Every day, Wall Street analysts upgrade some stocks, downgrade others, and "initiate coverage" on a few more. But do these analysts even know what they're talking about? Today, we're taking one high-profile Wall Street pick and putting it under the microscope...
Don't look now, but Tiffany & Co. (TIF) stock just received its second upgrade in as many weeks.
As I reported earlier this month, Tiffany won an upgrade from KeyBanc on Dec. 1, in which the banker praised Tiffany's Q3 earnings report and predicted the company will enjoy steadily rising profit margins over the next few years. Today, it's Citigroup coming in with an upgrade of its own, and a prediction that even if everything goes wrong for Tiffany stock, investors could still profit.
Here are three things you need to know about that.
1. Tiffany, two weeks ago
Late last month, Tiffany reported 3% sales gains over last year's Q3, with particular strength shown in the Asia-Pacific market (up 15%), and more modest improvements in the U.S. (1% increase) and Europe (5% increase). Profits grew 5% year over year to $0.80 per share, beating expectations.
KeyBanc was quick to praise the results at the time, citing the company's "recent strength in silver jewelry" sales and "signs of improvement in higher-end jewelry" as well. Combined, KeyBanc saw these trends resulting in profit margins marching steadily higher by 50-100 basis points annually over the next five years. As a result, the analyst assigned Tiffany an overweight rating and a $115 price target.
2. Tiffany, today
Now Citigroup is adding to the enthusiasm with an upgrade of its own. According to the megabanker, luxury goods businesses are likely to grow their sales by about 6% industrywide over the next few years, with overall industry profits growing at about 10%.
Those are just the average rates, though. Citi thinks we will see the luxury goods industry bifurcate, with "laggards" growing slower and "leaders" growing faster than the average -- and Citi thinks Tiffany & Co. will be one of the leaders.
Adding to the margin improvements that KeyBanc previously noted, Citi, in a note covered on StreetInsider.com (subscription required) this morning, argues that corporate tax reform in the U.S. will help Tiffany to retain more of the profits it earns, while currency tailwinds will help the company to earn more profit, period. Given (a) the relatively faster sales growth that Tiffany is enjoying in Asia and Europe, and (b) the fact that the U.S. dollar has been weakening versus the euro and the Chinese yuan (for example), this projection seems reasonable.
3. Tiffany, tomorrow
Granted, exchange rates are funny things -- up one day and down the next. Given this, the same weak-dollar trends that Citi sees as benefiting Tiffany sales today could reverse and become a headwind going forward. But even if that happens, and even if it Tiffany's stock price starts to get hurt as a result, this wouldn't necessarily be a bad thing for small investors, says Citi.
Fact is, there's been some off again, on again talk about the possibility that a big European luxury brand company like LVMH might be interested in acquiring Tiffany -- at the right price. Any weakness in Tiffany's stock price that results from a reversal in foreign exchange rates could be just the thing to create that right price and spur a bid to acquire Tiffany. As Citi explains, the potential that an acquirer might swoop in if Tiffany's shares fall too low thus creates a "backstop" that will, in fact, prevent Tiffany stock from going too low.
Accordingly, Citi assigned Tiffany a buy rating and a $115 price target -- identical to the one KeyBanc set.
And the most important thing: Valuing Tiffany stock
As for today, here's how things currently stand:
Priced at 25.6 times trailing earnings, and 23.2 times free cash flow, Tiffany stock is not cheap. The 10% profit growth that Citi projects industrywide is not fast enough to justify buying Tiffany stock at today's prices. For Tiffany stock to be worth buying, it must grow faster. In short, Tiffany must prove itself to be one of those "leaders" that Citi mentioned, and not a laggard -- nor even run in the middle of the pack.
How likely is that to happen?
Well, according to most analysts on Wall Street, it's not very likely. Data from S&P Global Market Intelligence show most analysts who follow Tiffany stock see the company growing its profits at only 11% annually over the next five years -- better than Citi's projected average for the industry, but not by much. Even factoring in Tiffany's 2.1% dividend yield, that results in a total expected return of barely 13% on Tiffany stock -- and nearly a 2.0 PEG ratio on 25.6 times earnings.
That seems to me too high a price to justify a buy rating today. My advice: If some European luxury conglomerate wants to buy Tiffany, let 'em. But individual investors should wait for better prices.