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...

You may not have heard -- the news was kind of drowned out by news of PlayStation Vue's cancellation -- but the company that makes the PlayStation, Sony (NYSE:SONY), reported its fiscal Q2 earnings yesterday.

It was kind of a big deal.  

Sales for the quarter declined 3% to about $19.6 billion (2,122,259 million yen). But net income grew 7% to $1.8 billion (200,167 million yen), beating analyst estimates soundly -- and the profits were even more impressive the closer you look.

Tumbling dice read buy and sell

Image source: Getty Images.

Digging into the details

Even if sales dropped in the quarter, operating costs fell faster -- down more than 5% year over year. As a result, Sony was able to boost the operating profit margin on the sales it did make by more than 210 basis points to 13.1%. Operating profits, accordingly, grew significantly year over year -- up 16% and according to Reuters, the "strongest-ever result for a second quarter" at Sony.  

Despite a 28% decline in profits from Sony's gaming division (Marvel's Spider-Man boosted gaming profits last year, but not this, and sales of PlayStation 4 consoles are waning as the system approaches the end of its shelf life), the company reported a big increase in sensor division profits -- up 59% year over year, and the best profit that unit has ever recorded.

Granted, the reversal of gains on certain equity interests in other companies Sony held, adverse foreign exchange rates, and higher taxes trimmed the rise in operating profit when determining net profit. But when all was said and done, profit per diluted share of Sony still ended up growing 11.4% year over year to 148.59 yen.

What Wall Street said about that

As Reuters noted, this result was better than Wall Street had anticipated -- and apparently better than one analyst in particular had expected: UBS.

This morning, UBS upgraded the stock from neutral to buy with a price target of 8,000 Japanese yen (about $74). Relative to today's price under $61 a share, that works out to about a 21% profit for new buyers that UBS is predicting.  

So what are the chances of Sony growing into that valuation?

Examining the forecast

Encouraged by its own success, Sony raised its guidance for the rest of this fiscal year, which ends on March 31, 2020.

Management notes that sales are likely to continue inching downwards as the year progresses -- about $76.7 billion (8.4 trillion yen), according to a write-up on TheFly.com. The gaming division will be one drag on sales, and "network services" another. Regardless, electronics, movies, sensors, and music sales are all doing better than expected. And with profit margin on sales now improved, management has raised its guidance for earnings this year.

Operating income is now forecast to be $7.8 billion (840 billion yen) and net income could be as much as $5 billion (540 billion yen).  

What it means for investors

Assuming Sony is right about those numbers, then at $71.5 billion in current market capitalization, the stock is trading for about 14.3 times current-year earnings. If it can keep those earnings growing at something like the 16% rate that it achieved in Q2, then I'd say that's a pretty attractive valuation -- and UBS is right to recommend the stock.

When you consider further that right now, analyst estimates quoted on Yahoo! Finance have Wall Street looking for Sony to earn no more than $3.81 per share this year, and that $5 billion divided by Sony's 1.23 billion shares outstanding works out to $4.06 per share, it looks to me like Sony is on course to beat analyst estimates soundly this year -- and the stock could go up regardless whether UBS says so or not.  

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.