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 track the long-term performance of Wall Street's best and brightest -- and its worst and sorriest, too.

And speaking of the best ...
After an anemic performance last week, markets are turning green again across the globe -- but certain investors are happier to see them turning brown. This morning, shares of Starbucks (NASDAQ:SBUX) are trading higher on the back of a surprise upgrade from Jefferies & Co.

Arguing that cost cuts and improving same-store sales will boost profit at the Seattle brewmeister this year, Jefferies upped its earnings prediction by $0.23, and bumped up its price target on the stock by $3. Investors jumped on the upgrade as an excuse to bid the shares 3% higher. But was that wise?

Let's go to the tape
I mean, it's not as if Jefferies has a great record on its past picks in this sector. Perhaps best known as a software outfit, Jefferies profited handsomely from prescient picks like Microsoft (NASDAQ:MSFT) and Oracle (NASDAQ:ORCL) -- each of which has beat the market by more than 25 points since Jefferies recommended them last year.

But this banker hasn't been nearly so fortunate in the Hotels, Restaurants and Leisure sector. Barely 30% of its picks in this industry outperform the market -- and some of them have done far worse:

But it's not all fat and gristle for Jefferies. The farther you move from the gaming side of this business, and the closer to pure-play eateries, the better the analyst looks. For example, Jefferies' recommendation of Panera last year beat the market handily, while its Buffalo Wild Wings (NASDAQ:BWLD) pick turned into a clean double.

And I have to tell you, folks, the more I look at Starbucks, the more I like it -- and the more I think Jefferies may be right about this one.

Surprised?
You should be. For the longest time, I've been one of the biggest bears out there on Starbucks, castigating the company for its high stock price, criticizing the dribble of free cash flow it puts out -- a metric that should have been surging. But Jefferies' upgrade highlights a major change of pace among the baristas: Free cash flow is on the rise.

More stubbornly ursine investors may argue that with the stock trading for 41 times earnings, and growth projected to average 16% per year over the next five years, Starbucks is priced far beyond perfection. That's a mistake, because if you look a little deeper, I think we're beginning to see the effects of Starbucks' cost-cutting and growth curtailment take hold.

Even as earnings continued to lag at Starbucks, free cash flow for the last 12 months came in a torrent, surging to $943 million. That's more than twice reported "net income" under GAAP, and sufficient to push this stock's price-to-free cash flow ratio down to the 17-level -- not at all unreasonable given the growth rate.

Foolish takeaway
When you consider further than Starbucks has more than $100 million more cash than debt on its books today, the firm's enterprise value-to-free cash flow ratio makes the stock look like even more of a bargain.

Long story short, this company has the financial wherewithal to withstand what's left of the economic crisis. It's pulled back from plans to grow regardless of profitability, and in doing so, has drawn back the veil on how truly cash-profitable its business can be. Result: I agree with Jefferies.