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 feature a pair of upgrades as Wall Street analysts line up to "buy" both smartphone parts maker TriQuint Semiconductor (NASDAQ: TQNT  ) and sportswear specialist Under Armour (NYSE: UA  ) . But the news isn't all good. Before checking out the upgrades, let's take a quick look at why Citigroup is advising investors to...

Bail out of Coach
Fashion handbags maker Coach (NYSE: COH  ) wowed Wall Street yesterday with a third-quarter earnings report featuring $1.1 billion in sales made and profits of $0.68 per share -- $0.07 more than analysts had predicted. Unfortunately, CEO Victor Luis then went on to pair this good news with comments about "sharply lower traffic levels" and "weakness in our North American women's bag and accessories business" outweighing "strong growth in men's, footwear, and robust sales gains in Asian markets and Europe," and in China in particular.

These caveats, plus the fact that despite beating estimates, profits were still down 19% year over year, prompted analysts at Citigroup to pull their buy rating from Coach today, downgrading the shares to neutral. And as much as I like Coach the company, the analyst is probably right about the stock.

Priced at roughly 12.6 times its $986 million in trailing earnings, Coach shares look a bit expensive based on analyst estimates of sub-8% long-term earnings growth rates. And the longer Coach's profits shrink before hitting bottom and starting to grow again, the more expensive the stock is going to get.

Granted, it's possible that Coach is cheaper than it looks. If free cash flow, for example, exceeded GAAP net income in Q1 (as it did by a significant margin throughout 2013), then Coach might actually be cheap enough to own, Citi's downgrade notwithstanding. Unfortunately, for reasons known only to itself, Coach declined to reveal its cash flow data in yesterday's earnings release, providing investors with copies of its unaudited income statements and balance sheets -- but no cash flow statement.

Lacking this crucial data, there's simply no reason to give Coach the benefit of the doubt here. The stock looks expensive based on GAAP earnings, and until Coach shows us something to rebut that assumption, it's safest to assume the stock is just as pricey when valued on free cash flow as well.

Is Janney overoptimistic about Under Armour?
Turning now to happier news, while remaining in the retail vein, our next rating is for Under Armour, which reported strong earnings last week and which was favored with an upgrade to buy at Janney Montgomery Scott this morning.

Quoted on StreetInsider.com today, Janney notes that: "at 39x our FY15 EPS estimate, [Under Armour] shares are trading at a 15% discount to its 2-year average." Yet according to the analyst, Under Armour's prospects have never been brighter: "Domestic apparel growth," "accelerating footwear" sales, and international expansion all promise to give UA "a superior growth profile relative to peers."

Janney sees UA earning as much as $1.20 per share next year -- 56% better than the $0.77 in trailing earnings that give the stock its present P/E ratio of 64. And yet, even if the analyst is right about Under Armour doing so well next year, $1.20 in earnings would still only walk this stock back to a 41 P/E -- not appreciably cheaper than the 42 times forward earnings at which most analysts value the stock.

Granted, that would be a fine price to pay if Under Armour were capable of growing earnings at 56% year in and year out. But few companies are capable of such feats, and even the optimistic folks who follow Under Armour doubt the company can grow much faster than 24% annually over the long term.

I don't think that's fast enough growth to justify a P/E of 64, 42, or even Janney's estimated 41. And I don't think it's a good reason to buy Under Armour.

Time to try TriQuint?
Last in line today comes TriQuint Semiconductor, a stock I've had my eye on for some years now, in hopes that promised free cash flow will ultimately emerge from this business as the smartphone market matures. Analysts at D.A. Davidson seem to think that time has come, upgrading TriQuint shares to buy this morning in the wake of last week's earnings announcement.  

The question is: Why?

After all, while Wall Street appears to have been impressed, TriQuint's earnings numbers really weren't all that great last week. Revenues declined 4% year over year, and despite growing gross margins, the company still managed to lose $0.12 per share on the bottom line. Free cash flow was negative last year, and much like Coach above, TriQuint declined to reveal its cash flow figures for this most recent quarter -- probably not because it was embarrassed by how shockingly good they would have made the company look.

Long story short, while management promised investors that it will deliver "both revenue and earnings guidance... well above current analyst estimates" in the current fiscal second quarter, it's hard to see the stock's valuation as attractive given the total lack of either trailing earnings or free cash flow to support it. The stock remains speculative in the extreme, and Davidson is probably wrong to recommend 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 recommends and owns shares of Coach and Under Armour. It also owns shares of TriQuint Semiconductor.

 


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