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 worst ...
Why would anyone invest in a paint maker in the middle of a housing downturn?

That's basically the question that independent stock advisor Longbow Research asked -- and answered -- yesterday when downgrading Motley Fool Stock Advisor recommendation Sherwin-Williams (NYSE:SHW) to "sell." According to Longbow: "As the existing backlog of commercial construction projects are completed, demand from the contractor customer base is likely to decline further." Meanwhile:

• Shelf-space gains at Wal-Mart (NYSE:WMT) won't make up for overall declining paint sales at the store.
• Demand for paint is drying up in Latin America, as well as at home.
• A strengthening U.S. dollar means that the sales Sherwin-Williams does make abroad translate into ever fewer dollar-denominated profits.

All of which leads Longbow to conclude that there's no reason to own Sherwin-Williams today. I respectfully disagree.

Why?
First and foremost -- and no offense to Longbow -- but these guys just aren't very good at their job. Over the two-plus years that we've been tracking the analyst, Longbow has proven itself incapable of guessing right on its recommendations even half the time. To the contrary, we've got Longbow pegged for an abysmal accuracy rate of 44% on its picks, each of which, on average, underperforms the market by almost two full percentage points.

Focusing on a few of its higher-profile picks in the construction sector, Longbow's record takes on an even sicklier shade of green. Er ... I mean red:

^ PPG Industries is the only construction-related stock on this list for which Longbow retains an active rating. All other picks refer to recommendations that have since been put out of their misery.

This is not a record to be envied. So you'll understand when I take a skeptical view of Longbow's advice that we sell Sherwin-Williams today. These guys didn't do so great calling the housing and commercial construction downturn in years past; I've little faith they're any more prescient about how far off a recovery is.

Meanwhile, what I do have faith in is that Sherwin-Williams is one cheap-looking stock. Beginning with a simple PEG test for value, the stock's 11.7 price-to-earnings ratio looks reasonable in light of consensus estimates of 12.2% long-term growth. But the truth is that Sherwin-Williams is much, much cheaper than that. Dig down to the company's cash flow statement, and you'll find it paints a bright red bull's-eye on this stock.

Last year, you see, Sherwin-Williams generated some $759 million in free cash flow. Relative to what it reported under GAAP standards, that means this company is generating nearly 60% more cash than the "accounting profits" that show up on its income statement. Thus, its stock trades for the low, low price of just 7.2 times free cash flow today -- not bad for a 12% grower, eh?

Foolish takeaway
Listen, Fools. I know Sherwin-Williams isn't the sexiest stock on the planet – the activity of "watching paint dry" earned its boring reputation for a reason. This being the case, it may take some time for investors to realize the value inherent in Sherwin-Williams' depressed stock price.