $0.48 for a forward P/E of 80!
Simply put, competition in this space is increasing and revenue is only going to slowly taper off. While Guidewire is rocking now, its results are going to be very difficult to compare to previous years, perhaps beginning as early as the second half of 2013. I'd suggest bringing your expectations down a few notches on Guidewire.
Don't tread on me
There are quite a few sectors taking full advantage of consumers' push toward a healthier lifestyle. Starbucks, for instance, has been a revolutionary force in promoting local and organic products in its stores to encourage healthier eating habits and to cater to requests for more nutritious options.
You'd think this trend would play perfectly into Nautilus' (NYSE: NLS ) hands, since it makes various fitness products like treadmills and ellipticals, but I feel that Nautlius' product line presents plenty of unforeseen risk.
For starters, Nautilus sells its products directly to the consumer. If Nautilus was working with brand-name gyms (which I also don't particularly care for), I could potentially support this valuation as the gym business is highly cyclical and big replacement orders could be boosting current sales. However, targeting only consumers via television and Internet advertising leaves Nautilus incredibly exposed to falling sales from higher payroll taxation and unforeseen economic downturns.
Another factor that turns me off of Nautilus is the aforementioned cyclicality of the business. Loyalty among consumers to gyms and for fitness products is minimal at best, and those products and memberships tend to be the first thing to go if consumers' personal finances take a turn for the worse.
This week's theme is all about keeping your emotions and expectations in check. With Dynegy projecting a large annual loss, Nautilus susceptible to rapidly changing consumer spending habits, and Guidewire facing some stiff comparable-sale comparisons, all three companies could afford to be knocked down off their pedestal.
Is bigger really better?
Involved in everything from baby powder to biotech, Johnson & Johnson's critics are convinced that the company is spread way too thin. If you want to know if J&J is nothing but a bloated corporate whale -- or a well-diversified giant that's perfect for your portfolio -- check out The Fool's new premium report outlining the Johnson & Johnson story in terms that any investor can understand. Claim your copy by clicking here now.