Wednesday'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 headlines are focusing on alternative energy stocks.

Feb 19, 2014 at 9:03PM

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 headlines are focusing on alternative energy stocks, as Capstone Turbine (NASDAQ:CPST) scores an upgrade, but Waste Management (NYSE:WM) and SolarCity (NASDAQ:SCTY) are both downgraded

Huh? Why Waste Management?Capstone Turbine does small-scale natural gas turbines, and SolarCity leases solar power installations to consumers -- both obvious alt-energy plays. But if you're wondering how Waste Management got into this column, remember this: Through its initiatives to capture methane gas (for fuel) from landfill waste, Waste Management has become nearly as big a producer of "alternative energy" as the entire solar power industry, combined.

This is a clever business niche that Waste Management has created for itself, no doubt. But it's apparently not as profitable as investors might hope. Yesterday, the company reported earning $0.56 per share in its fiscal fourth quarter, $0.04 below analyst estimates. Revenue also came in light. Worst of all, Waste Management warned that this year's earnings will almost certainly fall short of the consensus estimate of $2.41 per share.

Responding to the news, Wunderlich Securities downgraded Waste Management shares to hold today, noting that the stock was up strongly in 2013 but has little chance of rising further this year: Waste to energy "and Recycling remain margin and FCF drags," Wunderlich warned, "they actually underperformed expectations in 2013 and are not expected to be better than flat y/y in 2014." Absent a divestiture of the company's green energy business, the analyst sees little reason to own the stock -- and I agree. 

Priced north of 16 times free cash flow (and even more expensive when valued on generally accepted accounting principles earnings), but expected to grow these earnings at only about 3% annually over the next five years, Waste Management stock is clearly overpriced. Wunderlich is right to downgrade it. The only thing I'm "wundering" is if it shouldn't perhaps downgrade the stock even farther.

Sun setting on SolarCity
Speaking of egregiously overpriced stocks, consider Elon Musk's SolarCity. Baird just downgraded this one on fears that "the current valuation prices in much of its growth/execution." Quoted on StreetInsider.com this morning, Baird worried that "execution through 2017 is largely priced into the stock," suggesting investors today could be waiting years before they see a profit on their investment. But I wonder if any profit will ever result.

Unprofitable in four out of the past five years, SolarCity has a "perfect" record of never generating positive free cash flow. The company burned through $389 million last year, along with a further $679 million over just the past nine months. Analysts who follow the solar panel lessor see no hope for a GAAP profit as far out as 2016.

In short, the stock embodies the very concept of "speculation." It might go up, certainly -- so long as "greater fools" can be found to buy it. But without any profit to back up its stock price, SolarCity is more likely to go down in flames.

Put a cap in itBatting cleanup in today's list of green energy strikeouts is Capstone Turbine. This morning, FBR Capital turned positive on the stock, assigning an outperform rating and asserting "that natural gas as a fuel is at an inflection point and that Capstone, with its reliable and versatile microturbine product, is well positioned in this market."

I'd argue that it's only well-positioned to lose investors money.

Perpetually unprofitable and forever burning cash, Capstone Turbine hasn't booked a profitable or free-cash-flow positive year, well, ever. (and it's been around since 1997). Granted, FBR is convinced that a surge of demand for Capstone's microturbines will turn this company into a "profitable and cash flow-positive business ... over the next 12–24 months." But to be painfully blunt -- if Capstone hasn't figured out a way to turn a profit in 17 years, I doubt that an extra year or two is going to make much of a difference.

Based on the company's track record, I'm fairly certain of what rating this stock deserves -- and outperform is not it.

Rich Smith has no position in any stocks mentioned, and doesn't always agree with his fellow Fools. Case(s) in point: The Motley Fool both recommends, and owns, SolarCity and Waste Management. 

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