This Just In: 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." 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 ...
As markets continue to froth, Canuck investment banker RBC Capital Markets is rolling with the punches, and rolling out yet another upgrade this morning. Yesterday, we discussed the firm's picks 'n' pans in the hi-tech medical industry, but today, RBC's set its sights on something a bit more mundane: Telephones.

Telephone companies, to be specific. RBC chose this morning to upgrade shares of Verizon (NYSE:VZ) to "outperform," arguing that "the potential for increased forward estimates based on operating and/or interest savings related to the Alltel transaction" bode well for the firm. Meanwhile, despite a price that's fallen only 23% over the past year (versus the broader market's 45% plunge), the stock's now cheap enough that its "free cash flow yield and growth rate" finally entice. Does RBC know whereof it speaks?

Let's go to the tape
As usual in this column, we start with the basics: A review of RBC's track record, as established over the more than two years we've been watching this banker's work here on CAPS. What we find is that RBC continues to rank near the top 10% of investors we track. Yet it does so not through making uncannily accurate recommendations -- but rather in spite of getting roughly as many picks right as wrong. Within the telecom sector, too, we find RBC goofing about as often as it guesses right: 

Great guess or goof?
Will today's recommendation of Verizon help RBC to retain its rank in the stratosphere of global great investors, or pull it back toward mediocrity, as Verizon "reverts to the mean" performance of the rest of the S&P 500? Personally, I fear the latter. 

Here's why: RBC bases its buy thesis in large part on Verizon's "free cash flow yield." Very well. So let's take a look at that: At first glance, Verizon does look right tasty, with a price-to-free cash flow ratio of less than 9 (which translates to about an 11% free cash "yield" on the firm's market cap.) But that valuation ignores Verizon's hefty slug of debt, which amounts to better than 60% of the firm's own market cap. After subtracting its cash horde from that debt, tack that total on to the market cap in order to fix the firm's enterprise value. You'll find Verizon priced at 13 times the value of the business. Not at all attractive for a firm that most analysts expect to grow at just 5.5% per year over the next half decade.

That said, I'll grant that Verizon may be a relative value when compared to its key rivals in the U.S. AT&T (NYSE:T), for example, is growing slower (4.4%) but its enterprise value is priced higher (16 times free cash flow.) Sprint Nextel (NYSE:S) -- priced about the same as Verizon, but like AT&T, is expected to grow a bit slower than Verizon. So were these your only choices as a telecom investor, I think I'd have to give grudging approval to RBC's conclusion that Verizon (while still no bargain) is at least the best of the bunch.

But here's the thing: Those are not your only choices.

Look east, young investor
This world's gone global, Fool, and investing with it. If you're willing to move just a little east of your comfort zone -- say, Eastern Europe, I think you'll find at least a handful of telecom investment options that will reward you better than Verizon.

Russian telecoms VimpelCom (NYSE:VIP) and Mobile TeleSystems (NYSE:MBT) offer two such possibilities. VimpelCom sells for an enterprise value that is only eight times free cash flow, and it is expected to grow at a 6% pace over the next five years. On a strict valuation basis, therefore, it's already a heckuvalot cheaper than its U.S. analogs. Plus, as an added bonus, VimpelCom pays you a whopping 8.6% dividend for owning it -- a full 200 basis points better than Verizon.

Don't care about dividends? Then consider the region's best growth play: Mobile TeleSystems. While this one pays no dividend, its valuation just cannot be beat. The firm sells for an enterprise value that is a paltry five times free cash flow, yet the expectation is for the firm to grow at 10% -- better than any other telco named above.

Foolish takeaway
Listen, Fools. I've got nothing against Verizon. It's a fine shop. It's cheaper than many domestic rivals. And heck, I wouldn't mind pocketing its 6.4% dividend myself if I needed the income. But the fact is that there are better bargains available.

In short, if you want to get the best bang for your investing buck, think locally, but invest globally.