This Just In: Upgrades and Downgrades

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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." So you might think we'd be the last people to give virtual ink to such "news." And we would be -- if that were all we were doing.

But in "This Just In," we don't simply tell you what the analysts said. We'll also show you whether they know what they're talking about. To help, we've enlisted Motley Fool CAPS, our tool for rating stocks and analysts alike. With CAPS, we'll be tracking the long-term performance of Wall Street's best and brightest -- and its worst and sorriest, too.

And speaking of the best ...
Shares of Sun Microsystems (Nasdaq: JAVA) perked right up yesterday (get it? Java? Perked?) on news that Wachovia had upgraded the stock to "outperform."

At least Wachovia called it an upgrade. If you read the analyst's actual comments, though, you might not be so sure. "The uncertainty in the current environment ... makes it especially difficult to predict what Sun's near-term results may be," Wachovia said. And there's more: "Sun has done little over the last few years to reposition itself for longer-term organic growth, despite claims in recent quarters that reigniting growth is a priority." Wachovia also expressed concern that once Hewlett-Packard (NYSE: HPQ) concludes its purchase of EDS (NYSE: EDS), the latter just might decide to stop buying Sun equipment for use at its data centers and switch to HP instead. (Gee, you think?)

Now, I'm no fancy-pants Wall Street analyst, but it seems to me that comments like those outweigh Wachovia's half-hearted musings that the stock trades at "reasonable valuation multiples" and that the global IT market "has not deteriorated drastically." I mean, geez Louise, guys. Talk about damning with faint praise!

But OK, I'll play along. Show us what you've got, Wachovia. If your stats prove that you know what you're doing, I'll be glad to overlook the above schizo-speak.

Let's go to the tape
Unfortunately, however, Wachovia's stats do not clear up the picture much. At last count, Wachovia was getting fewer than half of its picks right as we track them in CAPS:

Company	Wachovia Said:	CAPS Says (5 Max):	Wachovia's Pick Beating (Lagging) S&P by:
VMware (NYSE: VMW)	Outperform	***	46 points
Seagate Tech (NYSE: STX)	Outperform	*****	(9 points)
EMC (NYSE: EMC)	Outperform	*****	(16 points)
Dell (Nasdaq: DELL)	Outperform	**	(19 points)

Thanks to that VMware pick and a few well-timed natural-resources recommendations, Wachovia has managed to outperform more than 70% of the players on CAPS -- but it does so in spite of, not because of, its ability to outperform a coin flip for accuracy. So forgive my skepticism about any picks this analyst makes in the computer sector. With that in mind, let's examine Sun from a valuation perspective.

Despite consensus estimates that Sun will grow no faster than 8% per year over the next half-decade, the stock carries a price-to-earnings ratio more than twice as big -- 17.5. It's only when you look a little closer that you see the free cash flow of the business. Sun appears roughly 70% more profitable on this basis than it appears under GAAP.

Foolish takeaway
But even though Wachovia may not necessarily be insane to endorse Sun at this valuation, neither is it correct to do so. The stock still sells for slightly more than nine times trailing free cash flow, and although I can see the sense in holding an 8% grower priced at that multiple, I see no reason to go out and buy it at this price.

So sorry, Sun. Wachovia may love you, but if you want my vote, you're going to have to come out again tomorrow -- and bring a better price with you.