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...
Opening for trading on Dec. 28, 2018, at $46 per share, Dell rocketed to near $70 through May, giving investors a 52% profit in less than five months. But recent worries over the company's debt load (taken on long before the IPO, when it bought EMC three years ago, but still growing in the years since) and a slowdown in IT infrastructure spending among corporate clients have since sunk its shares -- which fell as much as 27.5% from their May highs to their low point earlier this week.
Not everyone is scared of Dell stock, however. In fact, this morning, one analyst said you should buy it.
Is it finally time to buy Dell again?
Deutsche Bank was the brave soul that endorsed Dell today, and in fact, it's the second such analyst to do so this month. (Evercore ISI initiated coverage of Dell with an outperform rating and a $75 price target on June 5, according to StreetInsider.com.) With a $62 price target on its buy rating, Deutsche is actually a bit less optimistic about Dell than Evercore.
So why, exactly, does Deutsche like Dell?
This analyst has only four theses -- but they're important
The German banker says it has "4 main points" to make in Dell stock's favor.
First, Deutsche Bank addresses the risks: "Rising investor fears of slowing IT infrastructure spending are further magnified by Dell's high debt levels." And yet, the analyst says that the company can "consistently deleverage its balance sheet through a wide array of cash-generating actions," while at the same time potentially refinancing its debt (currently $55.1 billion) in order to save on interest costs -- freeing up even more cash with which to pay down debt.
Second, it would also help Dell pay down debt if it were generating a bit more profit. Presently, S&P Global Market Intelligence data put the company's operating profit margin at a lowly 1.1% (and its net margin is negative). But Dell is targeting a 12% operating profit margin, and Deutsche has "confidence" it can get there as the tech specialist sells more higher-margin storage and VMware services to its clients.
If the analyst is right about that, then Dell should eventually be able to turn its losses into profits. Indeed, Deutsche posits profits of as much as $11 per share by 2022.
Third, based on this assumption, Dell stock is currently trading at a mere five times projected profits three years from now. Yet according to Wall Street data, most analysts are looking for no more than $4.93 per share in GAAP earnings from the company in 2022 -- less than half of what the German banker seems to believe is possible. Deutsche calls these Wall Street estimates "conservative," which may be the understatement of the year.
Fourth and finally, the analyst argues that "the recent pullback in Dell's share price" offers investors a chance to buy into the stock before Wall Street realizes its mistake.
What it means to investors
Thus, Dell's recent fall in share price appears to offer investors a proverbial second bite at the apple -- or so thinks Deutsche. But is the banker right about that?
First and foremost, let's point out the obvious risk to investing in Dell today. It may turn profitable in 2022. (Indeed, most analysts agree the company could start earning GAAP profits as early as next year.) But if Deutsche is wrong about the amount of that profit, well, $4.93 in GAAP earnings by 2022 would mean that Dell stock is trading for closer to 11 times earnings (three years away), not the five times earnings valuation that Deutsche suggests. In other words, it could be Deutsche, and not everybody else on Wall Street, that is off by a factor of two in its valuation.
As for today, Dell still isn't profitable yet, and valued on the $0.76 per share that analysts think it's likely to earn next year, the stock is currently trading for a whopping 70 times forward earnings.
That's not exactly cheap.
Dell shares get even more expensive when you factor debt into the picture. Add the company's $55.1 billion debt load to its $38.8 billion market cap, credit it for $9 billion in cash on the balance sheet, and Dell's total enterprise value comes to a massive $84.9 billion -- and its forward (debt-adjusted) P/E ratio explodes upwards, to nearly 290 times FY 2020 earnings.
Deutsche may not be afraid of these numbers. But personally, I find that valuation downright scary -- and it's the No. 1 reason I won't be buying Dell Technologies stock today.