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." The pinstripe-and-wingtip crowd is entitled to its opinions, but we have some pretty sharp stock pickers down here on Main Street, too. And we're not always impressed with how Wall Street does its job.

So perhaps we shouldn't be giving virtual ink to "news" of analyst upgrades and downgrades. And we wouldn't -- if that were all we were doing. Fortunately, in "This Just In," we don't simply tell you what the analysts said. We also show you whether they know what they're talking about.

Today, we're going to look at three high-profile tech moves on Wall Street: multiple price-target increases at VMware (NYSE: VMW  ) , followed by ... I guess you should call it singular price cuts at Qualcomm (Nasdaq: QCOM  ) and Ilumina (Nasdaq: ILMN  ) . Let's dig into the news and find out what's going on.

VM everywhere
We begin with the big news of the day: Investors were understandably nervous when VMware CFO Mark Peek announced last week that he was jumping ship to take a job with cloud-computing venture Workday instead. Yesterday, VMware laid all fears to rest with an earnings report that beat on both top and bottom lines and showed strong profit-margin improvement everywhere in between.

Seeing Q1 sales leap 25%, with profits growing more than twice as fast, Wall Street wasted no time tweaking its price targets upward. Indeed, it almost looked like a race to see who could invent the highest number, fastest: "$120?" wondered Wunderlich? "Would you believe $125?" opined Oppenheimer. Or perhaps the right answer is $127 (Needham), $130 (FBR), or even $135 a share (ISI Group). Whoever you ask, all agree on one thing for certain: VMware's shares are going straight up.

There's just one problem with these bullish prognoses: Trees grow straight up, too, but not a one of them reaches the sky. Neither, I fear, will VMware hit the sky-high price points that Wall Street's now predicting. Even valued on its beefy free cash flows, VMware shares already cost 26 times earnings -- versus a long-term growth rate of 24.5% annualized. That's a fair price, sure. But it's not cheap.

My advice: If you want to own VMware cheaply, buy its parent company, EMC (NYSE: EMC  ) instead. At less than 12 times FCF, it's the smart way to shop (for VMware).

Qualcomm-ing down                     
Well, it's official. Qualcomm produced a bumper crop of earnings yesterday, but with guidance too weak to support the share price, the stock was a-tumbling down today. (Don't say I didn't warn you).

Analysts at FBR reacted to the news by clipping 10% off their target price for the stock and dropping Qualcomm to $70 ... but still recommending it as a "buy." Is it, though? Is Qualcomm worth buying today for the chance to earn a 10% profit a year from now?

I don't think so. Consider: Based on the latest numbers, Qualcomm today costs about 19 times both GAAP earnings and free cash flow alike. That's not crazy-expensive, true. But against consensus estimates of 15.5% long-term growth, it's not a bargain, either. FBR was wrong to recommend this overpriced stock going into earnings. It's wrong again to double down after Qualcomm has already disappointed us once. (But hey -- points for consistency, right?)

Illumina: brilliant, or blindingly stupid?
If you think that's bad, though, then get a load of what's happening at Illumina. The company's board rejected a second buyout offer from Roche last month, perhaps angling for a sweetened price. (Can you blame them? I mean, Human Genome Sciences (Nasdaq: HGSI  ) just got offered a 81% premium ... and it's not even profitable!)

Unfortunately for Illumina, rather than up its bid again, Roche announced yesterday that it's no longer interested in buying the company at all. The news has already promoted Cantor Fitzgerald (which wasn't a huge fan of the stock to begin with) to cut its target price by 22%. Post-merger-collapse, Cantor now says it fears Illumina will slide down to $40 a share within a year's time -- and that's 10% less than Illumina shares fetch today.

Cantor could be right. After all, at 71 times trailing earnings, Illumina does look a mite expensive. On the other hand, though, I don't see a compelling reason to sell the stock just because Cantor has lost faith in it. Here's why: Down 33% over the past year, Illumina shares today cost only about 19 times trailing free cash flow. (The company generates multiples more actual cash profit, you see, than it's allowed to report as "net income" under GAAP.) That's not necessarily a bargain relative to Illumina's projected 16% long-term growth rate -- but it's not wildly overpriced, either.

In fact, I actually hope that Cantor's right about Illumina. Forty dollars a share would be just about cheap enough to entice me to buy this stock.

Of course, not everyone wants to wait a year for a chance to buy a stock on the cheap. If you're looking to put money into the market right now, read the Fool's new report, and discover which company we just named The Motley Fool's Top Stock for 2012.

Whose advice should you take -- Rich's, or that of "professional" analysts such as ISI Group, FBR, and Cantor Fitzgerald? Check out Rich's track record on Motley Fool CAPS, and compare it with theirs. Decide for yourself whom to believe.

The Motley Fool owns shares of EMC and Qualcomm, while Motley Fool newsletter services have recommended buying shares of VMware and Illumina, but Fool contributor Rich Smith owns no shares of, nor is he short, any company mentioned above. He does, however, have public recommendations available on more than 50 separate companies. Check them out on Motley Fool CAPS, where he goes by the handle TMFDitty -- and is currently ranked No. 360 out of more than 180,000 CAPS members. The Motley Fool has a disclosure policy.

We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.


Read/Post Comments (0) | Recommend This Article (2)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

Be the first one to comment on this article.

DocumentId: 1866445, ~/Articles/ArticleHandler.aspx, 4/17/2014 6:52:28 AM

Report This Comment

Use this area to report a comment that you believe is in violation of the community guidelines. Our team will review the entry and take any appropriate action.

Sending report...


Advertisement